[Senate Report 105-174]
[From the U.S. Government Publishing Office]
Calendar No. 341
105th Congress Report
SENATE
2d Session 105-174
_______________________________________________________________________
INTERNAL REVENUE SERVICE RESTRUCTURING AND REFORM ACT OF 1998
_______
April 22, 1998.--Ordered to be printed
_______________________________________________________________________
Mr. Roth, from the Committee on Finance, submitted the following
R E P O R T
[To accompany H.R. 2676]
The Committee on Finance, to which was referred the bill
(H.R. 2676) to amend the Internal Revenue Code of 1986 to
restructure and reform the Internal Revenue Service, and for
other purposes, having considered the same, reports favorably
thereon with an amendment and recommends that the bill as
amended do pass.
CONTENTS
Page
I. Legislative Background............................................7
II. Explanation of the Bill...........................................8
Title I. Executive Branch Governance and Management of
the IRS.............................................. 8
A. IRS Restructuring and Creation of IRS Oversight
Board............................................ 8
1. IRS restructuring and mission (secs. 1001-
1002)........................................ 8
2. Establishment and duties of IRS Oversight
Board (sec. 1101)............................ 10
B. Appointment and Duties of IRS Commissioner and
Chief Counsel and Other Personnel................ 17
1. IRS Commissioner and other personnel (secs.
1102(a) and 1104)............................ 17
2. IRS Chief Counsel (sec. 1102(a)).............. 18
C. Structure and Funding of the Employee Plans and
Exempt Organizations Division (``EP/EO'') (sec.
1101)............................................ 19
D. Taxpayer Advocate (secs. 1102 (a), (c), and (d)).. 21
E. Treasury Office of Inspector General; IRS Office
of the Chief Inspector (secs. 1102(a) and 1103).. 25
F. Prohibition on Executive Branch Influence Over
Taxpayer Audits (sec. 1105)...................... 33
G. IRS Personnel Flexibilities (secs. 1201-1205)..... 34
Title II. Electronic Filing.............................. 39
A. Electronic Filing of Tax and Information Returns
(sec. 2001)...................................... 39
B. Due Date for Certain Information Returns (sec.
2002)............................................ 40
C. Paperless Electronic Filing (sec. 2003)........... 41
D. Return-Free Tax System (sec. 2004)................ 42
E. Access to Account Information (sec. 2005)......... 42
Title III. Taxpayer Protection and Rights................ 43
A. Burden of Proof (sec. 3001)....................... 43
B. Proceedings by Taxpayers.......................... 47
1. Expansion of authority to award costs and
certain fees (sec. 3101)..................... 47
2. Civil damages for collection actions (sec.
3102)........................................ 49
3. Increase in size of cases permitted on small
case calendar (sec. 3103).................... 49
4. Expansion of Tax Court jurisdiction to
responsible person penalties (sec. 3104)..... 50
5. Actions for refund with respect to certain
estates which have elected the installment
method of payment (sec. 3105)................ 51
6. Tax Court jurisdiction to review an adverse
IRS determination of a bond issue's tax-
exempt status (sec. 3106).................... 52
7. Civil action for release of erroneous lien
(sec. 3107).................................. 54
C. Relief for Innocent Spouses and for Taxpayers
Unable to Manage Their Financial Affairs Due to
Disabilities..................................... 55
1. Spousal election to limit joint and several
liability on joint return (sec. 3201)........ 55
2. Suspension of statute of limitations on filing
refund claims during periods of disability
(sec. 3202).................................. 60
D. Provisions Relating to Interest and Penalties..... 61
1. Elimination of interest differential on
overlapping periods of interest on income tax
overpayments and underpayments (sec. 3301)... 61
2. Increase in overpayment rate payable to
taxpayers other than corporations (sec. 3302) 62
3. Elimination of penalty on individual's failure
to pay during period of installment agreement
(sec. 3303).................................. 63
4. Mitigation of failure to deposit penalty (sec.
3304)........................................ 64
5. Suspension of interest and penalties where
Secretary fails to contact individual
taxpayer (sec. 3305)......................... 64
6. Procedural requirements for imposition of
penalties and additions to tax (sec. 3306)... 65
7. Personal delivery of notice of penalty under
section 6672 (sec. 3307)..................... 65
8. Notice of interest charges (sec. 3308)........ 66
E. Protections for Taxpayers Subject to Audit or
Collection Activities............................ 67
a. Due Process................................... 67
i. Due process in IRS collection actions (sec.
3401)........................................ 67
b. Examination Activities........................ 69
i. Uniform application of confidentiality to
taxpayer communications with federally
authorized practitioners (sec. 3411)......... 69
ii. Limitation on financial status audit
techniques (sec. 3412)....................... 71
iii. Software trade secrets protection (sec.
3413)........................................ 71
iv. Threat of audit prohibited to coerce tip
report alternative commitment agreements
(sec. 3414).................................. 75
v. Taxpayers allowed motion to quash all third-
party summones (sec. 3415)................... 75
vi. Service of summones to third-party
recordkeepers permitted by mail (sec. 3416).. 76
vii. Prohibition on IRS contact of third parties
without taxpayer pre-notification (sec. 3417) 77
c. Collection Activities......................... 78
i. Approval process for liens, levies, or
seizures (sec. 3421)......................... 78
ii. Modification to certain levy exemption
amounts (sec. 3431).......................... 78
iii. Release of levy upon agreement that amount
is uncollectible (sec. 3432)................. 79
iv. Levy prohibited during pendency of refund
proceedings (sec. 3433)...................... 79
v. Approval required for jeopardy and termination
assessments and jeopardy levies (sec. 3434).. 80
vi. Increase in amount of certain property on
which lien not valid (sec. 3435)............. 81
vii. Waiver of early withdrawal tax for IRS
levies on employer-sponsored retirement plans
or IRAs (sec. 3436).......................... 82
viii. Prohibition of sales of seized property at
less than minimum bid (sec. 3441)............ 83
ix. Accounting of sales of seized property (sec.
3442)........................................ 84
x. Uniform asset disposal mechanism (sec. 3443).. 85
xi. Codification of IRS administrative procedures
for seizure of taxpayer's property (sec.
3444)........................................ 85
xii. Procedures for seizure of residences and
businesses (sec. 3445)....................... 86
d. Provisions Relating to Examination and
Collection Activities........................ 87
i. Procedures relating to extensions of statute
of limitations by agreement (sec. 3461)...... 87
ii. Offers-in-compromise (sec. 3462)............. 88
iii. Notice of deficiency to specify deadlines
for filing Tax Court petition (sec. 3463).... 90
iv. Refund or credit of overpayments before final
determination (sec. 3464).................... 91
v. IRS procedures relating to appeal of
examinations and collections (sec. 3465)..... 91
vi. Application of certain fair debt collection
practices (sec. 3466)........................ 93
vii. Guaranteed availability of installment
agreements (sec. 3467)....................... 93
F. Disclosures to Taxpayers.......................... 94
1. Explanation of joint and several liability
(sec. 3501).................................. 94
2. Explanation of taxpayers' rights in interviews
with the IRS (sec. 3502)..................... 95
3. Disclosure of criteria for examination
selection (sec. 3503)........................ 96
4. Explanation of appeals and collection process
(sec. 3504).................................. 96
5. Explanation of reason for refund denial (sec.
3505)........................................ 97
6. Statements to taxpayers with installment
agreements (sec. 3506)....................... 97
7. Notification of change in tax matters partner
(sec. 3507).................................. 98
G. Low-Income Taxpayer Clinics (sec. 3601)........... 99
H. Other Provisions.................................. 99
1. Cataloging complaints (sec. 3701)............. 99
2. Archive of records of Internal Revenue Service
(sec. 3702).................................. 100
3. Payment of taxes (sec. 3703).................. 102
4. Clarification of authority of Secretary
relating to the making of elections (sec.
3704)........................................ 103
5. IRS employee contacts (sec. 3705)............. 103
6. Use of pseudonyms by IRS employees (sec. 3706) 104
7. Conference of right in the National Office of
IRS (sec. 3707).............................. 104
8. Illegal tax protestor designations (sec. 3708) 105
9. Provision of confidential information to
Congress by whistleblowers (sec. 3709)....... 105
10. Listing of local IRS telephone numbers and
addresses (sec. 3710)........................ 106
11. Identification of return preparers (sec.
3711)........................................ 106
12. Offset of past-due, legally enforceable State
income tax obligations against overpayments
(sec. 3712).................................. 107
13. Moratorium regarding regulations under Notice
98 11 (sec. 3713(a)(1))...................... 107
14. Sense of the Senate regarding Notices 98 5
and 98 11 (sec. 371 (a)(2) and (b)).......... 110
I. Studies........................................... 114
1. Administration of penalties and interest (sec.
3801)........................................ 114
2. Confidentiality of tax return information
(sec. 3802).................................. 115
Title IV. Congressional Accountability for the IRS....... 116
A. Century Date Change (sec. 4001)................... 116
B. Tax Law Complexity Analysis (sec. 4002)........... 116
Title V. Revenue Offsets................................. 118
A. Employer Deduction for Vacation and Severance Pay
(sec. 5001)...................................... 118
B. Modify Foreign Tax Credit Carryover Rules (sec.
5002)............................................ 120
C. Clarification and Expansion of Mathematical Error
Procedures (sec. 5003)........................... 121
D. Freeze Grandfathered Status of Stapled REITs (sec.
5004)............................................ 122
E. Make Certain Trade Receivables Ineligible for
Mark-to-Market Treatment (sec. 5005)............. 130
F. Add Vaccines Against Rotavirus Gastroenteritis to
List of Taxable Vaccines (sec. 5006)............. 131
Title VI. Tax Technical Corrections...................... 132
Technical Corrections to the Taxpayer Relief Act of
1997............................................. 132
A. Amendments to Title I of the 1997 Act Relating to
the Child Credit................................. 132
1. Stacking rules for the child credit under the
limitations based on tax liability (sec.
6003(a))..................................... 132
2. Treatment of a portion of the child credit as
a supplemental child credit (sec. 6003(b))... 133
B. Amendments to Title II of the 1997 Act Relating to
Education Incentives............................. 134
1. Clarifications to HOPE and Lifetime Learning
tax credits (sec. 6004(a))................... 134
2. Educations IRAs (sec. 6004(d))................ 135
3. Treatment of cancellation of certain student
loans (sec. 6004(f))......................... 138
4. Deduction on student loan interest (sec.
6004(b))..................................... 138
5. Enhanced deduction for corporate contributions
of computer technology and equipment (sec.
6004(e))..................................... 139
6. Qualified State tuition programs (sec.
6004(e))..................................... 140
7. Qualified zone academy bonds (sec. 6004(g))... 141
C. Amendments to Title III of the 1997 Act Relating
to Savings Incentives............................ 142
1. Conversions of IRAs into Roth IRAs (sec.
6005(b))..................................... 142
2. Penalty-free distributions from IRAs for
education expenses and purchase of first
homes (sec. 6005(c))......................... 145
3. Limits based on modified adjusted gross income
(sec. 6005(b))............................... 146
4. Contribution limit to Roth IRAs (sec. 6005(b)) 146
5. Contribution limitations for active
participation in an IRA (sec. 6005(a))....... 147
D. Amendments to Title III of the 1997 Act Relating
to Capital Gains................................. 148
1. Individual capital gain rate reductions (sec.
6005(d))..................................... 148
2. Rollover of gain from sale of qualified stock
(sec. 6005(f))............................... 150
3. Exclusion of gain on the sale of a principal
residence owned and used less than two years
(sec. 6005(e) (1) and (2))................... 150
4. Effective date of the exclusion of gain on the
sale of a principal residence (sec.
6005(e)(3)).................................. 151
E. Amendments to Title IV of the 1997 Act Relating to
Alternative Minimum Tax.......................... 152
1. Election to use AMT depreciation for regular
tax purposes (sec. 6006(b)).................. 152
2. Clarification of small business exemption
(sec. 6006(a))............................... 152
F. Amendments to Title V of the 1997 Act Relating to
Estate and Gift Taxes............................ 154
1. Clarification of phaseout range for 5 percent
surtax to phase out benefits of the unified
credit and graduated rates (sec. 6007(a)(1)). 154
2. Clarification of effective date for indexing
of generation-skipping exemption (sec.
6007(a)(2)).................................. 154
3. Conversion of qualified family-owned business
exclusion into a deduction (sec.
6007(b)(1)(A))............................... 155
4. Coordination between unified credit and
family-owned business provision (sec.
6007(b)(1)(B) and 6007(b)(4))................ 155
5. Clarification of businesses eligible for
family-owned business provision (sec.
6007(b)(2)).................................. 157
6. Clarification of ``trade or business''
requirement for family-owned business
provision (sec. 6007(b)(5)).................. 157
7. Clarification that interests eligible for
family-owned business provision must be
passed to a qualified heir (sec.
6007(b)(1)(B))............................... 158
8. Other modifications to the qualified family-
owned business provision (secs. 6007(b)(3),
6007(b)(6), and 6007(b)(7)).................. 158
9. Clarification of interest on installment
payment of estate tax on holding companies
(sec. 6007(c))............................... 159
10. Clarification on declaratory judgment
jurisdiction of U.S. Tax Court regarding
installment payment of estate tax (sec.
6007(d))..................................... 159
11. Clarification of rules governing revaluation
of gifts (sec. 6007(e))...................... 160
12. Clarification with respect to post-mortem
conservation easements (sec. 6007(g))........ 160
G. Amendments to Title VII of the 1997 Act Relating
to Incentives for the District of Columbia (sec.
6008)............................................ 161
H. Amendments to Title IX of the 1997 Act Relating to
Miscellaneous Provisions......................... 164
1. Clarification of effect on certain transfers
to Highway Trust Fund (sec. 6009(a))......... 164
2. Clarification of Mass Transit Account portions
of highway motor fuels taxes (sec. 6009(b)).. 165
3. Clarification of qualification for reduced
rate of tax on certain hard ciders (sec.
6009(c))..................................... 165
4. Combined employment tax reporting
demonstration project (sec. 6009(f))......... 166
5. Election for 1987 partnerships to continue
exception from treatment of publicly traded
partnerships as corporations (sec. 6009(d)).. 167
6. Depreciation limitations for electric vehicles
(sec. 6009(e))............................... 168
7. Modification of operation of elective
carryback of existing net operating losses of
the National Railroad Passenger Corporation
(``Amtrak'') (sec. 6009(g)).................. 169
I. Amendments to Title X of the 1997 Act Relating to
Revenue-Raising Provisions....................... 170
1. Exemption from constructive sales rules for
certain debt positions (sec. 6010(a)(1))..... 170
2. Definition of forward contract under
constructive sales rules (sec. 6010(a)(2))... 170
3. Treatment of mark-to-market gains of electing
traders (sec. 6010(a)(3)).................... 171
4. Special effective date for constructive sale
rules (sec. 6010(a)(4))...................... 171
5. Gain recognition for certain extraordinary
dividends (sec. 6010(b))..................... 172
6. Treatment of certain corporate distributions
(sec. 6010(c))............................... 173
7. Certain preferred stock treated as ``boot'--
statute of limitations (sec. 6010(e)(2))..... 177
8. Certain preferred stock treated as ``boot'--
treatment of transferor (sec. 6010(e)(1)).... 177
9. Application of section 304 to certain
international transactions (sec. 6010(d)).... 178
10. Establish IRS continuous levy and improve
debt collection (sec. 6010(f))............... 179
11. Clarification regarding aviation gasoline
excise tax (sec. 6010(g)).................... 180
12. Clarification of requirement that registered
fuel terminals offer dyed fuel (sec. 6010(h)) 180
13. Clarification of treatment of prepaid
telephone cards (sec. 6010(i))............... 181
14. Modify UBIT rules applicable to second-tier
subsidiaries (sec. 6010(j)).................. 182
15. Application of foreign tax credit holding
period rule to RICs (sec. 6010(k))........... 182
16. Clarification of provision expanding the
limitations on deductibility of premiums and
interest with respect to life insurance,
endowment and annuity contracts (sec.
6010(o))..................................... 183
17. Clarification of allocation of basis of
properties distributed by a partnership (sec.
6010(m))..................................... 185
18. Clarification to the definition of modified
adjusted gross income for purposes of the
earned income credit phaseout (sec. 6010(p)). 187
J. Amendments to Title XI of the 1997 Act Relating to
Foreign Provisions............................... 188
1. Application of attribution rules under PFIC
provisions (sec. 6011(b)(2))................. 188
2. Treatment of PFIC option holders (sec.
6011(b)(1)).................................. 189
3. Application of PFIC mark-to-market rules to
RICs (sec. 6011(c)(3))....................... 190
4. Interaction between the PFIC provisions and
other mark-to-market rules (sec. 6011(c)(2)). 191
K. Amendments to Title XII of the 1997 Act Relating
to Simplification Provisions..................... 192
1. Travel expenses of Federal employees
participating in a Federal criminal
investigation (sec. 6012(a))................. 192
2. Effective date for provisions relating to
electing large partnerships, partnership
returns required on magnetic media, and
treatment of partnership items of individual
retirement arrangements (sec. 6012(d))....... 193
3. Modification of distribution rule for REITS
(sec. 6012(f))............................... 193
L. Amendments to Title XIII of the 1997 Act Relating
to Estate, Gift and Trust Simplification......... 194
1. Clarification of treatment of revocable trusts
for purposes of the generation-skipping
transfer tax (sec. 6013(a)).................. 194
2. Provision of regulatory authority for
simplified reporting of funeral trusts
terminated during taxable year (sec. 6013(b)) 194
M. Amendment to Title XIV of the 1997 Act Relating to
Excise Tax Simplification........................ 195
1. Clarification of provision allowing wine
imported in bulk to be transferred to a U.S.
winery without payment of tax (sec. 6014).... 195
N. Amendments to Title XV of the 1997 Act Relating to
Pensions and Employee Benefits................... 196
1. Treatment of certain disability payments to
public safety employees (sec. 6015(c))....... 196
O. Amendments to Title XVI of the 1997 Act Relating
to Technical Corrections......................... 196
1. Application of requirements for SIMPLE IRAs in
the case of mergers and acquisitions (sec.
6016(a))..................................... 196
2. Treatment of Indian tribal governments under
section 403(b) (sec. 6016(a))................ 197
Technical Corrections to Other Tax Legislation....... 198
A. Treatment of Adoption Tax Credit Carryovers (sec.
6017)............................................ 198
B. Disclosure Requirements for Apostolic
Organizations (sec. 6018)........................ 198
C. Allow Deduction for Unused Employer Social
Security Credit (sec. 6019)...................... 199
D. Earned Income Credit Qualification Rules (sec.
6020)............................................ 200
III.Budget Effects of the Bill......................................201
A. Committee Estimates................................... 201
B. Budget Authority and Tax Expenditures................. 207
C. Consultation with Congressional Budget Office......... 207
IV. Votes of the Committee..........................................207
V. Regulatory Impact and Other Matters.............................209
A. Regulatory Impact..................................... 209
B. Unfunded Mandates Statement........................... 210
VI. Changes in Existing Law Made by the Bill, as reported...........210
I. LEGISLATIVE BACKGROUND
A. Committee Action
Committee consideration
The Committee on Finance marked up H.R. 2676 (the
``Internal Revenue Service Restructuring and Reform Act of
1998'') on March 31, 1998. The Committee adopted Chairman
Roth's amendment in the nature of a substitute, as amended, and
ordered the bill, as amended, favorably reported by a roll call
vote of 12-0 (20-0 including proxy votes). The bill also
includes tax technical corrections provisions.
Committee and subcommittee hearings
The Committee held several public hearings during the 105th
Congress as part of its investigation of the operations and
structure of the Internal Revenue Service (``IRS'). A series of
investigative hearings were held by the full committee on
September 23-25, 1997, which examined both the internal and
public conduct of the IRS. The Finance Committee's Subcommittee
on Taxation and IRS Oversight held a field hearing in Oklahoma
City, Oklahoma on December 3, 1997, regarding IRS management
and operations in the Oklahoma-Arkansas District.
The Finance Committee continued public hearings on IRS
administration, including taxpayer rights, on January 28 and 29
and on February 5, 11, and 25, 1998. The hearing on February
11, 1998, focused on the tax treatment of ``innocent spouses.''
B. Commission Report
The National Commission on Restructuring the Internal
Revenue Service (the ``Commission'') was established to review
the practices of the IRS and to make recommendations for
modernizing and improving its efficiency and taxpayer services.
The Commission report was issued on June 25, 1997,1
and contained recommendations relating to executive branch
governance and management of the IRS, Congressional oversight
of the IRS, personnel flexibilities, customer service and
compliance, technology modernization, electronic filing, tax
law simplification, taxpayer rights and financial
accountability.
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\1\ Report of the National Commission on Restructuring the Internal
Revenue Service, ``A Vision for a New IRS,'' June 25, 1997.
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S. 1096 (the ``Internal Revenue Service Restructuring and
Reform Act of 1997''), introduced on July 30, 1997, by Senators
Kerrey and Grassley, generally followed the Commission's
recommendations. A similar bill, H.R. 2676, was passed by the
House on November 5, 1997.2
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\2\ The House Committee on Ways and Means reported H.R. 2676 on
October 31, 1997 (H. Rept. 105-364). H.R. 2676 was amended by the House
to include (as new Title VI) the provisions of H.R. 2645 (``Tax
Technical Corrections Act of 1997'') as reported by the House Committee
on Ways and Means on October 29, 1997 (H. Rept. 105-356).
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II. EXPLANATION OF THE BILL
Title I. Executive Branch Governance and Management of the IRS
A. IRS Restructuring and Creation of IRS Oversight Board
1. IRS mission and restructuring (secs. 1001 and 1002 of the bill)
Present Law
IRS mission statement
The IRS mission statement provides that:
The purpose of the Internal Revenue Service is to
collect the proper amount of tax revenue at the least
cost; serve the public by continually improving the
quality of our products and services; and perform in a
manner warranting the highest degree of public
confidence in our integrity and fairness.
IRS organizational plan
Under Reorganization Plan No. 1 of 1952, the Internal
Revenue Service (``IRS'') is organized into a 3-tier geographic
structure with a multi-functional National Office, Regional
Offices, and District Offices. A number of IRS reorganizations
have occurred since then, but no major changes have been made
to the basic 3-tier structure. Presently, as a result of a 1995
reorganization, there is a Regional Commissioner, a Regional
Counsel and a Regional Director of Appeals for each of the
following 4 regions: (1) the Northeast Region (headquartered in
New York); (2) the Southeast Region (Atlanta); (3) the
Midstates Region (Dallas); and (4) the Western Region (San
Francisco). There are 33 District Offices, 10 service centers,
and 3 computing centers.
Reasons for Change
The Committee believes that a key reason for taxpayer
frustration with the IRS is the lack of appropriate attention
to taxpayer needs. At a minimum, taxpayers should be able to
receive from the IRS the same level of service expected from
the private sector. For example, taxpayer inquiries should be
answered promptly and accurately; taxpayers should be able to
obtain timely resolutions of problems and information regarding
activity on their accounts; and taxpayers should be treated
fairly and courteously at all times. The Commissioner of
Internal Revenue has indicated his interest in improving
customer service. The Committee believes that taxpayer service
is of such importance that the Committee should not only
support the Commissioner's efforts, but also mandate that a key
part of the IRS mission must be taxpayer service.
The Commissioner has announced a broad outline of a plan to
reorganize the structure of the IRS in order to help make the
IRS more oriented toward assisting taxpayers and providing
better taxpayer service. Under this plan, the present regional
structure would be replaced with a structure based on units
that serve particular groups of taxpayers with similar needs.
The Commissioner has currently identified four different groups
of taxpayers with similar needs: individual taxpayers, small
businesses, large businesses, and the tax-exempt sector
(including employee plans, exempt organizations and State and
local governments). Under this structure, each unit would be
charged with end-to-end responsibility for serving a particular
group of taxpayers. The Commissioner believes that this type of
structure will solve many of the problems taxpayers encounter
now with the IRS. For example, each of the 33 district offices
and 10 service centers are now required to deal with every kind
of taxpayer and every type of issue. The proposed plan would
enable IRS personnel to understand the needs and problems
affecting particular groups of taxpayers, and better address
those issues. The present-law structure also impedes continuity
and accountability. For example, if a taxpayer moves, the
responsibility for the taxpayer's account moves to another
geographical area. Further, every taxpayer is serviced by both
a service center and at least one district. Thus, many
taxpayers have to deal with different IRS offices on the same
issues. The proposed structure would eliminate many of these
problems.
The Committee believes that the current IRS organizational
structure is one of the factors contributing to the inability
of the IRS to properly serve taxpayers and the proposed
structure would help enable the IRS to better serve taxpayers
and provide the necessary level of services and accountability
to taxpayers. The Committee supports the Commissioner in his
efforts to modernize and update the IRS and believes it
appropriate to provide statutory direction for the
reorganization of the IRS.
Explanation of Provision
The IRS is directed to revise its mission statement to
provide greater emphasis on serving the public and meeting the
needs of taxpayers.
The IRS Commissioner is directed to restructure the IRS by
eliminating or substantially modifying the present-law three-
tier geographic structure and replacing it with an
organizational structure that features operating units serving
particular groups of taxpayers with similar needs. The plan is
also required to ensure an independent appeals function within
the IRS. As part of ensuring an independent appeals function,
the reorganization plan is to prohibit ex parte communications
between appeals officers and other IRS employees to the extent
such communications appear to compromise the independence of
the appeals officers. The legality of IRS actions will not be
affected pending further appropriate statutory changes relating
to such a reorganization (e.g., eliminating statutory
references to obsolete positions).
Effective Date
The provision is effective on the date of enactment.
2. Establishment and duties of IRS Oversight Board (sec. 1101 of the
bill and sec. 7802 of the Code)
Present Law
Under present law, the administration and enforcement of
the internal revenue laws are performed by or under the
supervision of the Secretary of the Treasury.3 The
Secretary has delegated the responsibility to administer and
enforce the Internal Revenue laws to the Commissioner. The
Commissioner has the final authority of the IRS concerning the
substantive interpretation of the tax laws as reflected in
legislative and regulatory proposals, revenue rulings, letter
rulings, and technical advice memoranda. Under present law, the
duties of the Chief Counsel of the IRS are prescribed by the
Secretary. The Secretary has delegated authority over the Chief
Counsel to General Counsel of the Treasury. The General Counsel
has delegated authority to serve as the legal adviser to the
Commissioner to the Chief Counsel.
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\3\ Code sec. 7801(a).
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Federal employees are subject to rules designed to prevent
conflicts of interest or the appearance of conflicts of
interest. The rules applicable to any particular employee
depend in part on whether the employee is a regular, full-time
Federal Government employee or a special government employee,
the length of service of the employee and the pay grade of the
employee. A ``special government employee'' is, in general, an
officer or employee of the executive or legislative branch of
the U.S. government who is appointed or employed to perform
(with or without compensation) for not to exceed 130 days
during any period of 365 days, temporary duties either on a
full-time or intermittent basis. Violations of the ethical
conduct rules are generally punishable by imprisonment for up
to 1 year (5 years in the case of wilful conduct), a civil
fine, or both. The amount of the fine with respect to each
violation cannot exceed the greater of $50,000 or the
compensation received by the employee in connection with the
prohibited conduct.
Under the ethical conduct rules, all Federal Government
employees (including special government employees) are
precluded from participating in a matter in which the employee
(or a related party) has a financial interest. In addition,
special government employees cannot represent a party (whether
or not for compensation) or receive compensation for
representation of a party \4\ in relation to a matter (1) in
which the employee has at any time participated personally and
substantially, or (2) which is pending in the department or
agency of the Government in which the special government
employee is serving. In the case of a special government
employee who has served in a department no more than 60 days
during the immediately preceding 365 days, item (2) does not
apply. Thus, for example, such an individual can receive
compensation for representational services with respect to
matters pending in the department in which the employee serves,
as long as it is not a matter involving parties in which the
employee personally and substantially participated.\5\
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\4\ The prohibition on receipt of compensation applies regardless
of whether the services are performed by the Federal employee or
someone else. For example, it would preclude a Federal employee from
sharing in the compensation received by a partner of the Federal
employee with respect to covered matters.
\5\ More stringent rules apply to regular Federal Government
employees. Such employees cannot receive compensation for
representational services (whether rendered by the individual or
another) in matters in which the United States is a party or has a
direct and substantial interest before any department, agency or court.
In addition, a Federal Government employee cannot act as agent or
attorney (whether or not for compensation) for prosecuting any claim
against the United States or act as agent or attorney for anyone before
any department, agency, or court in which the United States is a party
or has a direct and substantial interest.
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The conflict of interest rules also impose restrictions on
what a Federal Government employee can do after leaving the
Government. Under these rules, senior level officers and
employees (including special government employees) who served
at least 60 days cannot represent anyone other than the United
States before the individual's former department or agency for
1 year after terminating employment. Whether an employee is a
senior level officer or employee is determined by pay grade.
The one-year post employment restriction does not apply to
special government employees who serve less than 60 days during
the 365-day period before termination of employment.\6\
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\6\ All Federal Government employees are permanently prohibited
from representing a party other than the government in connection with
a particular matter (1) in which the government is a party or has an
interest, (2) in which the individual participated personally and
substantially, and (3) which involved a specific party or parties at
the time of their participation. In addition, Federal employees cannot,
within 2 years after terminating employment, represent any person other
than the United States in connection with any matter (1) in which the
government is a party or has a direct and substantial interest, (2)
which the person knows or reasonably should know was actually pending
under his or her official responsibility within one year before
termination of employment, and (3) which involved a specific party or
parties at the time it was pending
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Federal employees with pay grades above certain levels (and
who have at least 60 days of service) are required to file
annually public financial disclosures.
Reasons for Change
The Committee believes that a well-run IRS is critical to
the operation of our tax system. Public confidence in the IRS
must be restored so that our system of voluntary compliance
will not be compromised. The Committee believes that most
Americans are willing to pay their fair share of taxes, and
that public confidence in the IRS is key to maintaining that
willingness.
The National Commission on Restructuring the IRS (the
``Restructuring Commission'') conducted a year-long study of
the IRS and found that a number of factors contribute to
current IRS management problems. The Restructuring Commission
found that, while the Treasury is responsible for IRS
oversight, it has generally provided little consistent
strategic oversight or guidance to the IRS. The Secretary and
Deputy Secretary have many other broad responsibilities and
generally leave the IRS largely independent. The average tenure
of an IRS Commissioner is under 3 years, as is the average
tenure of senior Treasury officials responsible for IRS
oversight. Many of the issues that need to be addressed by the
IRS require expertise in various areas, particularly management
and technology.
The Restructuring Commission concluded the following:
problems throughout the IRS cannot be solved without
focus, consistency and direction from the top. The
current structure, which includes Congress, the
President, the Department of the Treasury, and the IRS
itself, does not allow the IRS to set and maintain
consistent long-term strategy and priorities, nor to
develop and execute focused plans for improvement.
Additionally, the structure does not ensure that the
IRS budget, staffing and technology are targeted toward
achieving organizational success.
The Committee shares the concerns of the Commission, and
believes that fundamental change in IRS management and
oversight is essential. The Committee believes that a new
management structure that will bring greater expertise in
needed areas, and more focus and continuity will help the IRS
to become an efficient, responsive, and respected agency that
acts appropriately in carrying out its functions.
The Committee believes that private sector input is a
necessary part of any new management structure. The Committee
believes that appropriate ethics rules should be applied to the
private sector members of the new IRS management in order to
enhance the ability of such members to demonstrate impartiality
in the performance of their duties, while not unduly
restricting the available pool of potential candidates.
The Committee is aware that the taxpaying public does not
relish contacts with the agency responsible for collecting
taxes. Nevertheless, by establishing a new management structure
that will better enable the IRS to develop and fulfill long-
term goals, the Committee believes the IRS will provide better
service and reduce IRS contact with taxpayers. The Committee is
also aware that changes being made to IRS management structure
are not the final step, and that continued oversight of the
IRS, by Congress as well as the Administration, is necessary in
order to ensure long-term progress.
Explanation of Provision
Duties, responsibilities, and powers of the IRS Oversight Board
The bill provides for the establishment within the Treasury
Department of the Internal Revenue Service Oversight Board
(referred to as the ``Board''). The general responsibilities of
the Board are to oversee the IRS in the administration,
management, conduct, direction, and supervision of the
execution and application of the internal revenue laws. As part
of its oversight responsibilities, the Board has the
responsibility to ensure that the organization and operation of
the IRS allows it to carry out its mission. The Board will
sunset September 30, 2008.
The Board has the following specific responsibilities: (1)
to review and approve strategic plans of the IRS, including the
establishment of mission and objectives (and standards of
performance) and annual and long-range strategic plans; (2) to
review the operational functions of the IRS, including plans
for modernization of the tax administration system, outsourcing
or managed competition, and training and education; (3) to
review and approve the Commissioner's plans for major
reorganization of the IRS (except that the approval authority
does not apply to the reorganization provided for under the
bill); and (4) to review operations of the IRS in order to
ensure the proper treatment of taxpayers. The Board also has
the following specific responsibilities relating to management:
(1) to recommend to the President candidates for Commissioner
(and to recommend the removal of the Commissioner); (2) taking
into account the recommendations, if any, of the Commissioner,
to recommend to the Secretary 3 candidates for appointment as
the National Taxpayer Advocate from individuals who have a
background in customer service and tax law, and experience
representing individual taxpayers (and to recommend the removal
of the National Taxpayer Advocate); (3) to review the
Commissioner's selection, evaluation, and compensation of IRS
senior executives who have program management responsibility
over significant functions of the IRS; (4) and to review
procedures of the IRS relating to financial audits.
In addition, the Board will review and approve the budget
request of the IRS prepared by the Commissioner, submit such
budget request to the Secretary, and ensure that the budget
request supports the annual and long-range strategic plans of
the IRS. The Secretary is required to submit the budget request
approved by the Board to the President, who is required to
submit such request, without revision, to the Congress together
with the President's annual budget request for the IRS. The
bill does not affect the ability of the President to include,
in addition, his own budget request relating to the IRS.
It is intended that the Board will reach a formal decision
on all matters subject to its review. With respect to those
matters over which the Board has approval authority, the
Board's decisions will be determinative.
The Board has no responsibilities or authority with respect
to the development and formulation of Federal tax policy
relating to existing or proposed internal revenue laws. In
addition, the Board has no authority (1) to intervene in
specific taxpayer cases, including compliance activities
involving specific taxpayers such as criminal investigations,
examinations, and collection activities, (2) to engage in
specific procurement activities of the IRS (e.g., selecting
vendors or awarding contracts), or (3) to intervene in specific
individual personnel matters.
Board members would have limited access to confidential tax
return and return information under section 6103. This limited
access would permit the Board to receive such information
(i.e., information that has not been redacted to remove
confidential tax return and return information) from the
Treasury IG for Tax Administration or the Commissioner in
connection with reports made to the Board. This access to
section 6103 information does not include the taxpayer's name,
address, or taxpayer or employer identification number. The
Board members are subject to the anti-browsing rules applicable
to IRS employees under present law.7
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\7\ The provision does not affect the Secretary's (or Deputy
Secretary's) or the Commissioner's access to section 6103 information
or the application of the anti-browsing rules to the Secretary (or
Deputy Secretary) or the Commissioner.
---------------------------------------------------------------------------
In exercising its duties, it is expected that the members
of the Board shall maintain appropriate confidentiality (e.g.,
regarding enforcement matters).
The Board is required to report each year regarding the
conduct of its responsibilities. The annual report shall be
provided to the President and the House Committees on Ways and
Means, Government Reform and Oversight, and Appropriations and
the Senate Committees on Finance, Governmental Affairs, and
Appropriations. In addition, the Board is required to report to
the Ways and Means and Finance Committees if the IRS does not
address problems identified by the Board.
It is expected that the Treasury Department will no longer
utilize the IRS Management Board once the new Board created by
the bill is in place, as the functions of the IRS Management
Board would be taken over by the new Board.
Composition of the Board
The Board is composed of 9 members. Six of the members are
so-called ``private-life'' members who are not otherwise
Federal officers or employees. These private-life members are
appointed by the President, with the advice and consent of the
Senate. The other members are: (1) the Secretary (or, if the
Secretary so designates, the Deputy Secretary); (2) the
Commissioner; and (3) a representative from an employee
organization that represents a substantial number of IRS
employees and who is appointed by the President, with the
advice and consent of the Senate. In appointing the
representative of an employee organization, the President is
not required to choose an individual recommended by the
employee organization,but may choose whoever the President
determines to be an appropriate representative of the employee
organization.
The private-life members of the Board will be appointed
without regard to political affiliation and based solely on
their expertise in the following areas: (1) management of large
service organizations; (2) customer service; (3) the Federal
tax laws, including administration and compliance; (4)
information technology; (5) organization development; and (6)
the needs and concerns of taxpayers. In the aggregate, the
private-life members of the Board should collectively bring to
bear expertise in these enumerated areas.
A private-life Board member and the employee representative
Board member may be removed at the will of the President. In
addition, the Secretary (or Deputy Secretary) and the IRS
Commissioner are automatically removed from the Board upon his
or her termination of employment as such.
Compensation of Board members
The private-life members of the Board will be compensated
at a rate of $30,000 per year, except that the Chair would be
compensated at a rate of $50,000 a year. The other Board
members will receive no compensation for their services as a
Board member. All members of the Board are entitled to travel
expenses for purposes of attending Board meetings or visiting
IRS offices in connection with Board functions.
Ethical conduct rules
Private-life members
Under the bill, the private-life Board members are subject
to the public financial disclosure rules applicable to Federal
government employees above certain pay grades and who have at
least 60 days of service. Thus, the private-life Board members
are required to file a public financial disclosure report for
purposes of confirmation, annually during their tenure on the
Board, and upon termination of appointment.
The ethical conduct rules applicable to private-life Board
members depend on whether or not such members are determined to
be ``special government employees'' under the present-law
rules. It is expected that they generally will be. In that
case, they will be subject, at a minimum, to the ethical
conduct rules applicable to special government employees. In
addition, during their term as a Board member, a private-life
Board member cannot represent any party (whether or not for
compensation) with respect to (1) any matter before the Board
or the IRS, (2) any tax-related matter before the Treasury
Department or (3) any court proceeding with respect to a matter
described in (1) or (2). Thus, for example, the day after
appointment to the Board, a private-life Board member could not
meet with representatives of the IRS or Treasury on behalf of a
client or the Board member's corporate employer with respect to
proposed tax regulations. On the other hand, the Board member
could, for example, represent clients before the U.S. Customs
Service. The special rules applicable to private-life Board
members generally do not preclude the Board member from sharing
in compensation from representation of clients by another
person (e.g., a partner of the Board member) before the IRS or
Treasury.8
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\8\ Certain limitations to this exception to the otherwise
applicable ethical rules would apply. For example, this exception would
not apply if the matter was one in which the Board member personally
and substantially participated. Similarly, the Board member could not
act with respect to a matter in which he or she has a personal
financial interest, including the potential to receive a share in
compensation as a result of another's representation.
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In addition, private-life Board members are subject to the
1-year post employment restriction applicable to individuals
above certain pay grades and who have served at least 60 days
(whether or not the members are special government employees
under the present-law rules).
If the Board members are determined not to be special
government employees under the present-law rules, then they
will be subject to the ethical conduct rules relating to
regular Federal Government employees.
Representative of employee organization
In general, the bill provides that the employee
representative or Board member is subject to the same ethical
conduct rules as the private-life Board members. However, the
bill modifies the otherwise applicable ethical conduct rules so
that they do not preclude the employee representative from
carrying out his or her duties as a Board member and his or her
duties with respect to the employee organization. In
particular, the employee representative is not prohibited from
(1) representing the interests of the employee organization
before the Federal Government on any matter, or (2) acting on a
Board matter because the employee organization has a financial
interest in the matter. In addition, the employee
representative can continue to receive his or her compensation
from the employee organization.9
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\9\ Certain limitations on this exception would apply. For example,
the rules relating to bribery would continue to apply. In addition, the
employee representative would be precluded from acting on a matter in
which he or she has a financial interest.
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The employee representative is subject to the same public
financial disclosure rules as the private-life Board members.
In addition, the employee organization is required to provide
an annual financial report with the House Ways and Means
Committee and the Senate Finance Committee. Such report is
required to include the compensation paid to the individual
serving on the Board, the compensation of individuals employed
by the employee organization, and membership dues collected by
the organization.
The employee representative is subject to the same 1-year
post employment restriction applicable to the private-life
Board members, except to the extent the representative is
acting in his capacity as a representative of the employee
organization.
Administrative matters
Term of appointments
The 6 private-life Board members will be appointed for 5-
year terms. The private-life members may serve no more than two
5-year terms. Board member terms will be staggered, as a result
of a special rule providing that some private-life members
first appointed to the Board would serve terms of less than 5
years. Under this rule, 2 members first appointed will have a
term of 2 years, 2 for a term of 4 years, and 2 for a term of 5
years. The terms of the initial Board members will run from the
date of employment. Subsequent terms will run from expiration
of the previous term. A Board member appointed to fill a
vacancy before the expiration of a term will be appointed to
the remainder of the term. Of course, such a member could be
appointed to subsequent 5-year term.
Chair of the Board
The members of the Board are to elect a Chair from the
private-life members for a 2-year term. Except as otherwise
provided by a majority of the Board, the authority of the Chair
includes the authority to hire appropriate staff, call
meetings, establish committees, establish the agenda for
meetings, and develop rules for the conduct of business.
Meetings
The Board is required to meet on a regular basis (as
determined necessary by the Chair), but no less frequently than
quarterly. The Board can meet privately, and is not subject to
public disclosure laws.
A quorum of 5 members is required in order for the Board to
conduct business. Actions of the Board can be taken by a
majority vote of those members present and voting.
Staffing
The Chair is authorized to hire (and terminate) such
personnel as the Chair finds necessary to enable the Board to
carry out its duties. In addition, the Board will have such
staff as detailed by the Commissioner or from another Federal
agency at the request of the Chair of the Board. The Chair can
procure temporary and intermittent services under section
3109(b) of title 5 of the U.S. Code.
Claims against Board members
The private-life members of the Board have no personal
liability under Federal law with respect to any claim arising
out of or resulting form an act or omission by the Board member
within the scope of service as a Board member. The bill does
not limit personal liability for criminal acts or omissions,
wilful or malicious conduct, acts or omissions for private
gain, or any other act or omission outside the scope of service
as a Board member. The bill does not affect any other
immunities and protections that may be available under
applicable law or any other right or remedy against the United
States under applicable law, or limit or alter the immunities
that are available under applicable law for Federal officers
and employees.
Effective Date
The provision relating to the Board is effective on the
date of enactment. The President is directed to submit
nominations for Board members to the Senate within 6 months of
the date of enactment. The legality of the actions of the IRS
are not affected pending appointment of the Board.
B. Appointment and Duties of IRS Commissioner and Chief Counsel and
Other Personnel
1. IRS Commissioner and other personnel (secs. 1102(a) and 1104 of the
bill and secs. 7803 and 7804 of the Code)
Present Law
Within the Department of the Treasury is a Commissioner of
Internal Revenue, who is appointed by the President, with the
advice and consent of the Senate. The Commissioner has such
duties and powers as may be prescribed by the
Secretary.10 The Secretary has delegated to the
Commissioner the administration and enforcement of the internal
revenue laws.11 The Commissioner generally does not
have authority with respect to tax policy matters.12
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\10\ Code sec. 7802(a).
\11\ Treasury Order 150-10 (April 22, 1982).
\12\ See, e.g., Treasury Order 111-2 (March 16, 1981), which
delegates to the Assistant Secretary (Tax Policy) the exclusive
authority to make the final determination of the Treasury Department's
position with respect to issues of tax policy arising in connection
with regulations, published Revenue Rulings and Revenue Procedures, and
tax return forms and to determine the time, form and manner for the
public communication of such position.
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The Secretary is authorized to employ such persons as the
Secretary deems appropriate for the administration and
enforcement of the internal revenue laws and to assign posts of
duty.
Explanation of Provision
As under present law, the Commissioner is appointed by the
President, with the advice and consent of the Senate, and may
be removed at will by the President. Under the bill, one of the
qualifications of the Commissioner is demonstrated ability in
management. The Commissioner is appointed to a 5-year term,
beginning with the date of appointment. The Commissioner may be
reappointed for more than one 5-year term. The Board recommends
candidates to the President for the position of Commissioner;
however, the President is not required to nominate for
Commissioner a candidate recommended by the Board. The Board
has the authority to recommend the removal of the Commissioner.
The Commissioner has such duties and powers as prescribed
by the Secretary. Unless otherwise specified by the Secretary,
such duties and powers include the power to administer, manage,
conduct, direct, and supervise the execution and application of
the internal revenue laws or related statutes and tax
conventions to which the United States is a party, to exercise
the IRS' final authority concerning the substantive
interpretation of the tax laws, to recommend to the President a
candidate for Chief Counsel (and recommend the removal of the
Chief Counsel), and to recommend candidates for the position of
National Taxpayer Advocate to the IRS Board. If the Secretary
determines not to delegate such specified duties to the
Commissioner, such determination will not take effect until 30
days after the Secretary notifies the House Committees on Ways
and Means, Government Reform and Oversight, and Appropriations,
and the Senate Committees on Finance, Governmental Affairs, and
Appropriations. The Commissioner is to consult with the Board
on all matters within the Board's authority (other than the
recommendation of candidates for Commissioner and the
recommendation to remove the Commissioner).
Unless otherwise specified by the Secretary, the
Commissioner is authorized to employ such persons as the
Commissioner deems proper for the administration and
enforcement of the internal revenue laws and is required to
issue all necessary directions, instructions, orders, and rules
applicable to such persons. Unless otherwise provided by the
Secretary, the Commissioner will determine and designate the
posts of duty.
Effective Date
The provisions relating to the Commissioner are effective
on the date of enactment. The provision relating to the 5-year
term of office applies to the Commissioner in office on the
date of enactment. The 5-year term runs from the date of
appointment.
2. IRS Chief Counsel (sec. 1102(a) and sec. 7803 of the Code)
Present Law
The President is authorized to appoint, by and with the
consent of the Senate, an Assistant General Counsel of the
Treasury, who is the Chief Counsel of the IRS. The Chief
Counsel is the chief law officer for the IRS and has such
duties as may be prescribed by the Secretary. The Secretary has
delegated authority over the Chief Counsel to the Treasury
General Counsel. The Chief Counsel does not report to the
Commissioner, but to the Treasury General Counsel. As delegated
by the Treasury General Counsel, the duties of the Chief
Counsel include: (1) to be the legal advisor to the
Commissioner and his or her officers and employees; (2) to
furnish such legal opinions as may be required in the
preparation and review of rulings and memoranda of technical
advice and the performance of other duties delegated to the
Chief Counsel; (3) to prepare, review, or assist in the
preparation of proposed legislation, treaties, regulations and
Executive Orders relating to laws affecting the IRS; (4) to
represent the Commissioner in cases before the Tax Court; (5)
to determine what civil actions should be brought in the courts
under the laws affecting the IRS and to prepare recommendations
to the Department of Justice for the commencement of such
actions and to authorize or sanction commencement of such
actions.
Explanation of Provision
As under present law, the Chief Counsel is appointed by the
President, with the advice and consent of the Senate. Under the
bill, the Chief Counsel is not an Assistant General Counsel of
the Treasury and reports directly to the Commissioner.
The Chief Counsel has such duties and powers as prescribed
by the Secretary. Unless otherwise specified by the Secretary,
these duties include the duties currently delegated to the
Chief Counsel as described above. If the Secretary determined
not to delegate such specified duties to the Chief Counsel,
such determination is subject to the same notice requirement
applicable to changes in the delegation of authority with
respect to the Commissioner.
Effective Date
The provision is generally effective on the date of
enactment. The provision providing that the Chief Counsel
reports directly to the Commissioner is effective 90 days after
the date of enactment.
C. Structure and Funding of the Employee Plans and Exempt Organizations
Division (``EP/EO'') (sec. 1102 of the bill and sec. 7803 of the Code)
Present Law
Prior to 1974, no one specific office in the IRS had
primary responsibility for employee plans and tax-exempt
organizations. As part of the reforms contained in the Employee
Retirement Income Security Act of 1974 (``ERISA''), Congress
statutorily created the Office of Employee Plans and Exempt
Organizations (``EP/EO'') under the direction of an
AssistantCommissioner.13 EP/EO was created to oversee
deferred compensation plans governed by sections 401-414 of the Code
and organizations exempt from tax under Code section 501(a).
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\13\ Code section 7802(b).
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In general, EP/EO was established in response to concern
about the level of IRS resources devoted to oversight of
employee plans and exempt organizations. The legislative
history of Code section 7802(b) states that, with respect to
administration of laws relating to employee plans and exempt
organizations, ``the natural tendency is for the Service to
emphasize those areas that produce revenue rather than those
areas primarily concerned with maintaining the integrity and
carrying out the purposes of exemption provisions.''
14
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\14\ S. Rept. 93-383, 108 (1973). See also H. Rept. 93-807, 104
(1974).
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To provide funding for the new EP/EO office, ERISA
authorized the appropriation of an amount equal to the sum of
the section 4940 excise tax on investment income of private
foundations (assuming a rate of 2 percent) as would have been
collected during the second preceding year plus the greater of
the same amount or $30 million.15 However, amounts
raised by the section 4940 excise tax have never been dedicated
to the administration of EP/EO, but are transferred instead to
general revenues. Thus, the level of EP/EO funding, like that
of the rest of the IRS, is dependent on annual Congressional
appropriations to the Treasury Department.
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\15\ Code section 7802(b)(2).
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Reasons for Change
To facilitate the reorganization of the IRS along
functional lines, the Committee believes that the statutory
provision requiring the establishment of the Office of Employee
Plans and Exempt Organizations under the direction of an
Assistant Commissioner should be eliminated. In addition,
because the funding formula for EP/EO set forth in section
7802(b)(2) would, if utilized, result in an unstable level of
funding that may bear little or no relation to the amount of
financial resources actually required by the EP/EO division,
the Committee believes that it is appropriate to repeal the
funding mechanism.
Explanation of Provision
The bill eliminates the statutory requirement contained in
section 7802(b) that there be an ``Office of Employee Plans and
Exempt Organizations'' under the supervision and direction of
an Assistant Commissioner. The Committee intends that a
comparable structure be created administratively to ensure that
adequate resources within the IRS are devoted to oversight of
the tax-exempt sector.
In addition, because the funding formula for EP/EO set
forth in section 7802(b)(2) would, if utilized, result in an
unstable level of funding that may bear little or no relation
to the amount of financial resources actually required by the
EP/EO division, the bill repeals the funding mechanism. Thus,
the appropriate level of funding for EP/EO is, consistent with
current practice, subject to annual Congressional
appropriations, as are other functions within the IRS. In this
regard, however, the Committee believes that, given the
magnitude of the sectors EP/EO is charged with regulating, as
well as the unique nature of its mandate, an adequately funded
EP/EO is extremely important to the efficient and fair
administration of the Federal tax system. Accordingly,
financial resources for EP/EO should not be constrained on the
basis that EP/EO is a ``non-core'' IRS function; rather, EP/EO,
like all functions of the IRS, should be funded so as to
promote the efficient and fair administration of the Federal
tax system.
For example, it is important to allocate sufficient funds
for EP/EO staffing adequately to monitor and assist businesses
in establishing and maintaining retirement plans. Recently, in
Revenue Procedure 98-22, the IRS announced the expansion of the
self-correction programs it offers employers to encourage
companies to identify and correct errors without incurring
significant penalties. These changes are welcomed, and it is
not intended that the elimination of the statutory requirement
contained in section 7802(b)(1) or the self-funding mechanism
described in section 7802(b)(2) impede the implementation of
these and EP/EO's other programs and activities. Rather, it is
intended that there be adequate funding for EP/EO, including
these self-correction programs that will encourage the
establishment and continuation of retirement plans to increase
coverage of American workers while protecting the rights of
employees to benefits under these plans and maintaining the
integrity and purposes of the exemption provisions.
Effective Date
The provision is effective on the date of enactment.
D. Taxpayer Advocate (secs. 1102 (a), (c), and (d) of the bill and sec.
7803(c) of the Code)
Present Law
Taxpayer Advocate
In 1996, the Taxpayer Bill of Rights 2 (``TBOR 2'')
established the position of Taxpayer Advocate, which replaced
the position of Taxpayer Ombudsman, created in 1979 by the IRS.
The Taxpayer Advocate is appointed by and reports directly to
the IRS Commissioner.
TBOR 2 also created the Office of the Taxpayer Advocate.
The functions of the office are (1) to assist taxpayers in
resolving problems with the IRS, (2) to identify areas in which
taxpayers have problems in dealings with the IRS, (3) to
propose changes (to the extent possible) in the administrative
practices of the IRS that will mitigate those problems, and (4)
to identify potential legislative changes that may mitigate
those problems.
Taxpayer assistance orders
Taxpayers can request that the Taxpayer Advocate issue a
taxpayer assistance order (``TAO'') if the taxpayer is
suffering or about to suffer a significant hardship as a result
of the manner in which the internal revenue laws are being
administered. A TAO may require the IRS to release property of
the taxpayer that has been levied upon, or to cease any action,
take any action as permitted by law, or refrain from taking any
action with respect to the taxpayer.
Under present law, the direct point of contact for
taxpayers seeking taxpayer assistance orders is a problem
resolution officer appointed by a District Director or a
Regional Director of Appeals. The Taxpayer Advocate has
designated the authority to issue taxpayer assistance orders to
the local and regional problem resolution officers.
Reports of the Taxpayer Advocate
The Taxpayer Advocate is required to report annually to the
House Committee on Ways and Means and the Senate Finance
Committee on the objectives of the Taxpayer Advocate for the
up-coming fiscal year. This report is required to be provided
no later than June 30 of each calendar year and is to contain
full and substantive analysis, in addition to statistical
information.
The Taxpayer Advocate is also required to report annually
to the House Committee on Ways and Means and the Senate Finance
Committee on the activities of the Taxpayer Advocate during the
most recently ended fiscal year. This report is required to be
provided no later than December 31 of each calendar year, and
is to contain full and substantive analysis, in addition to
statistical information. This report is also required to: (1)
identify the initiatives the Taxpayer Advocate has taken on
improving taxpayer services and IRS responsiveness; (2) contain
recommendations received from individuals with the authority to
issue TAOs; (3) contain a summary of at least 20 of the most
serious problems encountered by taxpayers, including a
description of the nature of such problems; (4) contain an
inventory of the items described in (1), (2), and (3) for which
action has been taken and the result of such action; (5)
contain an inventory of the items described in (1), (2), and
(3) for which action remains to be completed and the period
during which each item has remained on such inventory; (6)
contain an inventory of the items described in (1), (2) and (3)
for which no action has been taken, the period during which the
item has remained on the inventory, the reasons for the
inaction, and identify any IRS official who is responsible for
the inaction; (7) identify any TAO that was not honored by the
IRS in a timely manner; (8) contain recommendations for such
administrative and legislative action as may be appropriate to
resolve problems encountered by taxpayers; (9) describe the
extent to which regional problem resolution officers
participate in the selection and evaluation of local problem
resolution officers, and (10) include such other information as
the Taxpayer Advocate deems advisable.
The reports of the Taxpayer Advocate are to be submitted
directly to the Congressional Committees without prior review
or comment from the Commissioner, Secretary, any other officer
or employee of the Treasury, or the Office of Management and
Budget.
Reasons for Change
The Committee believes that the Taxpayer Advocate serves an
important role within the IRS in terms of preserving taxpayer
rights and solving problems that taxpayers encounter in their
dealings with the IRS. To that end, it is appropriate that the
IRS Oversight Board have input in the selection of the Taxpayer
Advocate. Due to the enhanced powers of the Taxpayer Advocate
in TBOR2 and this bill, the Committee has been advised that the
Taxpayer Advocate should be appointed by the Secretary to avoid
constitutional problems. In addition, the Committee believes
that the Taxpayer Advocate should have experience appropriate
to the position and that the Taxpayer Advocate's objectivity
would be best preserved by limiting prior and future employment
with the IRS. The Committee also believes that the reporting
requirements of the Taxpayer Advocate should be targeted not
only towards solving problems with the IRS but also towards
preventing problems before they arise.
The Committee believes that the Taxpayer Advocate must have
broad discretion to provide relief to taxpayers. In determining
whether a taxpayer assistance order should be issued, the
Taxpayer Advocate should consider certain factors as
constituting a ``significant hardship'' for the taxpayer. In
addition to providing relief if the taxpayer is about to suffer
a significant hardship, the Taxpayer Assistance Order should be
issued in other appropriate situations, such as if there is an
immediate threat of adverse action, if there has been a delay
of more than 30 days in resolving the taxpayer's account
problems, the taxpayer will have to pay significant costs if
relief is not granted, or the taxpayer will suffer irreparable
injury, or long-term adverse impact, if relief is not granted.
The Committee believes that the Taxpayer Advocate should have
flexibility to issue a TAO under any appropriate circumstances,
not only when one of the listed factors exists.
Explanation of Provision
National Taxpayer Advocate
The bill renames the Taxpayer Advocate the ``National
Taxpayer Advocate.'' The bill provides that the IRS Oversight
Board is to recommend to the Secretary 3 candidates for
National Taxpayer Advocate from among individuals with a
background in customer service as well as tax law and with
experience representing individual taxpayers. The Secretary is
required to choose a National Taxpayer Advocate from among the
individuals recommended by the Oversight Board. An individual
may be appointed as the National Taxpayer Advocate only if the
individual was not an officer or employee of the IRS during the
2-year period ending with such appointment and the individual
agrees not to accept employment with the IRS for at least 5
years after ceasing to be the National Taxpayer Advocate.
The bill replaces the present-law problem resolution system
with a system of local Taxpayer Advocates who report directly
to the National Taxpayer Advocate and who will be employees of
the Taxpayer Advocate's Office, independent from the IRS
examination, collection, and appeals functions. The National
Taxpayer Advocate has the responsibility to evaluate and take
personnel actions (including dismissal) with respect to any
local Taxpayer Advocate or any employee in the Office of the
National Taxpayer Advocate. In conjunction with the
Commissioner, the National Taxpayer Advocate is required to
develop career paths for local Taxpayer Advocates.
The National Taxpayer Advocate is required to monitor the
coverage and geographical allocation of the local Taxpayer
Advocates, develop guidance to be distributed to all IRS
officers and employees outlining the criteria for referral of
taxpayer inquires to local taxpayer advocates, ensure that the
local telephone number for the local taxpayer advocate is
published and available to taxpayers.
Each local Taxpayer Advocate may consult with the
appropriate supervisory personnel of the IRS regarding the
daily operation of the office of the Taxpayer Advocate. At the
initial meeting with any taxpayer seeking the assistance of the
Office of the Taxpayer Advocate, the local taxpayer advocate is
required to notify the taxpayer that the Office operated
independently of any other IRS office and reports directly to
Congress through the National Taxpayer Advocate. At the
discretion of the local taxpayer advocate, the advocate shall
not disclose to the IRS any contact with or information
provided by the taxpayer. Each local office of the Taxpayer
Advocate is to maintain a separate phone, facsimile, and other
electronic communication access, and a separate post office
address.
The IRS would be required to publish the taxpayer's right
to contact the local Taxpayer Advocate on the statutory notice
of deficiency.
Taxpayer assistance orders
The provision expands the circumstances under which a TAO
may be issued. The bill provides that a ``significant
hardship'' is deemed to occur if one of the following four
factors exists: (1) there is an immediate threat of adverse
action; (2) there has been a delay of more than 30 days in
resolving the taxpayer's account problems; (3) the taxpayer
will have to pay significant costs (including fees for
professional services) if relief is not granted; or (4) the
taxpayer will suffer irreparable injury, or a long-term adverse
impact, if relief is not granted. These factors are not an
exclusive list of what constitutes a significant hardship; a
TAO may also be issued in other circumstances in which it is
determined that the taxpayer is or will suffer a significant
hardship. The Taxpayer Advocate is also authorized to issue a
TAO in any circumstances that the Taxpayer Advocate considers
appropriate for the issuance of a TAO.
In determining whether to issue a TAO in cases in which the
IRS failed to follow applicable published guidance (including
procedures set forth in the Internal Revenue Manual), the
Taxpayer Advocate is to construe the matter in a manner most
favorable to the taxpayer.
Reports of the National Taxpayer Advocate
The provision requires the annual report regarding the
activities of the National Taxpayer Advocate for the most
recently ended fiscal year to (in addition to the information
required under present law): (1) identify areas of the tax law
that impose significant compliance burdens on taxpayers or the
IRS, including specific recommendations for remedying such
problems; and (2) identify the 10 most litigated issues for
each category of taxpayers, including recommendations for
mitigating such disputes.
Effective Date
The provision is generally effective on the date of
enactment. During the period before the appointment of the IRS
Oversight Board, the National Taxpayer Advocate shall be
appointed by the Secretary (taking into consideration
individuals nominated by the Commissioner) from among
individuals who have a background in customer service as well
as tax law and experience in representing individual taxpayers.
The provision providing that the Taxpayer Advocate reports
directly to the Commissioner, the provision providing that the
Taxpayer Advocate is appointed by the Secretary, and the
restrictions on previous and subsequent employment of the
Taxpayer Advocate do not apply to the individual serving as the
Taxpayer Advocate on the date of enactment.
E. Treasury Office of Inspector General; IRS Office of the Chief
Inspector (secs. 1102 and 1103 of the bill, sec. 7803(d) of the Code,
and secs. 2, 8D, and 9 of the Inspector General Act of 1978)
Present Law
Treasury Inspector General
The Treasury Office of Inspector General (``Treasury IG'')
was established in 1988 and charged with conducting independent
audits, investigations and review to help the Department of
Treasury accomplish its mission, improve its programs and
operations, promote economy, efficiency and effectiveness, and
prevent and detect fraud and abuse. The Treasury IG derives its
statutory authority under the Inspector General Act of 1978, as
amended (``IG Act of 1978'').
Appointment and qualifications
The IG Act of 1978 provides that the Treasury IG is
selected by the President, with the advice and consent of the
Senate, without regard to political affiliation and solely on
the basis of integrity and demonstrated ability in accounting,
auditing, financial analysis, law, management analysis, public
administration, or investigations. The Treasury IG can be
removed from office by the President. The President must
communicate the reasons for such removal to both Houses of
Congress.
Duties and responsibilities
The Treasury IG generally is authorized to conduct,
supervise and coordinate internal audits and investigations
relating to the programs and operations of the Treasury,
including all of its bureaus and offices.16 Special
rules apply, however, with respect to the Treasury IG's
jurisdiction over ATF, Customs, the Secret Service and the
IRS--the four so-called ``law enforcement bureaus.'' Upon its
establishment, the Treasury IG assumed the internal audit
functions previously performed by the offices of internal
affairs of ATF, Customs and the Secret Service. Although the
Treasury IG was granted oversight responsibility for the
internal investigations performed by the Office of Internal
Affairs of ATF, the Office of Internal Affairs of Customs, and
the Office of Inspections of the Secret Service, the internal
investigation or inspection functions of these offices remained
with the respective bureaus. The Treasury IG did not assume
responsibility for either the internal audit or inspection
functions of the IRS Office of the Chief Inspector. However, it
was directed to oversee the internal audits and internal
investigations performed by the IRS Office of the Chief
Inspector.
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\16\ The Treasury Department organization includes the Departmental
offices as well as the Bureau of Alcohol, Tobacco and Firearms
(``ATF''), the Office of the Comptroller of the Currency (``OCC''), the
U.S. Customs Service (``Customs''), the Bureau of Engraving and
Printing, the Federal Law Enforcement Training Center, the Financial
Management Service, the U.S. Mint, the Bureau of the Public Debt, the
U.S. Secret Service (``Secret Service''), the Office of Thrift
Supervision, and the IRS.
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The Commissioner and the Treasury IG have entered into two
Memorandums of Understanding (``MOUs'') 17 to
clarify the respective roles of the IRS Office of the Chief
Inspector and the Treasury IG in two primary areas: (1) the
investigation of allegations of wrongdoing by IRS executives
and employees in situations where the independence of the
Office of the Chief Inspector could be questioned, and (2)
oversight by the Treasury IG of the IRS Office of the Chief
Inspector.18 Pursuant to the 1990 MOU, the
Commissioner agreed to transfer 21 FTEs and $1.9 million from
the IRS appropriation to the Treasury IG appropriation to be
used for the following purposes: (1) oversight of the
operations of the Office of the Chief Inspector; (2) conduct of
special reviews of IRS operations; (3) investigation of
allegations of misconduct concerning the Commissioner, the
Senior Deputy Commissioner, and employees of the IRS Office of
the Chief Inspector; and (4) investigation of allegations of
misconduct where the independence of the IRS Office of the
Chief Inspector might be questioned. With respect to item (4),
the Commissioner and Treasury IG agreed that all allegations of
misconduct involving IRS executives and managers (Grade 15 and
above), as well as any other allegation involving ``significant
or notorious'' matters were to be referred to the Treasury IG,
and that investigations arising out of such referrals generally
would be conducted by the Treasury IG.
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\17\ The first MOU was entered into in 1990 and the second in 1994.
\18\ Treasury Directive 40-01 (September 21, 1992) reiterates that
the Treasury IG is responsible for investigating alleged misconduct on
the part of IRS employees at the grade 15 level and above, all
employees of the Office of the Chief Inspector. In addition, Treasury
Directive 40-01 states that the Treasury IG is responsible for
investigating alleged misconduct on the part of Office of Chief Counsel
employees (excluding employees of the National Director, Office of
Appeals).
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In general, under the IG Act of 1978, Inspectors General
are instructed to report expeditiously to the Attorney General
whenever the Inspector General has reasonable grounds to
believe there has been a violation of Federal criminal law.
However, in matters involving criminal violations of the
Internal Revenue Code, the Treasury IG may report to the
Attorney General only those offenses under section 7214 of the
Code (unlawful acts of revenue officers or agents, including
extortion, bribery and fraud) without the consent of the
Commissioner.
Authority
The Treasury IG reports to and is under the general
supervision of the Secretary of the Treasury, acting through
the Deputy Secretary. In general, the Secretary cannot prevent
or prohibit the Treasury IG from initiating, carrying out, or
completing any audit or investigation or from issuing any
subpoena during the course of any audit or investigation.
However, section 8D of the IG Act of 1978 grants the
Secretary authority to prohibit audits or investigations by the
Treasury IG under certain circumstances. In particular, the
Treasury IG is under the authority, direction, and control of
the Secretary with respect to audits or investigations, or the
issuance of subpoenas, which require access to sensitive
information concerning: (1) ongoing criminal investigations or
proceedings; (2) undercover operations; (3) the identity of
confidential sources, including protected witnesses; (4)
deliberations and decisions on policy matters, including
documented information used as a basis for making policy
decisions, the disclosure of which could reasonably be expected
to have a significant influence on the economy or market
behavior; (5) intelligence or counterintelligence matters; (6)
other matters the disclosure of which would constitute a
serious threat to national security or to the protection of
certain persons. With respect to audits, investigations or
subpoenas that require access to the above-listed information,
the Secretary may prohibit the Treasury IG from carrying out
such audit, investigation or subpoena if the Secretary
determines that such prohibition is necessary to prevent the
disclosure of such information or to prevent significant
impairment to the national interests of the United States. The
Secretary must provide written notice of such a prohibition to
the Treasury IG, who must, in turn, transmit a copy of such
notice to the Committees on Government Reform and Oversight and
Ways and Means of the House and the Committees on Governmental
Affairs and Finance of the Senate.
Access to taxpayer returns and return information
The Treasury IG has access to taxpayer returns and return
information under section 6103(h)(1) of the Code. However, such
access is subject to certain special requirements, including
the requirement that the Treasury IG notify the IRS Office of
the Chief Inspector (or the Deputy Commissioner in certain
circumstances) of its intent to access returns and return
information.
Reporting requirements
Under the IG Act of 1978, the Treasury IG reports to the
Congress semiannually on its activities. Reports from the
Treasury IG are transmitted to the Committees on Government
Reform and Oversight and Ways and Means of the House and the
Committees on Governmental Affairs and Finance of the Senate.
Resources
For fiscal year 1997, the Treasury IG had 296 FTEs and
total funding of $29.7 million. 174 FTEs were assigned to the
Treasury IG's audit function and 61 were assigned to the
investigative function. The remaining FTEs were divided among
the following functions: evaluations, legal, program,
technology and administrative support. Of the total Treasury IG
FTEs, approximately 23 were used for IRS oversight activities
in fiscal year 1997.
IRS Office of Chief Inspector
The IRS Office of the Chief Inspector (also known as the
``Inspection Service'') was established on October 1, 1951, in
response to publicity revealing widespread corruption in the
IRS. At the time of its creation, President Harry S. Truman
stated, ``A strong, vigorous inspection service will be
established and will be made completely independent of the rest
of the Internal Revenue Service.''
Appointment of the Chief Inspector
In 1952, the Office of the Assistant Commissioner
(Inspection) was established. The office was redesignated as
the Office of the Chief Inspector on March 25, 1990. The Chief
Inspector is appointed by the Commissioner. In this regard,
pursuant to Treasury Director 40-01, the Commissioner must
consult with the Treasury IG before selecting candidates for
the position of Chief Inspector (and all other senior executive
service (``SES'') positions in the Office of the Chief
Inspector). The Commissioner must also consult with the
Treasury IG regarding annual performance appraisals for the
Chief Inspector and other SES officials.
The Office of the Chief Inspector consists of a National
Office and the offices of the Regional Inspectors. The offices
of the Regional Inspectors are located in the same cities and
have the same geographic boundaries as the offices of the four
IRS Regional Commissioners. The Regional Inspectors report
directly to the Chief Inspector.
Duties and responsibilities
The Office of the Chief Inspector generally is responsible
for carrying out internal audits and investigations that: (1)
promote the economic, efficient, and effective administration
of the nation's tax laws; (2) detect and deter fraud and abuse
in IRS programs and operations; and (3) protect the IRS against
external attempts to corrupt or threaten its employees. The
Chief Inspector reports directly to the Commissioner and Deputy
Commissioner of the IRS.
The IRS Inspection Service is divided into three functions:
Internal Security, Internal Audit, and Integrity Investigations
and Activities. Internal Security's responsibilities include
criminal investigations (employee conduct, bribery, assault and
threat and investigations of non-IRS employees for acts such as
impersonation, theft, enrolled agent misconduct, disclosure,
and anti-domestic terrorism) investigative support activities
(including forensic lab, computer investigative support, and
maintenance of law enforcement equipment), protection, and
background investigations.
Internal Audit is responsible for providing IRS management
with independent reviews and appraisals of all IRS activities
and operations. In addition, Internal Audit makes
recommendations to improve the efficiency and effectiveness of
programs and to assist IRS officials in carrying out their
program and operational responsibilities. In this regard,
Internal Audit generally conducts performance reviews (program
audits, system development audits, internal control audits) and
financial reviews (financial statement audits and financial
related reviews).
Integrity Investigations and Activities are joint internal
audit and internal security operations undertaken as a
proactive effort to detect and deter fraud and abuse within the
IRS. Integrity Investigations and Activities also includes the
UNAX Central Case Development Center. The Center was developed
in October, 1997, in response to the Taxpayer Browsing
Protection Act of 1997. Its purpose is to detect unauthorized
accesses to IRS computer systems by IRS employees and to refer
such instances to Internal Security investigators for further
investigation.
Authority
The Chief Inspector derives specific and general authority
from delegation by the Commissioner and Deputy Commissioner. In
addition, under section 7608(b) of the Code, the Chief
Inspector is authorized to perform certain functions in
connection with the duty of enforcing any of the criminal
provisions of the Code, including executing and serving search
and arrest warrants, serving subpoenas and summonses, making
arrests without warrant, carrying firearms, and seizing
property subject to forfeiture under the Code.
Access to taxpayer returns and return information
The Office of the Chief Inspector has full access to
taxpayer returns and return information.
Reporting requirements
The Office of the Chief Inspector reports facts developed
through its internal audit and internal security activities to
IRS management officials, who are charged with the
responsibility of reviewing IRS activities. The results of the
Chief Inspector's internal audit and internal security
activities also are reported to the Treasury IG and are
included in the Treasury IG's semiannual reports to Congress.
Internal audit reports prepared by the Office of the Chief
Inspector are provided monthly to the Government Accounting
Office, as well as to the House and Senate Appropriations
Committees. In addition, a monthly list of Internal Audit
reports is provided to Treasury and the Office of Management
and Budget. Reports of Investigation regarding criminal conduct
are referred to the Department of Justice for prosecution.
Resources
The IRS Office of the Chief Inspector had 1,202 FTEs for
1997 and total funding of $100.1 million. Of these FTEs,
approximately 442 performed Internal Audit functions, 511
performed Internal Security functions, and 94 performed
Integrity Investigations and Activities. Of the remaining FTEs,
approximately 95 were dedicated to information technology
functions and 60 staffed the offices of the Chief Inspector and
the Regional Inspectors.
Reasons for Change
The Committee believes that the current IRS Office of the
Chief Inspector lacks sufficient structural and actual autonomy
from the agency it is charged with monitoring and overseeing.
Further, the current relationship between the Treasury IG and
the IRS Office of the Chief Inspector does not foster
appropriate oversight over the IRS. The Committee believes that
the establishment of an independent Inspector General within
the Department of Treasury whose primary focus and
responsibility will be to audit, investigate, and evaluate IRS
programs will improve the quality as well as the credibility of
IRS oversight.
Explanation of Provision
In general
The bill establishes a new, independent, Treasury Inspector
General for Tax Administration (``Treasury IG for Tax
Administration'') within the Department of Treasury. The IRS
Office of the Chief Inspector is eliminated, and all of its
powers and responsibilities are transferred to the Treasury IG
for Tax Administration. The Treasury IG for Tax Administration
has the powers and responsibilities generally granted to
Inspectors General under the IG Act of 1978, without the
limitations that currently apply to the Treasury IG under
section D of the Act. The role of the existing Treasury IG is
redefined to exclude responsibility for the IRS. The Treasury
IG for Tax Administration is under the supervision of the
Secretary of Treasury, with certain additional reporting to the
Board and the Congress.
Appointment and qualifications of Treasury IG for Tax Administration
The Treasury IG for Tax Administration is selected by the
President, with the advice and consent of the Senate. The
Treasury IG for Tax Administration can be removed from office
by the President. The President must communicate the reasons
for such removal to both Houses of Congress.
The Treasury IG for Tax Administration must be selected
without regard to political affiliation and solely on the basis
of integrity and demonstrated ability in accounting, auditing,
financial analysis, law, management analysis, public
administration, or investigations. In addition, however, the
Treasury IG for Tax Administration should have experience in
tax administration and demonstrated ability to lead a large and
complex organization. The Treasury IG for Tax Administration
may not be employed by the IRS within the two years preceding
and the five years following his or her appointment.
The Treasury IG for Tax Administration is required to
appoint an Assistant Inspector General for Auditing and an
Assistant Inspector for Inspections. Under the bill, such
appointees, as well as any Deputy Inspector General(s)
appointed by the Treasury IG for Tax Administration, may not be
employed by the IRS within the two years preceding and the five
years following their appointments.
Duties and responsibilities of Treasury IG for Tax Administration
The Treasury IG for Tax Administration has the present-law
duties and responsibilities currently delegated to the Treasury
IG with respect to the IRS. In addition, the Treasury IG for
Tax Administration assumes all of the duties and
responsibilities currently delegated to the IRS Office of the
Chief Inspector. The Treasury IG for Tax Administration has
jurisdiction over IRS matters, as well as matters involving the
Board.
Accordingly, the Treasury IG for Tax Administration is
charged with conducting audits, investigations, and evaluations
of IRS programs and operations (including the Board) to promote
the economic, efficient and effective administration of the
nation's tax laws and to detect and deter fraud and abuse in
IRS programs and operations. In this regard, the Treasury IG
for Tax Administration specifically is directed to evaluate the
adequacy and security of IRS technology on an ongoing basis. In
addition, the Treasury IG for Tax Administration is responsible
for protecting the IRS against external attempts to corrupt or
threaten its employees. The Treasury IG for Tax Administration
is charged with investigating allegations of criminal
misconduct (e.g., Code sections 7212 , 7213, 7214, 7216 and new
section 7217), as well as administrative misconduct (e.g.,
violations of the Taxpayer Bill of Rights and the Taxpayer Bill
of Rights 2, the Office of Government Ethics Standards of
Ethical Conduct and the IRS Supplemental Standards of Ethical
Conduct).
In addition, the bill directs the Treasury IG for Tax
Administration to implement a program periodically to audit at
least one percent of all determinations (identified through a
random selection process) where the IRS has asserted either
section 6103 (directly or in connection with the Freedom of
Information Act or the Privacy Act) or law enforcement
considerations (i.e., executive privilege) as a rationale for
refusing to disclose requested information. The program must be
implemented within 6 months after establishment of the Treasury
IG for Tax Administration. The Treasury IG for Tax
Administration is directed to report any findings of improper
assertion of section 6103 or law enforcement considerations to
the Board.
Further, the Treasury IG for Tax Administration is directed
to establish a toll-free confidential telephone number for
taxpayers to register complaints of misconduct by IRS employees
and to publish the telephone number in IRS Publication 1.
There are no restrictions on the Treasury IG for Tax
Administration's ability to refer matters to the Department of
Justice. Thus, the Treasury IG for Tax Administration is
required to report to the Attorney General whenever the
Treasury IG for Tax Administration has reasonable grounds to
believe that there has been a violation of Federal criminal
law.
Authority of Treasury IG for Tax Administration
The Treasury IG for Tax Administration reports to and is
under the general supervision of the Secretary of Treasury.
Under the bill, the Secretary cannot prevent or prohibit the
Treasury IG for Tax Administration from initiating, carrying
out, or completing any audit or investigation or from issuing
any subpoena during the course of any audit or investigation.
Under the bill, the Treasury IG for Tax Administration must
provide to the Board all reports regarding IRS matters on a
timely basis and conduct audits or investigations requested by
the Board. The Treasury IG for Tax Administration also must, in
a timely manner, conduct such audits or investigations and
provide such reports as may be requested by the Commissioner.
In carrying out the duties and responsibilities described
above, the Treasury IG for Tax Administration has the present-
law authority generally granted to Inspectors General under the
IG Act of 1978. The limitations on the authority of the
Treasury IG under such Act do not apply to the Treasury IG for
Tax Administration. In addition, the Treasury IG for Tax
Administration has the authority granted to the IRS Office of
the Chief Inspector under present-law Code section 7608,
including the right to execute and serve search and arrest
warrants, to serve subpoenas and summonses, to make arrests
without warrant, to carry firearms, and to seize property
subject to forfeiture under the Code.
Resources
To ensure that the Treasury IG for Tax Administration has
sufficient resources to carry out his or her duties and
responsibilities under the bill, all but 300 FTEs from the IRS
Office of the Chief Inspector are transferred to the Treasury
IG for Tax Administration. Such FTEs include all of the FTEs
performing investigative functions in the Office of the Chief
Inspector Internal Security and Integrity Investigations and
Activities. In addition, the 21 FTEs previously transferred
from Inspection to Treasury IG pursuant to the 1990 MOU to
perform oversight of the IRS are transferred to the Treasury IG
for Tax Administration.
The Commissioner will retain approximately 300 FTEs from
the IRS Office of the Chief Inspector to staff an audit
function (including support staff) for internal IRS management
purposes. Like other IRS functions, however, this audit
function is subject to oversight and review by the Treasury IG
for Tax Administration.
Access to taxpayer returns and return information
Taxpayer returns and return information are available for
inspection by the Treasury IG for Tax Administration pursuant
to section 6103(h)(1). Thus, the Treasury IG for Tax
Administration has the same access to taxpayer returns and
return information as does the Chief Inspector under present
law.
Reporting requirements
The Treasury IG for Tax Administration is subject to the
semiannual reporting requirements set forth in section 5 of the
IG Act of 1978. As under present law, reports are made to the
Committees on Government Reform and Oversight and Ways and
Means of the House and the Committees on Governmental Affairs
and Finance of the Senate. The reports must contain the
information that is required to be reported by the Treasury IG
with respect to the IRS under present law, as well as
information regarding the source, nature and status of taxpayer
complaints and allegations of serious misconduct by IRS
employees received by the IRS or by the Treasury IG for Tax
Administration. In addition, the Treasury IG for Tax
Administration is required to report annually on certain
additional information (e.g., regarding the use of enforcement
statistics in evaluating IRS employees, the implementation of
various taxpayer rights protections, and IRS employee
terminations and mitigations) required by the bill.
Treasury IG
The Treasury IG generally continues to have its present-law
responsibilities and authority with respect to all Treasury
functions other than the IRS and the Board. However, the
Treasury IG generally does not have access to taxpayer returns
and return information under section 6103 (unless the Secretary
specifically authorizes such access).
The Treasury IG for Tax Administration operates
independently of the Treasury IG. The Secretary of Treasury is
directed to establish procedures pursuant to which the Treasury
IG for Tax Administration and the Treasury IG shall coordinate
audits and investigations in cases involving overlapping
jurisdiction.
The Treasury IG continues to have responsibility for
providing an opinion on the Department of Treasury's
consolidated financial statement as required under the Chief
Financial Officer Act. The Treasury IG for Tax Administration
is responsible for rendering an opinion on the IRS custodial
and administrative accounts (to the extent the Government
Accounting Office does not exercise its option to preempt under
the CFO Act).
Effective Date
The provision is effective 180 days after the date of
enactment.
F. Prohibition on Executive Branch Influence Over Taxpayer Audits (sec.
1105 of the bill and new sec. 7217 of the Code)
Present Law
There is no explicit prohibition in the Code on high-level
Executive Branch influence over taxpayer audits and collection
activity.
The Internal Revenue Code prohibits disclosure of tax
returns and return information, except to the extent
specifically authorized by the Internal Revenue Code (sec.
6103). Unauthorized disclosure is a felony punishable by a fine
not exceeding $5,000 or imprisonment of not more than five
years, or both (sec. 7213). An action for civil damages also
may be brought for unauthorized disclosure (sec. 7431).
Reasons for Change
The Committee believes that the perception that it is
possible that high-level Executive Branch influence over
taxpayer audits and collection activity could occur has a
negative influence on taxpayers' views of the tax system.
Accordingly, the Committee believes that it is appropriate to
prohibit such influence.
Explanation of Provision
The bill makes it unlawful for a specified person to
request that any officer or employee of the IRS conduct or
terminate an audit or otherwise investigate or terminate the
investigation of any particular taxpayer with respect to the
tax liability of that taxpayer. The prohibition applies to the
President, the Vice President, and employees of the executive
offices of either the President or Vice President, as well as
any individual (except the Attorney General) serving in a
position specified in section 5312 of Title 5 of the United
States Code (these are generally Cabinet-level positions). The
prohibition applies to both direct requests and requests made
through an intermediary. In the case of a law enforcement
action authorized by the Attorney General, discussions
involving specified persons with respect to that law
enforcement action shall not be considered to be requests made
through an intermediary.
Any request made in violation of this rule must be reported
by the IRS employee to whom the request was made to the Chief
Inspector of the IRS. The Chief Inspector has the authority to
investigate such violations and to refer any violations to the
Department of Justice for possible prosecution, as appropriate.
Anyone convicted of violating this provision will be punished
by imprisonment of not more than 5 years or a fine not
exceeding $5,000 (or both).
Three exceptions to the general prohibition apply. First,
the prohibition does not apply to a request made to a specified
person by or on behalf of a taxpayer that is forwarded by the
specified person to the IRS. This exception is intended to
cover two types of situations. The first situation is where a
taxpayer (or a taxpayer's representative) writes to a specified
person seeking assistance in resolving a difficulty with the
IRS. This exception permits the specified person who receives
such a request to forward it to the IRS for resolution without
violating the general prohibition. The second situation that
this first exception is intended to cover is an audit or
investigation by the IRS of a Presidential nominee. Under
present law (sec. 6103(c)), nominees for Presidentially
appointed positions consent to disclosure of their tax returns
and return information so that background checks may be
conducted. Sometimes an audit or other investigation is
initiated as part of that background check. The Committee
anticipates that any such audit or investigation that is part
of such a background check will be encompassed within this
first exception.
The second exception to the general prohibition applies to
requests for disclosure of returns or return information under
section 6103 if the request is made in accordance with the
requirements of section 6103.
The third exception to the general prohibition applies to
requests made by the Secretary of the Treasury as a consequence
of the implementation of a change in tax policy.
Effective Date
The provision applies to violations occurring after the
date of enactment.
G. IRS Personnel Flexibilities (Secs. 1201-1205 of the bill and new
chapter 95 of Title 5, U.S.C.)
Present Law
The IRS is subject to the personnel rules and procedures
set forth in title 5, United States Code. Under these rules,
IRS employees generally are classified under the General
Schedule or the Senior Executive Service.
Reasons for Change
The Committee believes that as part of restructuring the
IRS, the Commissioner should have the ability to bring in
experts and the flexibility to revitalize the current IRS
workforce. The current hiring practices often inhibit the
ability of the Commissioner to change the IRS' institutional
culture. Commissioner Rossotti has indicated that in order to
maximize efforts to transform the IRS into an efficient, modern
and responsive agency, the ability to recruit and retain a top-
notch leadership and technical team is critical.
The Committee believes the IRS needs the flexibility to
recruit employees from the private sector, to redesign its
salary and incentive structures to reward employees who meet
their objectives, and to hold non-performers accountable.
Personnel and pay flexibilities are necessary prerequisites for
larger fundamental changes in the IRS.
The Committee wants to support the Commissioner's
initiatives to reposition the current IRS workforce as part of
implementing a new organization designed around the needs of
taxpayers.
Explanation of Provision
In general
The bill amends title 5 of the United States Code to
provide certain personnel flexibilities to the IRS. In general,
the bill provides that the IRS exercise the personnel
flexibilities consistently with existing rules relating to
merit system principles, prohibited personnel practices, and
preference eligibles. In those cases where the exercise of
personnel flexibilities would affect members of the employees'
union, such employees' will not be subject to the exercise of
any flexibility unless there is a written agreement between the
IRS and the employees' union. Negotiation impasses between the
IRS and the employees' union may be appealed to the Federal
Services Impasse Panel.
Senior management and technical positions
Streamlined critical pay authority
The bill provides a streamlined process for the Secretary
of the Treasury, or his delegate, to fix the compensation of,
and appoint up to 40 individuals to, designated critical
technical and professional positions, provided that: (1) the
positions require expertise of an extremely high level in a
technical, administrative or professional field and are
critical to the IRS; (2) exercise of the authority is necessary
to recruit or retain an individual exceptionally well qualified
for the position; (3) designation of such positions is approved
by the Secretary; (4) the terms of such appointments are
limited to no more than four years; (5) appointees to such
positions are not IRS employees immediately prior to such
appointment; and (6) the total annual compensation for any
position (including performance bonuses) does not exceed the
rate of pay of the Vice President (currently $175,400).
These appointments are not subject to the otherwise
applicable requirements under title 5. All such appointments
will be excluded from the collective bargaining unit and the
appointments will not be subject to approval of the Office of
Management and Budget (``OMB'') or the Office of Personnel
Management (``OPM'').
The streamlined authority will be limited to a period of 10
years.
Critical pay authority
The bill provides OMB with authority to set the pay for
certain critical pay positions requested by the Secretary under
section 5377 of title 5 of the United States Code at levels
higher than authorized under current law. These critical pay
positions would be critical, technical, administrative and
professional positions other than those designated under the
streamlined authority. Under the bill, OMB is authorized to
approve requests for critical position pay up to the rate of
pay of the Vice President (currently $175,400).
Recruitment, retention and relocation incentives
The bill authorizes the Secretary to vary from the existing
provisions governing recruitment, retention and relocation
incentives. The authority will be for a period of 10 years and
will be subject to OPM approval.
Career-reserve Senior Executive Service (``SES'') positions
The bill broadens the definition of a ``career reserved
position'' in the SES to include a limited emergency appointee
or a limited term appointee who, immediately upon entering the
career-reserved position, was serving under a career or a
career-conditional appointment outside the SES or whose limited
emergency or limited term appointment is approved in advance by
OPM. The number of appointments to these SES positions will be
limited to up to 10 percent of the total number of SES
positions available to the IRS. These positions will be limited
to a 3-year term, with the option of extending the term for 2
more 3-year terms.
Variable compensation
The bill provides the Secretary with the authority to
provide performance bonus awards to IRS senior executives of up
to one-third of the individual's annual compensation. The bonus
award would be based on meeting preset performance goals
established by the IRS. An individual's total annual
compensation, including the bonus, cannot exceed the rate of
pay of the Vice President. The authority will not be subject to
OPM approval.
It is anticipated that the bonuses will not be available to
more than 25 IRS senior executives annually.
General workforce
Performance management system
The bill permits the Secretary to establish a new
performance management system which will maintain individual
accountability by: (1) establishing one or more retention
standards for each employee related to the work of the employee
and expressed in terms of performance; (2) providing for
periodic performance evaluations to determine whether employees
are meeting the applicable retention standard; and (3) taking
appropriate action, in accordance with applicable laws, with
respect to any employee whose performance does not meet
established retention standards.
The bill requires that the performance management system
provide for: (1) establishing goals or objectives for
individual, group or organizational performance and taxpayer
service surveys; (2) communicating such goals or objectives to
employees; and (3) using such goals or objectives to make
performance distinctions among employees or groups of
employees.
It is intended that in no event will performance measures
be used which rank employees or groups of employees based on
enforcement results, establish dollar goals for assessments or
collections, or otherwise undermine fair treatment of
taxpayers.
Awards
The bill provides the Secretary the authority to establish
an awards program for IRS employees. The program will be
designed to provide incentives for and recognition of
individual, group and organizational achievements. The
Secretary will have the authority to provide awards between
$10,000 and $25,000 without OPM approval.
These awards will be based on performance under the new
performance management system, and in no case will awards be
made (or performance measured) based on tax enforcement
results.
Workforce classification and pay banding
The bill provides the Secretary with authority to establish
one or more broad band pay systems covering all or any portion
of the IRS workforce, subject to OPM criteria. At a minimum,
the OPM criteria will have to: (1) ensure that the pay band
system maintain the concept of equal pay for substantially
equal work; (2) establish the minimum and maximum number of
grades that may be combined into pay bands; (3) establish
requirements for setting minimum and maximum rates of pay in a
pay band; (4) establish requirements for adjusting the pay of
an employee within a pay band; (5) establish requirements for
setting the pay of a supervisory employee in a pay band; and
(6) establish requirements and methodologies for setting the
pay of an employee upon conversion to a broad-banded system,
initial appointment, change of position or type of appointment
and movement between a broad-banded system and another pay
system.
Workforce staffing
The bill provides the IRS with flexibility in filling
certain permanent appointments with qualified temporary
employees. A qualified temporary employee is defined as a
temporary employee of the IRS with at least two years of
continuous service, who has met all applicable retention
standards and who meets the minimum qualifications for the
vacant position.
The bill authorizes the IRS to establish category rating
systems for evaluating job applicants, under which qualified
candidates are divided into two or more quality categories on
the basis of relative degrees of merit, rather than assigned
individual numerical ratings. Managers will be authorized to
select any candidate from the highest quality category, and
will not be limited to the three highest ranked candidates. In
administering these category rating systems, the IRS generally
will be required to list preference eligibles ahead of other
individuals within each quality category. The appointing
authority, however, could select any candidate from the highest
quality category, as long as existing requirements relating to
passing over preference eligibles are satisfied.
The bill authorizes the IRS to establish probation periods
for IRS employees of up to 3 years, when it is determined that
a shorter period will not be sufficient for an employee to
demonstrate proficiency in a position.
Voluntary separation incentives
The bill provides authority to the IRS to use Voluntary
Separation Incentive Pay (``buyouts'') through December 31,
2002. The use of voluntary separation incentive is not intended
to necessarily reduce the total number of Full Time Equivalents
(``FTE'') positions in the IRS.
Demonstration projects
The bill provides the IRS with authority to conduct one or
more demonstration projects through a streamlined process. The
authority will enable the IRS to test new approaches to Human
Resource Management. The bill provides authority to the
Secretary and OPM to waive the termination of a demonstration
project, thereby making it permanent. At least 90 days prior to
waiving the termination date OPM will be required to publish a
notice of such intent in the Federal Register and inform the
appropriate Committees (including the House Ways and Means
Committee, the House Government Reform and Oversight Committee,
the Senate Finance Committee and the Senate Governmental
Affairs Committee) of both Houses of Congress in writing.
Performance measures
The IRS is directed to develop employee performance
measures that favor taxpayer service and prohibit awarding
merit pay or bonuses that are based on enforcement quotas,
goals, or statistics.
Violations for which IRS employees may be terminated
The bill requires the IRS to terminate an employee for
certain proven violations committed by the employee in
connection with the performance of official duties. The
violations include: (1) failure to obtain the required approval
signatures on documents authorizing the seizure of a taxpayer's
home, personal belongings, or business assets; (2) providing a
false statement under oath material to a matter involving a
taxpayer; (3) falsifying or destroying documents to avoid
uncovering mistakes made by the employee with respect to a
matter involving a taxpayer; (4) assault or battery on a
taxpayer or other IRS employee; (5) violation of the civil
rights of a taxpayer or other IRS employee; (6) violations of
the Internal Revenue Code, Treasury Regulations, or policies of
the IRS (including the Internal Revenue Manual) for the purpose
of retaliating or harassing a taxpayer or other IRS employee;
and (7) wilful misuse of section 6103 for the purpose of
concealing data from a Congressional inquiry.
The bill provides non-delegable authority to the
Commissioner to determine that mitigating factors exist, that,
in the Commissioner's sole discretion, mitigate against
terminating the employee. The bill also provides that the
Commissioner, in his sole discretion, may establish a procedure
which will be used to determine whether an individual should be
referred for such a determination by the Commissioner. The
Treasury IG is required to track employee terminations and
terminations that would have occurred had the Commissioner not
determined that there were mitigation factors and include such
information in the IG's annual report.
IRS employee training program
The bill requires the IRS to place a high priority on
employee training and to adequately fund employee training
programs. The bill also requires the IRS to provide to the
Congressional tax writing committees a comprehensive multi-year
plan to: (1) ensure adequate customer service training; (2)
review the organizational design of customer service; (3)
implement a performance development system; and (4) provide, in
fiscal year 1999, sixteen to twenty-four hours of conflict
management training for collection employees.
Effective Date
The provision, other than the IRS employee training program
provision, is effective on the date of enactment. The provision
relating to the IRS employee training program is effective 90
days after the date of enactment.
Title II. Electronic Filing
A. Electronic Filing of Tax and Information Returns (sec. 2001 of the
bill)
Present Law
Treasury Regulations section 1.6012-5 provides that the
Commissioner may authorize a taxpayer to elect to file a
composite return in lieu of a paper return. An electronically
filed return is a composite return consisting of electronically
transmitted data and certain paper documents that cannot be
electronically transmitted.
The IRS periodically publishes a list of the forms and
schedules that may be electronically transmitted, as well as a
list of forms, schedules, and other information that cannot be
electronically filed.
During the 1997 tax filing season, the IRS received
approximately 20 million individual income tax returns
electronically.
Reasons for Change
The Committee believes that the implementation of a
comprehensive strategy to encourage electronic filing of tax
and information returns holds significant potential to benefit
taxpayers and make the IRS returns processing function more
efficient. For example, the error rate associated with
processing paper tax returns is approximately 20 percent, half
of which is attributable to the IRS and half to error in
taxpayer data. Because electronically-filed returns usually are
prepared using computer software programs with built-in
accuracy checks, undergo pre-screening by the IRS, and
experience no key punch errors, electronic returns have an
error rate of less than one percent. Thus, the Committee
believes that an expansion of electronic filing will
significantly reduce errors (and the resulting notices that are
triggered by such errors). In addition, taxpayers who file
their returns electronically receive confirmation from the IRS
that their return was received.
Explanation of Provision
The provision states that the policy of Congress is to
promote paperless filing, with a long-range goal of providing
for the filing of at least 80 percent of all tax returns in
electronic form by the year 2007. The provision requires the
Secretary of the Treasury to establish a strategic plan to
eliminate barriers, provide incentives, and use competitive
market forces to increase taxpayer use of electronic filing.
The provision requires all returns prepared in electronic form
but filed in paper form to be filed electronically, to the
extent feasible, by the year 2002.
The provision requires the Secretary to create an
electronic commerce advisory group and to report annually to
the tax-writing committees on the IRS's progress in
implementing its plan to meet the goal of 80 percent electronic
filing by 2007.
Effective Date
The provision is effective on the date of enactment.
B. Due Date for Certain Information Returns (sec. 2002 of the bill and
sec. 6071 of the Code)
Present Law
Information such as the amount of dividends, partnership
distributions, and interest paid during the calendar year must
be supplied to taxpayers by the payors by January 31 of the
following calendar year. The payors must file an information
return with the IRS with the information by February 28 of the
year following the calendar year for which the return must be
filed. Under present law, the due date for filing information
returns with the IRS is the same whether such returns are filed
on paper, on magnetic media, or electronically. Most
information returns are filed on magnetic media (such as
computer tapes), which are physically shipped to the IRS.
Reasons for Change
The Committee believes that encouraging information return
filers to file electronically will substantially increase the
efficiency of the tax system by avoiding the need to convert
the information from magnetic media or paper to electronic form
before return matching.
Explanation of Provision
The provision provides an incentive to filers of
information returns to use electronic filing by extending the
due date for filing such returns from February 28 (under
present law) to March 31 of the year following the calendar
year to which the return relates.
The provision also requires the Treasury to issue a study
evaluating the merits and disadvantages, if any, of extending
the deadline for providing taxpayers with copies of information
returns from January 31 to February 15 (Forms W-2 would still
be required to be furnished by January 31).
Effective Date
The extension of the due date for filing returns applies to
information returns required to be filed after December 31,
1999. The Treasury study is due by December 31, 1998.
C. Paperless Electronic Filing (sec. 2003 of the bill and sec. 6061 of
the Code)
Present Law
Code section 6061 requires that tax forms be signed as
required by the Secretary. The IRS will not accept an
electronically filed return unless it has also received a Form
8453, which is a paper form that contains signature information
of the filer.
A return generally is considered timely filed when it is
received by the IRS on or before the due date of the return. If
the requirements of Code section 7502 are met, timely mailing
is treated as timely filing. If the return is mailed by
registered mail, the dated registration statement is prima
facie evidence of delivery. As an electronically filed return
is not mailed, section 7502 does not apply.
The IRS periodically publishes a list of the forms and
schedules that may be electronically transmitted, as well as a
list of forms, schedules, and other information that cannot be
electronically filed.
Reasons for Change
Electronically filed returns cannot provide the maximum
efficiency for taxpayers and the IRS under current rules that
require signature information to be filed on paper. Also,
taxpayers need to know how the IRS will determine the filing
date of a return filed electronically. The Committee believes
that more types of returns could be filed electronically if
proper procedures were in place. Also, as the IRS shifts to a
paperless tax return system, the Committee intends for the IRS
to assist taxpayers in shifting to paperless record retention.
Explanation of Provision
The provision requires the Secretary to develop procedures
that would eliminate the need to file a paper form relating to
signature information. Until the procedures are in place, the
provision authorizes the Secretary to provide for alternative
methods of signing all returns, declarations, statements, or
other documents. An alternative method of signature would be
treated identically, for both civil and criminal purposes, as a
signature on a paper form.
The provision also provides rules for determining when
electronic returns are deemed filed and to make it possible for
taxpayers to authorize, on electronically filed returns,
persons (such as return preparers) to whom information may be
disclosed pursuant to section 6103.
The provision requires the Secretary to establish
procedures, to the extent practicable, to receive all forms
electronically for taxable periods beginning after December 31,
1998.
Effective Date
The provision is effective on the date of enactment.
D. Return-Free Tax System (sec. 2004 of the bill)
Present Law
Under present law, taxpayers generally are required to
calculate their own tax liabilities and submit returns showing
their calculations.
Reasons for Change
The Committee believes that it would benefit taxpayers to
be relieved, to the extent feasible, from the burden of
determining tax liability and filing returns.
Explanation of Provision
The provision requires the Secretary or his delegate to
study the feasibility of, and develop procedures for, the
implementation of a return-free tax system for appropriate
individuals for taxable years beginning after 2007. The
Secretary is required annually to report to the tax-writing
committees on the progress of the development of such system.
The Secretary is required to make the first report on the
development of the return-free tax system to the tax-writing
committees by June 30, 2000.
Effective Date
The provision is effective on the date of enactment.
E. Access to Account Information (sec. 2005 of the bill)
Present Law
Taxpayers who file their returns electronically cannot
review their accounts electronically.
Reasons for Change
The Committee believes that it would be desirable for a
taxpayer (or the taxpayer's designee) to be able to review that
taxpayer's account electronically, but only if all necessary
privacy safeguards are in place.
Explanation of Provision
The provision requires the Secretary to develop procedures
not later than December 31, 2006, under which a taxpayer filing
returns electronically (or the taxpayer's designee under
section 6103(c)) could review the taxpayer's own account
electronically, but only if all necessary privacy safeguards
are in place by that date. The Secretary is required to issue
an interim progress report to the tax-writing committees by
December 31, 2003.
Effective Date
The provision is effective on the date of enactment.
Title III. Taxpayer Protection and Rights
A. Burden of Proof (sec. 3001 of the bill and new sec. 7491 of the
Code)
Present Law
Under present law, a rebuttable presumption exists that the
Commissioner's determination of tax liability is
correct.19 ``This presumption in favor of the
Commissioner is a procedural device that requires the plaintiff
to go forward with prima facie evidence to support a finding
contrary to the Commissioner's determination. Once this
procedural burden is satisfied, the taxpayer must still carry
the ultimate burden of proof or persuasion on the merits. Thus,
the plaintiff not only has the burden of proof of establishing
that the Commissioner's determination was incorrect, but also
of establishing the merit of its claims by a preponderance of
the evidence''.20
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\19\ Welch v. Helvering, 290 U.S. 111, 115 (1933).
\20\ Danville Plywood Corp. v. U.S., U.S. Cl. Ct., 63 AFTR 2d 89-
1036, 1043 (1989); citations omitted.
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The general rebuttable presumption that the Commissioner's
determination of tax liability is correct is a fundamental
element of the structure of the Internal Revenue Code. Although
this presumption is judicially based, rather than legislatively
based, there is considerable evidence that the presumption has
been repeatedly considered and approved by the Congress. This
is the case because the Internal Revenue Code contains a number
of civil provisions that explicitly place the burden of proof
on the Commissioner in specifically designated circumstances.
The Congress would have enacted these provisions only if it
recognized and approved of the general rule of presumptive
correctness of the Commissioner's determination. A list of
these civil provisions follows.
(1) Fraud.--Any proceeding involving the issue of whether
the taxpayer has been guilty of fraud with intent to evade tax
(secs. 7454(a) and 7422(e)).
(2) Required reasonable verification of information
returns.--In any court proceeding, if a taxpayer asserts a
reasonable dispute with respect to any item of income reported
on an information returned filed with the Secretary by a third
party and the taxpayer has fully cooperated with the Secretary
(including providing, within a reasonable period of time,
access to and inspection of all witnesses, information, and
documents within the control of the taxpayer as reasonably
requested by the Secretary), the Secretary has the burden of
producing reasonable and probative information concerning such
deficiency in addition to such information return (sec.
6201(d)).
(3) Foundation managers.--Any proceeding involving the
issue of whether a foundation manager has knowingly
participated in prohibited transactions (sec. 7454(b)).
(4) Transferee liability.--Any proceeding in the Tax Court
to show that a petitioner is liable as a transferee of property
of a taxpayer (sec. 6902(a)).
(5) Review of jeopardy levy or assessment procedures.--Any
proceeding to review the reasonableness of a jeopardy levy or
jeopardy assessment (sec. 7429(g)(1)).
(6) Property transferred in connection with performance of
services.--In the case of property subject to a restriction
that by its terms will never lapse and that allows the
transferee to sell only at a price determined under a formula,
the price is deemed to be fair market value unless established
to the contrary by the Secretary (sec. 83(d)(1)).
(7) Illegal bribes, kickbacks, and other payments.--As to
whether a payment constitutes an illegal bribe, illegal
kickback, or other illegal payment (sec. 162(c) (1) and (2)).
(8) Golden parachute payments.--As to whether a payment is
a parachute payment on account of a violation of any generally
enforced securities laws or regulations (sec. 280G(b)(2)(B)).
(9) Unreasonable accumulation of earnings and profits.--In
any Tax Court proceeding as to whether earnings and profits
have been permitted to accumulate beyond the reasonable needs
of the business, provided that the Commissioner has not
fulfilled specified procedural requirements (sec. 534).
(10) Expatriation.--As to whether it is reasonable to
believe that an individual's loss of citizenship would result
in a substantial reduction in the individual's income taxes or
transfer taxes (secs. 877(e), 2107(e), 2501(a)(4)).
(11) Public inspection of written determinations.--In any
proceeding seeking additional disclosure of information (sec.
6110(f)(4)(A)).
(12) Penalties for promoting abusive tax shelters, aiding
and abetting the understatement of tax liability, and filing a
frivolous income return.--As to whether the person is liable
for the penalty (sec. 6703(a)).
(13) Income tax return preparers' penalty.--As to whether a
preparer has willfully attempted to understate tax liability
(sec. 7427).
(14) Status as employees.--As to whether individuals are
employees for purposes of employment taxes (pursuant to the
safe harbor provisions of section 530 of the Revenue Act of
1978). 21
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\21\ Public Law 95-600 (November 6, 1978), as amended by section
1122 of the Small Business Job Protection Act of 1996 (Public Law 104-
188; August 20, 1996).
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Reasons for Change
The Committee is concerned that individual and small
business taxpayers frequently are at a disadvantage when forced
to litigate with the Internal Revenue Service. The Committee
believes that the present burden of proof rules contribute to
that disadvantage. The Committee believes that, all other
things being equal, facts asserted by individual and small
business taxpayers who cooperate with the IRS and satisfy
relevant recordkeeping and substantiation requirements should
be accepted. The Committee believes that shifting the burden of
proof to the Secretary in such circumstances will create a
better balance between the IRS and such taxpayers, without
encouraging tax avoidance.
The Committee believes that it is inappropriate for the IRS
to rely solely on statistical information on unrelated
taxpayers to reconstruct unreported income of an individual
taxpayer. The Committee also believes that, in a court
proceeding, the IRS should not be able to rest on its
presumption of correctness if it does not provide any evidence
whatsoever relating to penalties.
Explanation of Provision
The provision provides that the Secretary shall have the
burden of proof in any court proceeding with respect to a
factual issue if the taxpayer introduces credible evidence with
respect to the factual issue relevant to ascertaining the
taxpayer's income tax liability. Four conditions apply. First,
the taxpayer must comply with the requirements of the Internal
Revenue Code and the regulations issued thereunder to
substantiate any item (as under present law). Second, the
taxpayer must maintain records required by the Code and
regulations (as under present law). Third, the taxpayer must
cooperate with reasonable requests by the Secretary for
meetings, interviews, witnesses, information, and documents
(including providing, within a reasonable period of time,
access to and inspection of witnesses, information, and
documents within the control of the taxpayer, as reasonably
requested by the Secretary). Cooperation also includes
providing reasonable assistance to the Secretary in obtaining
access to and inspection of witnesses, information, or
documents not within the control of the taxpayer (including any
witnesses, information, or documents located in foreign
countries 22). A necessary element of cooperating
with the Secretary is that the taxpayer must exhaust his or her
administrative remedies (including any appeal rights provided
by the IRS). The taxpayer is not required to agree to extend
the statute of limitations to be considered to have cooperated
with the Secretary. Cooperating also means that the taxpayer
must establish the applicability of any privilege. Fourth,
taxpayers other than individuals must meet the net worth
limitations that apply for awarding attorney's fees
(accordingly, no net worth limitation would be applicable to
individuals). Corporations, trusts, and partnerships whose net
worth exceeds $7 million are not eligible for the benefits of
the provision. The taxpayer has the burden of proving that it
meets each of these conditions, because they are necessary
prerequisites to establishing that the burden of proof is on
the Secretary.
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\22\ Cooperation also includes providing English translations, as
reasonably requested by the Secretary.
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The burden will shift to the Secretary under this provision
only if the taxpayer first introduces credible evidence with
respect to a factual issue relevant to ascertaining the
taxpayer's income tax liability. Credible evidence is the
quality of evidence which, after critical analysis, the court
would find sufficient upon which to base a decision on the
issue if no contrary evidence were submitted (without regard to
the judicial presumption of IRS correctness). A taxpayer has
not produced credible evidence for these purposes if the
taxpayer merely makes implausible factual assertions, frivolous
claims, or tax protestor-type arguments. The introduction of
evidence will not meet this standard if the court is not
convinced that it is worthy of belief. If after evidence from
both sides, the court believes that the evidence is equally
balanced, the court shall find that the Secretary has not
sustained his burden of proof.
Nothing in the provision shall be construed to override any
requirement under the Code or regulations to substantiate any
item. Accordingly, taxpayers must meet applicable
substantiation requirements, whether generally imposed
23 or imposed with respect to specific items, such
as charitable contributions 24 or meals,
entertainment, travel, and certain other expenses.
25 Substantiation requirements include any
requirement of the Code or regulations that the taxpayer
establish an item to the satisfaction of the Secretary.
26 Taxpayers who fail to substantiate any item in
accordance with the legal requirement of substantiation will
not have satisfied the legal conditions that are prerequisite
to claiming the item on the taxpayer's tax return and will
accordingly be unable to avail themselves of this provision
regarding the burden of proof. Thus, if a taxpayer required to
substantiate an item fails to do so in the manner required (or
destroys the substantiation), this burden of proof provision is
inapplicable.27
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\23\ See e.g., Sec. 6001 and Treas. Reg. sec. 1.6001-1 requiring
every person liable for any tax imposed by this Title to keep such
records as the Secretary may from time to time prescribe, and secs.
6038 and 6038A requiring United States persons to furnish certain
information the Secretary may prescribe with respect to foreign
businesses controlled by the U.S. person.
\24\ Sec. 170(a)(1) and (f)(8) and Treas. Reg. sec. 1.170A-13.
\25\ See e.g., Sec. 274(d) and Treas. Reg. sec. 1.274(d)-1, 1.274-
5T, and 1.274-5A.
\26\ For example, sec. 905(b) of the Code provides that foreign
tax credits shall be allowed only if the taxpayer establishes to the
satisfaction of the Secretary all information necessary for the
verification and computation of the credit. Instructions for meeting
that requirement are set forth in Treas. Reg. sec. 1.905-2.
\27\ If, however, the taxpayer can demonstrate that he had
maintained the required substantiation but that it was destroyed or
lost through no fault of the taxpayer, such as by fire or flood,
existing tax rules regarding reconstruction of those records would
continue to apply.
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The provision also provides that in any instance in which
the Secretary uses statistical information from unrelated
taxpayers solely to reconstruct an individual taxpayer's income
(such as average income for taxpayers in the area in which the
taxpayer lives), the burden of proof is on the Secretary with
respect to the item of income that was reconstructed by the
Secretary.
Further, the provision provides that, in any court
proceeding, the Secretary must initially come forward with
evidence that it is appropriate to apply a particular penalty
to the taxpayer before the court can impose the penalty. This
provision is not intended to require the Secretary to introduce
evidence of elements such as reasonable cause or substantial
authority. Rather, the Secretary must come forward initially
with evidence regarding the appropriateness of applying a
particular penalty to the taxpayer; if the taxpayer believes
that, because of reasonable cause, substantial authority, or a
similar provision, it is inappropriate to impose the penalty,
it is the taxpayer's responsibility (and not the Secretary's
obligation) to raise those issues.
Effective Date
The provision applies to court proceedings arising in
connection with examinations commencing after the date of
enactment.
B. Proceedings by Taxpayers
1. Expansion of authority to award costs and certain fees (sec. 3101 of
the bill and sec. 7430 of the Code)
Present Law
Any person who substantially prevails in any action by or
against the United States in connection with the determination,
collection, or refund of any tax, interest, or penalty may be
awarded reasonable administrative costs incurred before the IRS
and reasonable litigation costs incurred in connection with any
court proceeding. Reasonable administrative costs are defined
as (1) any administrative fees or similar charges imposed by
the IRS and (2) expenses, costs and fees related to attorneys,
expert witnesses, and studies or analyses necessary for
preparation of the case, to the extent that such costs are
incurred before earlier of the date of the notice of decision
by IRS Appeals or the notice of deficiency (sec. 7430(c)(2)).
Net worth limitations apply.
Reasonable litigation costs include reasonable fees paid or
incurred for the services of attorneys, except that the
attorney's fees will not be reimbursed at a rate in excess of
$110 per hour (indexed for inflation) unless the court
determines that a special factor, such as the limited
availability of qualified attorneys for the proceeding,
justifies a higher rate.
Rule 68 of the Federal Rules of Civil Procedure (FRCP)
provides a procedure under which a party may recover costs if
the party's offer for judgment was rejected and the subsequent
court judgment was less favorable to the opposing party than
the offer. The offering party's costs are limited to the costs
(excluding attorney's fees) incurred after the offer was made.
The FRCP generally apply to tax litigation in the district
courts and the United States Court of Federal Claims.
Code section 7431 permits the award of civil damages for
unauthorized inspection or disclosure of return information.
The Federal appellate courts are split over whether a party
whosubstantially prevails over the United States in an action under
Code section 7431 is eligible for an award of fees and reasonable
costs.28
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\28\ See McLarty v. United States, 6 F.2d 545 (8th Cir. 1993)
(holding that the taxpayer may not recover fees and costs) and Huckaby
v. United States Department of Treasury, 804 F.2d 297 (5th Cir. 1986)
(holding that the taxpayer may recover fees and costs).
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Reasons for Change
The Committee believes that taxpayers should be allowed to
recover the reasonable administrative costs they incur where
the IRS takes a position against the taxpayer that is not
substantially justified, beginning at the time that the IRS
establishes its initial position by issuing a letter of
proposed deficiency which allows the taxpayer an opportunity
for administrative review by the IRS Office of Appeals.
The Committee believes that the pro bono publicum
representation of taxpayers should be encouraged and the value
of the legal services rendered in these situations should be
recognized. Where the IRS takes positions that are not
substantially justified, it should not be relieved of its
obligation to bear reasonable administrative and litigation
costs because representation was provided the taxpayer on a pro
bono basis.
The Committee is concerned that the IRS may continue to
litigate issues that have previously been decided in favor of
taxpayers in other circuits. The Committee believes that this
places an undue burden on taxpayers that are required to
litigate such issues. Accordingly, the Committee believes it is
important that the court take into account whether the IRS has
lost in the courts of appeals of other circuits on similar
issues in determining whether the IRS has taken a position that
is not substantially justified and thus liable for reasonable
administrative and litigation costs.
The Committee believes that settlement of tax cases should
be encouraged whenever possible. Accordingly, the Committee
believes that the application of a rule similar to FRCP 68 is
appropriate to provide an incentive for the IRS to settle
taxpayers'' cases for appropriate amounts, by requiring
reimbursement of taxpayer's costs when the IRS fails to do so.
The Committee believes that when the IRS violates
taxpayer's right to privacy by engaging in unauthorized
inspection or disclosure activities, it is appropriate to
reimburse taxpayers for the costs of their damages.
Explanation of Provision
The provision:
(1) moves the point in time after which reasonable
administrative costs can be awarded to the date on
which the first letter of proposed deficiency which
allows the taxpayer an opportunity for administrative
review in the IRS Office of Appeals is sent;
(2) permits awards of reasonable attorney's fees by
deleting the hourly rate caps (and the exceptions to
those caps);
(3) permits the award of reasonable attorney's fees
to specified persons who represent for no more than a
nominal fee a taxpayer who is a prevailing party;
(4) provides that in determining whether the position
of the United States was substantially justified, the
court shall take into account whether the United States
has lost in other courts of appeal on substantially
similar issues;
(5) provides that if a taxpayer makes an offer after
the taxpayer has a right to administrative review in
the IRS Office of Appeals, the IRS rejects the offer,
and later the IRS obtains a judgment 29
against the taxpayer in an amount that is equal to or
less than the taxpayer's offer for the amount of the
tax liability (excluding interest), reasonable costs
and attorney's fees from the date of the offer would be
awarded; and
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\29\ A judgment pursuant to a stipulation or a settlement will not
be treated as a judgment for this purpose.
---------------------------------------------------------------------------
(6) permits the award of attorney's fees in actions
for civil damages for unauthorized inspection or
disclosure of taxpayer returns and return information.
The above rules for making awards apply subject to the same
net worth limitations as under present law.
Effective Date
The provision applies to eligible costs and services
incurred more than 180 days after the date of enactment.
2. Civil damages for collection actions (sec. 3102 of the bill and
secs. 7426 and 7433 of the Code)
Present Law
A taxpayer may sue the United States for up to $1 million
of civil damages caused by an officer or employee of the IRS
who recklessly or intentionally disregards provisions of the
Internal Revenue Code or Treasury regulations in connection
with the collection of Federal tax with respect to the
taxpayer.
Reasons for Change
The Committee believes that taxpayers should also be able
to recover economic damages they incur as a result of the
negligent disregard of the Code or regulations by an officer or
employee of the IRS in connection with a collection matter. The
Committee also believes that taxpayers should be able to
recover civil damages they incur as a result of a willful
violation ofthe Bankruptcy Code by an officer or employee of
the IRS. As third parties may also be subject to IRS collection
actions, the Committee believes that it is appropriate to afford them
the opportunity to recover damages for unauthorized collection actions.
Explanation of Provision
The provision permits (1) up to $100,000 in civil damages
caused by an officer or employee of the IRS who negligently
disregards provisions of the Internal Revenue Code or Treasury
regulations in connection with the collection of Federal tax
with respect to the taxpayer, and (2) up to $1 million in civil
damages caused by an officer or employee of the IRS who
willfully violates provisions of the Bankruptcy Code relating
to automatic stays or discharges. The provision also provides
that persons other than the taxpayer may sue for civil damages
for unauthorized collection actions. No person is entitled to
seek civil damages in a court of law without first exhausting
administrative remedies.
Effective Date
The provision is effective with respect to actions of
officers or employees of the IRS occurring after the date of
enactment.
3. Increase in size of cases permitted on small case calendar (sec.
3103 of the bill and sec. 7463 of the Code)
Present Law
Taxpayers may choose to contest many tax disputes in the
Tax Court. Special small case procedures apply to disputes
involving $10,000 or less, if the taxpayer chooses to utilize
these procedures (and the Tax Court concurs) (sec. 7463). The
IRS cannot require the taxpayer to use the small case
procedures. The Tax Court generally concurs with the taxpayer's
request to use the small case procedures, unless it decides
that the case involves an issue that should be heard under the
normal procedures. After the case has commenced, the Tax Court
may order that the small case procedures should be discontinued
only if (1) there is reason to believe that the amount in
controversy will exceed $10,000 or (2) justice would require
the change in procedure.
Small tax cases are conducted as informally as possible.
Neither briefs nor oral arguments are required and strict rules
of evidence are not applied. Most taxpayers represent
themselves in small tax cases, although they may be represented
by anyone admitted to practice before the Tax Court. Decisions
in a case conducted under small case procedures are neither
precedent for future cases nor reviewable upon appeal by either
the government or the taxpayer.
Reasons for Change
The Committee believes that use of the small case
procedures should be expanded.
Explanation of Provision
The provision increases the cap for small case treatment
from $10,000 to $50,000. The Committee recognizes that an
increase of this size may encompass a small number of cases of
significant precedential value. Accordingly, the Committee
anticipates that the Tax Court will carefully consider IRS
objections to small case treatment, such as objections based
upon the potential precedential value of the case.
Effective Date
The provision applies to proceedings commenced after the
date of enactment.
4. Expansion of Tax Court jurisdiction to responsible person penalties
(sec. 3104 of the bill and sec. 6672 of the Code)
Present Law
In general, employers are required to withhold income taxes
(sec. 3402) and social security taxes (sec. 3102) from their
employee's wages. These withheld taxes constitute a trust in
favor of the United States from the time that the employer
deducts them from the employee's wages, and the employer is
liable to the government for the payment of such taxes (sec.
7501(a)). Section 6672 subjects all persons considered
responsible for the withholding and payment of taxes to a
penalty equal to the amount of taxes due where the employer
fails to turn over such funds to the government (the
``responsible person'' penalty, also known as the ``100
percent'' penalty). Generally, the determination of whether a
person is a ``responsible person'' is a question of the
person's status, duty, and authority in the context of the
business which has failed to collect and pay over taxes
required to be withheld. A responsible person penalty may also
be imposed on a payroll lender (sec. 3505).
The Tax Court has no jurisdiction over the determination of
the correctness of the assessment of the responsible person
penalty. Accordingly, as the Tax Court is the only pre-payment
forum for the determination of tax liability, the imposition of
the responsible person penalty can only be challenged in a
refund suit in the appropriate district court or the U.S. Court
of Federal Claims after payment of such penalty. The
responsible person penalty is a divisible tax. Thus, unlike a
refund suit for income taxes, a responsible person need not pay
the full amount of the assessment to invoke the jurisdiction of
the district court or the U.S. Court of Federal Claims.
Instead, the alleged responsible person may commence a refund
suit after payment of the portion of the penalty attributable
to one employee for one quarter.
Reasons for Change
The Committee is concerned that persons who have a
responsible person penalty assessed against them must pay a
portion of the penalty before challenging the imposition of the
penalty, before there is a judicial determination that they
have any liability.
Explanation of Provision
The provision provides Tax Court jurisdiction over the
``responsible person'' penalty. Accordingly, the responsible
person does not have to make a payment before challenging the
imposition of the penalty.
Effective Date
The provision applies to penalties imposed after the date
of enactment.
5. Actions for refund with respect to certain estates which have
elected the installment method of payment (sec. 3105 of the
bill and sec. 7422 of the Code)
Present Law
In general, the U.S. Court of Federal Claims and the U.S.
district courts have jurisdiction over suits for the refund of
taxes, as long as full payment of the assessed tax liability
has been made. Flora v. United States, 357 U.S. 63 (1958),
aff'd on reh'g, 362 U.S. 145 (1960). Under Code section 6166,
if certain conditions are met, the executor of a decedent's
estate may elect to pay the estate tax attributable to certain
closely-held businesses over a 14-year period. Courts have held
that U.S. district courts and the U.S. Court of Federal Claims
do not have jurisdiction over claims for refunds by taxpayers
deferring estate tax payments pursuant to section 6166 unless
the entire estate tax liability has been paid (i.e., timely
payment of the installments due prior to the bringing of an
action is not sufficient to invoke jurisdiction). See, e.g.,
Rocovich v. United States, 933 F.2d 991 (Fed. Cir. 1991),
Abruzzo v. United States, 24 Ct. Cl. 668 (1991). Under section
7479, the U.S. Tax Court has limited authority to provide
declaratory judgments regarding initial or continuing
eligibility for deferral under section 6166.
Reasons for Change
The Committee believes that the refund jurisdiction of the
U.S. Court of Federal Claims and the U.S. district courts
should apply without regard to whether the taxpayer has
elected, and the Secretary accepted, the payment of that tax in
installments.
Explanation of Provision
The provision grants the U.S. Court of Federal Claims and
the U.S. district courts jurisdiction to determine the correct
amount of estate tax liability (or refund) in actions brought
by taxpayers deferring estate tax payments under section 6166,
as long as certain conditions are met. In order to qualify for
the provision, (1) the estate must have made an election
pursuant to section 6166, (2) the estate must have fully paid
each installment of principal and/or interest due (and all non-
6166-related estate taxes due) before the date the suit is
filed, (3) no portion of the payments due may have been
accelerated, (4) there must be no suits for declaratory
judgment pursuant to section 7479 pending, and (5) there must
be no outstanding deficiency notices against the estate. In
general, to the extent that a taxpayer has previously litigated
its estate tax liability, the taxpayer would not be able to
take advantage of this procedure under principles of res
judicata. Taxpayers are not relieved of the liability to make
any installment payments that become due during the pendency of
the suit (i.e., failure to make such payments would subject the
taxpayer to the existing provisions of section 6166(g)(3)).
The provision further provides that once a final judgment
has been entered by a district court or the U.S. Court of
Federal Claims, the IRS is not permitted to collect any amount
disallowed by the court, and any amounts paid by the taxpayer
in excess of the amount the court finds to be currently due and
payable are refunded to the taxpayer, with interest. Lastly,
the provision provides that the two-year statute of limitations
for filing a refund action is suspended during the pendency of
any action brought by a taxpayer pursuant to section 7479 for a
declaratory judgment as to an estate's eligibility for section
6166.
Effective Date
The provision is effective with respect to claims for
refunds filed after the date of enactment.
6. Tax Court jurisdiction to review an adverse IRS determination of a
bond issue's tax-exempt status (sec. 3106 of the bill and sec.
7478 of the Code)
Present Law
Interest on debt incurred by States or local governments
generally is excluded from gross income if the proceeds of the
borrowing are used to carry out governmental functions of those
entities and the debt is repaid with governmental funds (sec.
103). Interest on debt incurred by those governments where the
proceeds are used to finance activities of other persons and
the repayment of which is derived from the funds of such other
person (e.g., private activity bonds) is taxable unless a
specific exception is included in the Code.
In general, an initial determination of whether interest on
State or local government bonds is tax-exempt is made by
issuers when the bonds are issued. This initial determination
is made by reference to how the bond proceeds are ``to be
used'' (sec. 141). Intentional acts after the date of issuance
to use bond-financed property (indirectly, a use of bond
proceeds) in a manner not qualifying for tax exemption may
render interest on the bonds taxable, retroactive to the date
of issuance. Like other tax positions taken by taxpayers, this
initial determination, and issuer decisions relating to the
effect of subsequent actions are subject to review and
challenge by the IRS under regular examination procedures.
A State or local government that seeks to issue bonds, the
interest on which is intended to be excludable from gross
income under section 103, can request a ruling from the IRS
regarding the eligibility of such bonds for tax-exemption. The
prospective issuer can challenge the IRS's determination (or
failure to make a timely determination) in a declaratory
judgment proceeding in the Tax Court under Code section 7478.
Because bondholders, not issuers, are the parties whose tax
liability is affected, issuers are not allowed to litigate the
tax-exempt status of the bonds directly after the bonds are
issued.
Reasons for Change
The Committee believes that issuers of governmental bonds,
as parties with a strong incentive to ensure the continued tax-
exemption of outstanding bonds, should have the opportunity to
challenge IRS revocations of the tax-exempt status of the
bonds, to protect the holders of those bonds and the market
better.
Explanation of Provision
The provision extends the declaratory judgment procedures
currently applicable to prospective bond issuers to issuers of
outstanding bonds. The issuer must provide adequate notice
30 to outstanding bondholders, and the bondholders
are authorized to intervene in court proceedings brought under
this provision. The statute of limitations on assessment and
collection of the tax liability of the bondholders is suspended
during the pendency of the proceeding.
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\30\ The Committee anticipates that the Tax Court will determine
whether the issuer's provision of notice to the bondholders comported
with the statutory requirements. Notice provided pursuant to this
provision has no effect on any notice that may be required pursuant to
any other provision of law.
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Effective Date
The provision applies to determinations of tax-exempt
status made after the date of enactment. A special rule
provides that, in the case of a determination under a technical
advice memorandum the public release of which occurs within one
year of the date of enactment, a pleading may be filed not
later than 90 days after the date of enactment.
7. Civil action for release of erroneous lien (sec. 3107 of the bill
and sec. 6325 of the Code)
Present Law
Prior to 1995, the provisions governing jurisdiction over
refund suits had generally been interpreted to apply only if an
action was brought by the taxpayer against whom tax was
assessed. Remedies for third parties from whom tax was
collected (rather than assessed) were found in other provisions
of the Internal Revenue Code. The Supreme Court held in
Williams v. United States, 115 S.Ct. 1611 (1995), however, that
a third party who paid another person's tax under protest to
remove a lien on the third party's property could bring a
refund suit, because she had no other adequate administrative
or judicial remedy. In Williams, the IRS had filed a nominee
lien against property that was owned by the taxpayer's former
spouse and that was under a contract for sale. In order to
complete the sale, the former spouse paid the amount of the
lien under protest, and then sued in district court to recover
the amount paid. The Supreme Court held that parties who are
forced to pay another's tax under duress could bring a refund
suit, because no other judicial remedy was adequate.
Reasons for Change
The Committee believes that third parties should have a
mechanism to release an erroneous tax lien. Accordingly, the
Committee believes it is appropriate to provide relief similar
to that provided to third parties who are subject to wrongful
levy of property.
Explanation of Provision
The provision creates an administrative procedure similar
to the wrongful levy remedy for third parties in section 7426.
Under this procedure, a record owner of property against which
a Federal tax lien had been filed could obtain a certificate of
discharge of property from the lien as a matter of right. The
third party would be required to apply to the Secretary of the
Treasury for such a certificate and either to deposit cash or
to furnish a bond sufficient to protect the lien interest of
the United States. Although the Secretary would determine the
amount of the bond necessary to protect the Government's lien
interest, the Secretary would have no discretion to refuse to
issue a certificate of discharge if this procedure was
followed, thus curing the defect in this remedy that the
Supreme Court found in Williams. A certificate of discharge of
property from a lien issued pursuant to the procedure would
enable the record owner to sell the property free and clear of
the Federal tax lien in all circumstances. The provision also
authorizes the refund of all or part of the amount deposited,
plus interest at the same rate that would be made on an
overpayment of tax by the taxpayer, or the release of all or
part of the bond, if the tax liability is satisfied or the
Secretary determines that the United States does not have a
lien interest or has a lesser lien interest than the amount
initially determined.
The provision also establishes a judicial cause of action
for third parties challenging a lien that is similar to the
wrongful levy remedy in section 7426. The period within which
such an action must be commenced would be 120 days after the
date the certificate of discharge is issued to ensure an early
resolution of the parties' interests. Upon conclusion of the
litigation, the IRS would be authorized to apply the deposit or
bond to the assessed liability and to refund to the third party
any amount in excess of the liability, plus interest, or to
release the bond. Actions to quiet title under 28 U.S.C.
Sec. 2410 would still be available to persons who did not seek
the expedited review permitted under the new statutory
procedure.
Effective Date
The provision is effective on the date of enactment.
C. Relief for Innocent Spouses and for Taxpayers Unable to Manage Their
Financial Affairs Due to Disabilities
1. Spousal election to limit joint and several liability on joint
return (sec. 3201 of the bill and new sec. 6015 of the Code)
Present Law
Relief from liability for tax, interest and penalties is
available for ``innocent spouses'' in certain circumstances. To
qualify for such relief, the innocent spouse must establish:
(1) that a joint return was made; (2) that an understatement of
tax, which exceeds the greater of $500 or a specified
percentage of the innocent spouse's adjusted gross income for
the preadjustment (most recent) year, is attributable to a
grossly erroneous item of the other spouse; (3) that in signing
the return, the innocent spouse did not know, and had no reason
to know, that there was an understatement of tax; and (4) that
taking into account all the facts and circumstances, it is
inequitable to hold the innocent spouse liable for the
deficiency in tax. The specified percentage of adjusted gross
income is 10 percent if adjusted gross income is $20,000 or
less. Otherwise, the specified percentage is 25 percent.
The proper forum for contesting the Secretary's denial of
innocent spouse relief is determined by whether an underpayment
is asserted or the taxpayer is seeking a refund of overpaid
taxes. Accordingly, the Tax Court may not have jurisdiction to
review all denials of innocent spouse relief.
Reasons for Change
The Committee is concerned that the innocent spouse
provisions of present law are inadequate. The Committee
believes that a system based on separate liabilities will
provide better protection for innocent spouses than the current
system. The Committee generally believes that an electing
spouse's liability should be satisfied by the payment of the
tax attributable to that spouse's income and that an election
to limit a spouse's liability to that amount is appropriate.
The Committee intends that this election be available to
limit the liability of spouses for tax attributable to items of
which they had no knowledge. The Committee is concerned that
taxpayers not be allowed to abuse these rules by knowingly
signing false returns, or by transferring assets for the
purpose of avoiding the payment of tax by the use of this
election. The Committee believes that rules restricting the
ability of taxpayers to limit their liability in such
situations are appropriate.
The Committee believes that taxpayers need to be informed
of their right to make this election and that the IRS is the
best source of that information. The Committee also believes
that the IRS should take appropriate steps to insure that both
spouses are made aware of their tax situation, and not rely on
a single notice sent to a single address to inform both
spouses.
Explanation of Provision
In general
The bill modifies the innocent spouse provisions to permit
a spouse to elect to limit his or her liability for unpaid
taxes on a joint return to the spouse's separate liability
amount. In the case of a deficiency arising from a joint
return, a spouse would be liable only to the extent items
giving rise to the deficiency are allocable to the spouse.
Special rules apply to prevent the inappropriate use of the
election.
Items are generally allocated between spouses in the same
manner as they would have been allocated had the spouses filed
separate returns. The Secretary may prescribe other methods of
allocation by regulation. The allocation of items is to be
accomplished without regard to community property laws.
The election applies to all unpaid taxes under subtitle A
of the Internal Revenue Code, including the income tax and the
self-employment tax. The election may be made at any time not
later than 2 years after collection activities begin with
respect to the electing spouse. The Committee intends that 2
year period not begin until collection activities have been
undertaken against the electing spouse that have the effect of
giving the spouse notice of the IRS's intention to collect the
joint liability from such spouse. For example, garnishment of
wages, a notice of intent to levy against the property of the
electing spouse would constitute collection activity against
the electing spouse. The mailing of a notice of deficiency and
demand for payment to the last known address of the electing
spouse, addressed to both spouses, would not.
The Tax Court has jurisdiction of disputes arising from the
separate liability election. For example, a spouse who makes
the separate liability election may petition the Tax Court to
determine the limits on liability applicable under this
provision. The Tax Court is authorized to establish rules that
would allow the Secretary of the Treasury and the electing
spouse to require, with adequate notice, the other spouse to
become a party to any proceeding before the Tax Court. The
Secretary of the Treasury is required to develop a separate
form with instructions for taxpayers to use in electing to
limit liability.
Allocations of items
Under the bill, allocation of items of income and deduction
follows the present-law rules determining which spouse is
responsible for reporting an item when the spouses use the
married, filing separate filing status. The Secretary of the
Treasury is granted authority to prescribe regulations
providing simplified methods of allocating items.
In general, apportionment of items of income are expected
to follow the source of the income. Wage income is allocated to
the spouse performing the job and receiving the Form W-2.
Business and investment income (including any capital gains) is
allocated in the same proportion as the ownership of the
business or investment that produces the income. Where
ownership of the business or investment is held by both spouses
as joint tenants, it is expected that any income is allocated
equally to each spouse, in the absence of clear and convincing
evidence supporting a different allocation.
The allocation of business deductions is expected to follow
the ownership of the business. Personal deduction items are
expected to be allocated equally between spouses, unless the
evidence shows that a different allocation is appropriate. For
example, a charitable contribution normally would be allocated
equally to both spouses. However, if the wife provides evidence
that the deduction relates to the contribution of an asset that
was the sole property of the husband, any deficiency assessed
because it is later determined that the value of the property
was overstated would be allocated to the husband.
Items of loss or deduction are allocated to a spouse only
to the extent that income attributable to the spouse was offset
by the deduction or loss. Any remainder is allocated to the
other spouse.
Income tax withholding is allocated to the spouse from
whose paycheck the tax was withheld. Estimated tax payments are
generally expected to be allocated to the spouse who made the
payments. If the payments were made jointly, the payments are
expected to be allocated equally to each spouse, in the absence
of evidence supporting a different allocation.
The allocation of items is to be made without regard to the
community property laws of any jurisdiction.
If the electing spouse establishes that he or she did not
know, and had no reason to know, of an item and, considering
all the facts and circumstances, it is inequitable to hold the
electing spouse responsible for any unpaid tax or deficiency
attributable to such item, the item may be equitably
reallocated to the other spouse. In cases where the IRS proves
fraud, the IRS may distribute, apportion, or allocate any item
between spouses.
Tax deficiencies
If a spouse makes the separate liability election, the
liability for deficiencies determined after a joint return is
filed is allocated to the spouse whose item gives rise to the
deficiency. For example, if a deficiency is assessed after an
IRS audit that relates to the husband's income that he failed
to report on the return, the entire deficiency is allocated to
the husband. If the wife elects separate liability, she owes
none of the deficiency. The deficiency is the sole
responsibility of the husband who failed to report the income.
If the deficiency relates to the items of both spouses, the
separate liability for the deficiency is allocated between the
spouses in the same proportion as the net items taken into
account in determining the deficiency. If the deficiency arises
as a result of the denial of an item of deduction or credit,
the amount of the deficiency allocated to the spouse to whom
the item of deduction or credit is allocated is limited to the
amount of income or tax allocated to such spouse that was
offset by the deduction or credit. The remainder of the
liability is allocated to the other spouse to reflect the fact
that income or tax allocated to that spouse was originally
offset by a portion of the disallowed deduction or credit.
For example, a married couple files a joint return with
wage income of $100,000 allocable to the wife and $30,000 of
self employment income allocable to the husband. On
examination, a $20,000 deduction allocated to the husband is
disallowed, resulting in a deficiency of $5,600. Under the
provision, the liability is allocated in proportion to the
items giving rise to the deficiency. Since the only item giving
rise to the deficiency is allocable to the husband, and because
he reported sufficient income to offset the item of deduction,
the entire deficiency is allocated to the husband and the wife
has no liability with regard to the deficiency, regardless of
the ability of the IRS to collect the deficiency from the
husband.
If the joint return had shown only $15,000 (instead of
$30,000) of self employment income for the husband, the income
offset limitation rule discussed above would apply. In this
case, the disallowed $20,000 deduction entirely offsets the
$15,000 of income of the husband, and $5,000 remains. This
remaining $5,000 of the disallowed deduction offsets income of
the wife. The liability for the deficiency is therefore divided
in proportion to the amount of income offset for each spouse.
In this example, the husband is liable for \3/4\ of the
deficiency ($4,200), and the wife is liable for the remaining
\1/4\ ($1,400).
The rule that the election will not apply to the extent any
deficiency is attributable to an item the electing spouse had
actual knowledge of is expected to be applied by treating the
item as fully allocable to both spouses. For example a married
couple files a joint return with wage income of $150,000
allocable to the wife and $30,000 of self employment income
allocable to the husband. On examination, an additional $20,000
of the husband's self employment income is discovered,
resulting in a deficiency of $9,000. The IRS proves that the
wife had actual knowledge of $5,000 of this additional self
employment income, but had no knowledge of the remaining
$15,000. In this case, the husband would be liable for the full
amount of the deficiency, since the item giving rise to the
deficiency is fully allocable to him. In addition, the wife
would be liable for the amount that would have been calculated
as the deficiency based on the $5,000 of unreported income of
which she had actual knowledge. The IRS would be allowed to
collect that amount from either spouse, while the remainder of
the deficiency could be collected from only the husband.
Tax shown on a return, but not paid
The separate liability election also applies in situations
where the tax shown on a joint return is not paid with the
return. In this case, the amount determined under the separate
liability election equals the amount that would have been
reported by the electing spouse on a separate return. However,
if any item of credit or deduction would be disallowed solely
because a separate return is filed, the item of credit or
deduction will be computed without regard to such
prohibition.\31\ Similarly, a base amount and an adjusted base
amount will be allowed in the determination of the taxable
portion of social security and tier 1 railroad retirement
benefits without regard to the rule in section 86(c). The
calculation of the tax that would be shown on the separate
return does not constitute the filing of a separate return.
Other actions whose character may have been dependent upon the
joint filing status of the taxpayer (for example, the making of
a deductible IRA contribution under section 219) are unaffected
by the election.
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\31\ For example, provisions requiring the filing of a joint
return in order to claim a credit such as section 21(e)(2) (dependent
care credit), section 22(e)(1) (credit for the elderly and permanently
disabled), section 23(f)(1) (adoption credit), section 25A(f)(6) (Hope
and lifetime learning credits) and section 32(d) (earned income credit)
would not apply under this provision. Section 221(f)(2) (deductions for
interest on education loans) would be an example of a rule disallowing
a deduction that would not apply.
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The separate liability election may not be used to create a
refund, or to direct a refund to a particular spouse.
Special rules
Special rules apply to prevent the inappropriate use of the
election.
First, if the IRS demonstrates that assets were transferred
between the spouses in a fraudulent scheme joined in by both
spouses, neither spouse is eligible to make the election under
the provision (and consequently joint and several liability
applies to both spouses).
Second, if the IRS proves that the electing spouse had
actual knowledge that an item on a return is incorrect, the
election will not apply to the extent any deficiency is
attributable to such item. Such actual knowledge must be
established by the evidence and shall not be inferred based on
indications that the electing spouse had a reason to know.
Third, the limitation on the liability of an electing
spouse is increased by the value of any disqualified assets
received from the other spouse. Disqualified assets include any
property or right to property that was transferred to an
electing spouse if the principle purpose of the transfer is the
avoidance of tax (including the avoidance of payment of tax). A
rebuttable presumption exists that a transfer is made for tax
avoidance purposes if the transfer was made less than one year
before the earlier of the payment due date or the date of the
notice of proposed deficiency. The rebuttable presumption does
not apply to transfers pursuant to a decree of divorce or
separate maintenance. The presumption may be rebutted by a
showing that the principal purpose of the transfer was not the
avoidance of tax or the payment of tax.
Notification of taxpayers
The Internal Revenue Service is required to notify all
taxpayers who have filed joint returns of their rights to elect
to limit their joint and several liability under this
provision. It is expected that notice will appear in
appropriate IRS publications, including IRS Publication 1, and
in collection related notices sent to taxpayers.
The Internal Revenue Service should, whenever practicable,
send appropriate notifications separately to each spouse. For
example, where notifications are being sent by registered mail,
it is expected a separate notice will be sent by registered
mail to each spouse. This is intended to increase the
likelihood that separated or divorced spouses will each receive
such notices, as well as increase the likelihood that the
Internal Revenue Service will be made aware of address changes
that apply to one, but not both spouses.
Effective Date
The provision applies to any liability for tax arising
after the date of enactment and any liability for tax arising
on or before such date, but remaining unpaid as of such date.
The period in which an election may be made under the
provision will not expire before the date that is 2 years after
the date of the first collection action undertaken against the
electing spouse on or after the date of enactment that has the
effect of giving the spouse notice of the IRS' intention to
collect the joint liability from the spouse. However, this rule
does not extend the statute of limitations.
An individual may elect under the provision without regard
to whether such individual has previously been denied innocent
spouse relief under present law.
2. Suspension of statute of limitations on filing refund claims during
periods of disability (sec. 3202 of the bill and sec. 6511 of
the Code)
Present Law
In general, a taxpayer must file a refund claim within
three years of the filing of the return or within two years of
the payment of the tax, whichever period expires later (if no
return is filed, the two-year limit applies) (sec. 6511(a)). A
refund claim that is not filed within these time periods is
rejected as untimely.
There is no explicit statutory rule providing for equitable
tolling of the statute of limitations. The U.S. Supreme Court
has held that Congress did not intend the equitable tolling
doctrine to apply to the statutory limitations of section 6511
on the filing of tax refund claims.
Reasons for Change
The Committee believes that, in cases of severe disability,
equitable tolling should be considered in the application of
the statutory limitations on the filing of tax refund claims.
Explanation of Provision
The provision permits equitable tolling of the statute of
limitations for refund claims of an individual taxpayer during
any period of the individual's life in which he or she is
unable to manage his or her financial affairs by reason of a
medically determinable physical or mental impairment that can
be expected to result in death or to last for a continuous
period of not less than 12 months. Tolling does not apply
during periods in which the taxpayer's spouse or another person
is authorized to act on the taxpayer's behalf in financial
matters.
Effective Date
The provision applies to periods of disability before, on,
or after the date of enactment but does not apply to any claim
for refund or credit which (without regard to the provision) is
barred by the statute of limitations as of January 1, 1998.
d. provisions relating to interest and penalties
1. Elimination of interest differential on overlapping periods of
interest on income tax overpayments and underpayments (sec.
3301 of the bill and sec. 6621 of the Code)
Present Law
A taxpayer that underpays its taxes is required to pay
interest on the underpayment at a rate equal to the Federal
short term interest rate plus three percentage points. A
special ``hot interest'' rate equal to the Federal short term
interest rate plus five percentage points applies in the case
of certain large corporate underpayments.
A taxpayer that overpays its taxes receives interest on the
overpayment at a rate equal to the Federal short term interest
rate plus two percentage points. In the case of corporate
overpayments in excess of $10,000, this is reduced to the
Federal short term interest rate plus one-half of a percentage
point.
If a taxpayer has an underpayment of tax from one year and
an overpayment of tax from a different year that are
outstanding at the same time, the IRS will typically offset the
overpayment against the underpayment and apply the appropriate
interest to the resulting net underpayment or overpayment.
However, if either the underpayment or overpayment has been
satisfied, the IRS will not typically offset the two amounts,
but rather will assess or credit interest on the full
underpayment or overpayment at the underpayment or overpayment
rate. This has the effect of assessing the underpayment at the
higher underpayment rate and crediting the overpayment at the
lower overpayment rate. This results in the taxpayer being
assessed a net interest charge, even if the amounts of the
overpayment and underpayment are the same.
The Secretary has the authority to credit the amount of any
overpayment against any liability under the Code. 32
Congress has previously directed the Internal Revenue Service
to implement procedures for ``netting'' overpayments and
underpayments to the extent a portion of tax due is satisfied
by a credit of an overpayment. 33
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\32\ Code sec. 6402.
\33\ Pursuant to TBOR2 (1996), the Secretary conducted a study of
the manner in which the IRS has implemented the netting of interest on
overpayments and underpayments and the policy and administrative
implications of global netting. The legislative history to the General
Agreement on Trade and Tariffs (GATT) (1994) stated that the Secretary
should implement the most comprehensive crediting procedures that are
consistent with sound administrative practice, and should do so as
rapidly as is practicable. A similar statement was included in the
Conference Report to the Omnibus Budget Reconciliation Act of 1990.
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Reasons for Change
The Committee believes that taxpayers should be charged
interest only on the amount they actually owe, taking into
account overpayments and underpayments from all open years.The
Committee does not believe that the different interest rates provided
for overpayments and underpayments were ever intended to result in the
charging of the differential on periods of mutual indebtedness.
The Committee is also concerned that current practices
provide an incentive to taxpayers to delay the payment of
underpayments they do not contest, so that the underpayments
will be available to offset any overpayments that are later
determined. The Committee believes that this is contrary to
sound tax administrative practice and that taxpayers should not
be disadvantaged solely because they promptly pay their tax
bills.
Explanation of Provision
The provision establishes a net interest rate of zero on
equivalent amounts of overpayment and underpayment that exist
for any period. Each overpayment and underpayment is considered
only once in determining whether equivalent amounts of
overpayment and underpayment exist. The special rules that
increase the interest rate paid on large corporate
underpayments and decrease the interest rate received on
corporate underpayments in excess of $10,000 do not prevent the
application of the net zero rate. The provision applies to
income taxes and self-employment taxes.
Effective Date
The provision applies to interest for calendar quarters
beginning after the date of enactment. Until such time as
procedures are implemented that allow for the automatic
application of this provision by the IRS, the Committee expects
that the Secretary will promptly and carefully consider any
taxpayer's request to have interest charges recalculated in
accordance with this provision. It is expected that the
Secretary will extend the statute of limitations on assessment
where necessary to allow for the consideration of such
requests.
In light of past Congressional statements urging the
Secretary to eliminate interest rate differentials in these
circumstances, and taking into consideration Congress' belief
that the Secretary may do so, the Committee continues to expect
that the Secretary will implement the most comprehensive
interest netting procedures that are consistent with sound
administrative practice, and not only those affected by this
provision.
2. Increase in overpayment rate payable to taxpayers other than
corporations (sec. 3302 of the bill and sec. 6621(a)(1) of the
Code)
Present Law
A taxpayer that underpays its taxes is required to pay
interest on the underpayment at a rate equal to the Federal
short-term interest rate (AFR) plus three percentage points. A
taxpayer that overpays its taxes receives interest on the
overpayment at a rate equal to the Federal short-term interest
rate (AFR) plus two percentage points.
Reasons for Change
The Committee believes that the interest differential for
noncorporate taxpayers should be eliminated.
Explanation of Provision
The provision provides that the overpayment interest rate
will be AFR plus three percentage points, except that for
corporations, the rate remains at AFR plus two percentage
points.
Effective Date
The provision applies to interest for calendar quarters
beginning after the date of enactment.
3. Elimination of penalty for individual's failure to pay during period
of installment agreement (sec. 3303 of the bill and sec. 6651
of the Code)
Present Law
Taxpayers who fail to pay their taxes are subject to a
penalty of one-half percent per month on the unpaid amount, up
to a maximum of 25 percent (sec. 6651(a)). If the liability is
shown on the return, the penalty begins to accrue on the date
prescribed for payment of the tax (with regard to extensions
(sec. 6651(a)(2)). If the liability should have been shown on
the return but was not, the penalty generally begins to accrue
after the date that is 21 days from the date of the IRS notice
and demand for payment with respect to such liability (sec.
6651(a)(3)). Taxpayers who make installment payments pursuant
to an agreement with the IRS (under sec. 6159) are also subject
to this penalty (Treas. reg. sec. 301.6159-1(f) and sec.
6601(b)).
Reasons for Change
The Committee believes that it is inappropriate to apply
the penalty for failure to pay taxes to taxpayers who are in
fact paying their taxes through an installment agreement.
Explanation of Provision
The provision provides that the penalty for failure to pay
taxes is not imposed with respect to the tax liability of an
individual for any month in which an installment payment
agreement with the IRS (under sec. 6159) is in effect, provided
that the individual filed the tax return in a timely manner
(including extensions).
Effective Date
The provision is effective for installment agreement
payments made after the date of enactment.
4. Mitigation of failure to deposit penalty (sec. 3304 of the bill and
sec. 6656(a) of the Code)
Present Law
Deposits of payroll taxes are allocated to the earliest
period for which such a deposit is due. If a taxpayer misses or
makes an insufficient deposit, later deposits will first be
applied to satisfy the shortfall for the earlier period; the
remainder is then applied to satisfy the obligation for the
current period. If the depositor is not aware this is taking
place, cascading penalties may result as payments that would
otherwise be sufficient to satisfy current liabilities are
applied to satisfy earlier shortfalls.
Code section 6656(c) authorizes the Secretary to waive the
failure to make deposit penalty for inadvertent failures by
first-time depositors of employment taxes.
Reasons for Change
The Committee believes that the cascading penalty effect is
unfair and that depositors should be able to designate payments
to minimize its effect.
Explanation of Provision
The provision allows the taxpayer to designate the period
to which each deposit is applied. The designation must be made
no later than 90 days of the related IRS penalty notice. The
provision also extends the authorization to waive the failure
to deposit penalty to the first deposit a taxpayer is required
to make after the taxpayer is required to change the frequency
of the taxpayer's deposits.
Effective Date
The provision applies to deposits made more than 180 days
after the date of enactment.
5. Suspension of interest and certain penalties where Secretary fails
to contact individual taxpayer (sec. 3305 of the bill and sec.
6404 of the Code)
Present Law
In general, interest and penalties accrue during periods
for which taxes are unpaid without regard to whether the
taxpayer is aware that there is tax due.
Reasons for Change
The Committee believes that the IRS should promptly inform
taxpayers of their obligations with respect to tax deficiencies
and amounts due. In addition, the Committee is concerned that
accrual of interest and penalties absent prompt resolution of
tax deficiencies may lead to the perception that the IRS is
more concerned about collecting revenue than in resolving
taxpayer's problems.
Explanation of Provision
The provision suspends the accrual of penalties and
interest after 1 year if the IRS has not sent the taxpayer a
notice of deficiency within 1 year following the date which is
the later of (1) the original due date of the return or (2) the
date on which the individual taxpayer timely filed the return.
The suspension only applies to taxpayers who file a timely tax
return. The provision applies only to individuals and does not
apply to the failure to pay penalty, in the case of fraud, or
with respect to criminal penalties. Interest and penalties
resume 21 days after the IRS sends a notice and demand for
payment to the taxpayer.
Effective Date
The provision is effective for taxable years ending after
the date of enactment.
6. Procedural requirements for imposition of penalties and additions to
tax (sec. 3306 of the bill and new sec. 6751 of the Code)
Present Law
Present law does not require the IRS to show how penalties
are computed on the notice of penalty. In some cases, penalties
may be imposed without supervisory approval.
Reasons for Change
The Committee believes that taxpayers are entitled to an
explanation of the penalties imposed upon them. The Committee
believes that penalties should only be imposed where
appropriate and not as a bargaining chip.
Explanation of Provision
Each notice imposing a penalty is required to include the
name of the penalty, the code section imposing the penalty, and
a computation of the penalty.
The provision also requires the specific approval of IRS
management to assess all non-computer generated penalties
unless excepted. This provision does not apply to failure to
file penalties, failure to pay penalties, or to penalties for
failure to pay estimated tax.
Effective Date
The provision applies to notices issued, and penalties
assessed, more than 180 days after the date of enactment.
7. Personal delivery of notice of penalty under section 6672 (sec. 3307
of the bill and sec. 6672(b) of the Code)
Present Law
Any person who is required to collect, truthfully account
for, and pay over any tax imposed by the Internal Revenue Code
who willfully fails to do so is liable for a penalty equal to
the amount of the tax (Code sec. 6672(a)). Before the IRS may
assess any such ``100-percent penalty,'' it must mail a written
preliminary notice informing the person of the proposed penalty
to that person's last known address. The mailing of such notice
must precede any notice and demand for payment of the penalty
by at least 60 days. The statute of limitations on assessments
shall not expire before the date 90 days after the date on
which the notice was mailed. These restrictions do not apply if
the Secretary finds the collection of the penalty is in
jeopardy.
Reasons for Change
The imposition of the 100-percent penalty is a serious
matter. The Committee believes that permitting personal service
of the preliminary notice required under Code section 6672 may
afford taxpayers the opportunity to resolve cases involving the
100-percent penalty at an earlier stage.
Explanation of Provision
The provision permits in person delivery, as an alternative
to delivery by mail, of a preliminary notice that the IRS
intends to assess a 100-percent penalty. (In some cases,
personal delivery may better assure that the recipient actually
receives notice.)
Effective Date
The provision is effective on the date of enactment.
8. Notice of interest charges (sec. 3308 of the bill and new sec. 6631
of the Code)
Present Law
Taxpayer generally must pay interest on amounts due to the
IRS.
Reasons for Change
The Committee believes that taxpayers should be provided
the detail to support the amount of interest charged by the
IRS. The computation of interest is a complex calculation,
often involving multiple interest rates. The Committee believes
that it is appropriate to require the IRS to give notice to the
taxpayer that interest is being charged, how it is calculated,
and the total amount of the interest.
Explanation of Provision
The provision requires every IRS notice that includes an
amount of interest required to be paid by the taxpayer that is
sent to an individual taxpayer to include a detailed
computation of the interest charged and a citation to the Code
section under which such interest is imposed.
Effective Date
The provision applies to notices issued after June 30,
2000.
E. Protections for Taxpayers Subject to Audit or Collection Activities
a. Due Process
i. Due process in IRS collection actions (sec. 3401 of the bill and new
secs. 6320 and 6330 of the Code)
Present Law
Levy is the IRS's administrative authority to seize a
taxpayer's property to pay the taxpayer's tax liability. The
IRS is entitled to seize a taxpayer's property by levy if the
Federal tax lien has attached to such property. The Federal tax
lien arises automatically where (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 ten days after the
notice and demand.
The IRS may collect taxes by levy upon a taxpayer's
property or rights to property (including accrued salary and
wages) if the taxpayer neglects or refuses to pay the tax
within 10 days after notice and demand that the tax be paid.
Notice of the IRS's intent to collect taxes by levy must be
given no less than 30 days (90 days in the case of a life
insurance contract) before the day of the levy. The notice of
levy must describe the procedures that will be used, the
administrative appeals available to the taxpayer and the
procedures relating to such appeals, the alternatives available
to the taxpayer that could prevent levy, and the procedures for
redemption of property and release of liens.
The effect of a levy on salary or wages payable to or
received by a taxpayer is continuous from the date the levy is
first made until it is released.
If the IRS district director finds that the collection of
any tax is in jeopardy, collection by levy may be made without
regard to either notice period. A similar rule applies in the
case of termination assessments.
Reasons for Change
The Committee believes that taxpayers are entitled to
protections in dealing with the IRS that are similar to those
they would have in dealing with any other creditor.Accordingly,
the Committee believes that the IRS should afford taxpayers adequate
notice of collection activity and a meaningful hearing before the IRS
deprives them of their property. When collection of tax is in jeopardy,
the Committee believes it is appropriate to provide notice and a
hearing promptly after the deprivation of property. The Committee
believes that following procedures designed to afford taxpayers due
process in collections will increase fairness to taxpayers.
Explanation of Provision
The provision establishes formal procedures designed to
insure due process where the IRS seeks to collect taxes by levy
(including by seizure). The due process procedures also apply
after the Federal tax lien attaches, but before the notice of
the Federal tax lien has been given to the taxpayer.
As under present law, notice of the intent to levy must be
given at least 30 days (90 days in the case of a life insurance
contract) before property can be seized or salary and wages
garnished. During the 30-day (90-day) notice period, the
taxpayer may demand a hearing to take place before an appeals
officer who has had no prior involvement in the taxpayer's
case. If the taxpayer demands a hearing within that period, the
proposed collection action may not proceed until the hearing
has concluded and the appeals officer has issued his or her
determination.
During the hearing, the IRS is required to verify that all
statutory, regulatory, and administrative requirements for the
proposed collection action have been met. IRS verifications are
expected to include (but not be limited to) showings that:
(1) the revenue officer recommending the collection
action has verified the taxpayer's liability;
(2) the estimated expenses of levy and sale will not
exceed the value of the property to be seized;
(3) the revenue officer has determined that there is
sufficient equity in the property to be seized to yield
net proceeds from sale to apply to the unpaid tax
liabilities; and
(4) with respect to the seizure of the assets of a
going business, the revenue officer recommending the
collection action has thoroughly considered the facts
of the case, including the availability of alternative
collection methods, before recommending the collection
action.
The taxpayer (or affected third party) is allowed to raise
any relevant issue at the hearing. Issues eligible to be raised
include (but are not limited to):
(1) challenges to the underlying liability as to
existence or amount;
(2) appropriate spousal defenses;
(3) challenges to the appropriateness of collection
actions; and
(4) collection alternatives, which could include the
posting of a bond, substitution of other assets, an
installment agreement or an offer-in-compromise.
Once the taxpayer has had a hearing with respect to an issue,
the taxpayer would not be permitted to raise the same issue in
another hearing.
The determination of the appeals officer is to address
whether the proposed collection action balances the need for
the efficient collection of taxes with the legitimate concern
of the taxpayer that the collection action be no more intrusive
than necessary. A proposed collection action should not be
approved solely because the IRS shows that it has followed
appropriate procedures.
The taxpayer may contest the determination of the appellate
officer in Tax Court by filing a petition within 30 days of the
date of the determination. The Tax Court is expected to review
the appellate officer's determination for abuse of discretion
and also may consider procedural issues, as under present law.
The IRS may not take any collection action pursuant to the
determination during such 30 day period or while the taxpayer's
contest is pending in Tax Court.
IRS Appeals would retain jurisdiction over its
determinations. IRS Appeals could enter an order requiring the
IRS collection division to adhere to the original
determination. In addition, the taxpayer would be allowed to
return to IRS Appeals to seek a modification of the original
determination based on any change of circumstances.
In the case of a continuous levy, the due process
procedures would apply to the original imposition of the levy.
Except in jeopardy and termination cases, continuous levy would
not be allowed to begin without notice and an opportunity for a
hearing. A determination allowing the continuous levy to
proceed that is entered at the conclusion of a hearing would be
subject to post-determination adjustment on application by the
taxpayer. Thus, taxpayers would have the right to have IRS
Appeals review any continuous levy and take any changes in
circumstances into account.
This provision does not apply in the case of jeopardy and
termination assessments. Jeopardy and termination assessments
would be subject to post-seizure review as part of the Appeals
determination hearing as well as through any existing judicial
procedure. A jeopardy or termination assessment must be
approved by the IRS District Counsel responsible for the case.
Failure to obtain District Counsel approval would render the
jeopardy or termination assessment void.
Effective Date
The due process procedures apply to collection actions
initiated more than six months after the date of enactment.
b. Examination Activities
i. Uniform application of confidentiality privilege to taxpayer
communications with federally authorized practitioners (sec.
3411 of the bill and new sec. 7525 of the Code)
Present Law
A common law privilege of confidentiality exists for
communications between an attorney and client with respect to
the legal advice the attorney gives the client. Communications
protected by the attorney-client privilege must be based on
facts of which the attorney is informed by the taxpayer,
without the presence of strangers, for the purpose of securing
the advice of the attorney. The privilege may not be claimed
where the purpose of the communication is the commission of a
crime or tort. The taxpayer must either be a client of the
attorney or be seeking to become a client of the attorney.
The privilege of confidentiality applies only where the
attorney is advising the client on legal matters. It does not
apply in situations where the attorney is acting in other
capacities. Thus, a taxpayer may not claim the benefits of the
attorney-client privilege simply by hiring an attorney to
perform some other function. For example, if an attorney is
retained to prepare a tax return, the attorney-client privilege
will not automatically apply to communications and documents
generated in the course of preparing the return.
The privilege of confidentiality also does not apply where
an attorney that is licensed to practice another profession is
performing such other profession. For example, if a taxpayer
retains an attorney who is also licensed as a certified public
accountant (CPA), the taxpayer may not assert the attorney-
client privilege with regard to communications made and
documents prepared by the attorney in his role as a CPA.
The attorney-client privilege is limited to communications
between taxpayers and attorneys. No equivalent privilege is
provided for communications between taxpayers and other
professionals authorized to practice before the Internal
Revenue Service, such as accountants or enrolled agents.
Reasons for Change
The Committee believes that a right to privileged
communications between a taxpayer and his or her advisor should
be available in noncriminal proceedings before the IRS and in
noncriminal proceedings in Federal courts with respect to such
matters where the IRS is a party, so long as the advisor is
authorized to practice before the IRS. A right to privileged
communications in such situations should not depend upon
whether the advisor is also licensed to practice law.
Explanation of Provision
The provision extends the present law attorney-client
privilege of confidentiality to tax advice that is furnished to
a client-taxpayer (or potential client-taxpayer) by any
individual who is authorized under Federal law to practice
before the IRS if such practice is subject to regulation under
section 330 of Title 31, United States Code. Individuals
subject to regulation under section 330 of Title 31, United
States Code include attorneys, certified public accountants,
enrolled agents and enrolled actuaries. Tax advice means advice
that is within the scope of authority for such individual's
practice with respect to matters under Title 26 (the Internal
Revenue Code). The privilege of confidentiality may be asserted
in any noncriminal tax proceeding before the IRS, as well as in
noncriminal tax proceedings in the Federal Courts where the IRS
is a party to the proceeding.
The provision allows taxpayers to consult with other
qualified tax advisors in the same manner they currently may
consult with tax advisors that are licensed to practice law.
The provision does not modify the attorney-client privilege of
confidentiality, other than to extend it to other authorized
practitioners. The privilege established by the provision
applies only to the extent that communications would be
privileged if they were between a taxpayer and an attorney.
Accordingly, the privilege does not apply to any communication
between a certified public accountant, enrolled agent, or
enrolled actuary and such individual's client (or prospective
client) if the communication would not have been privileged
between an attorney and the attorney's client or prospective
client. For example, information disclosed to an attorney for
the purpose of preparing a tax return is not privileged under
present law. Such information would not be privileged under the
provision whether it was disclosed to an attorney, certified
public accountant, enrolled agent or enrolled actuary.
The privilege granted by the provision may only be asserted
in noncriminal tax proceedings before the IRS and in the
Federal Courts with regard to such noncriminal tax matters in
proceedings where the IRS is a party. The privilege may not be
asserted to prevent the disclosure of information to any
regulatory body other than the IRS. The ability of any other
regulatory body, including the Securities and Exchange
Commission (SEC), to gain or compel information is unchanged by
the provision. No privilege may be asserted under this
provision by a taxpayer in dealings with such other regulatory
bodies in an administrative or court proceeding.
Effective Date
The provision is effective with regard to communications
made on or after the date of enactment.
ii. Limitation on financial status audit techniques (sec. 3412 of the
bill and sec. 7602 of the Code)
Present Law
The Secretary is authorized and required to make the
inquiries and determinations necessary to insure the assessment
of Federal income taxes. For this purpose, any reasonable
method may be used to determine the amount of Federal income
tax owed. The courts have upheld the use of financial status
and economic reality examination techniques to determine the
existence of unreported income in appropriate circumstances.
Reasons for Change
The Committee believes that financial status audit
techniques are intrusive, and that their use should be limited
to situations where the IRS already has indications of
unreported income.
Explanation of Provision
The provision prohibits the IRS from using financial status
or economic reality examination techniques to determine the
existence of unreported income of any taxpayer unless the IRS
has a reasonable indication that there is a likelihood of
unreported income.
Effective Date
The provision is effective on the date of enactment.
iii. Software trade secrets protection (sec. 3413 of the bill and new
sec. 7612 of the Code)
Present Law
The Secretary of the Treasury is authorized to examine any
books, papers, records, or other data that may be relevant or
material to an inquiry into the correctness of any Federal tax
return. The Secretary may issue and serve summonses necessary
to obtain such data, including summonses on certain third-party
record keepers. There are no specific statutory restrictions on
the ability of the Secretary to demand the production of
computer records, programs, code or similar materials.
Reasons for Change
The Committee believes that the intellectual property
rights of the developers and owners of computer programs should
be respected. The Committee is concerned that the examination
of computer programs and source code by the IRS could lead to
the diminution of those rights through the inadvertent
disclosure of trade secrets and believes that special
protection against such inadvertent disclosure should be
established.
The Committee also believes that the indiscriminate
examination of computer source code by the IRS is
inappropriate. Accordingly, the Committee believes that a
summons for the production of certain computer source code
should only be issued where the IRS is not otherwise able to
ascertain through reasonable efforts the manner in which a
taxpayer has arrived at an item on a return, identifies with
specificity the portion of the computer source code it seeks to
examine, and determines that the need to see the source code
outweighs the risk of unauthorized disclosure of trade secrets.
Explanation of Provision
Discovery of computer source code
The provision generally prohibits the Secretary from
issuing a summons in a Federal tax matter for any portion of
computer source code. Exceptions to the general rule are
provided for inquiries into any criminal offense connected with
the administration or enforcement of the internal revenue laws
and for computer software source code that was developed by the
taxpayer or a related person for internal use by the taxpayer
or related person. Computer software source code is considered
to have been developed for internal use by the taxpayer or a
related person if the software is primarily used in the
taxpayer or related person's trade or business, as opposed to
being held for sale or license to others. Software is
considered to be used in a trade or business if it is used in
the provision of services to others. It is anticipated that
software that was originally developed for internal use by the
taxpayer or a related person will continue to be subject to the
exception, even if the software is later transferred to
another. For example, software may have originally been
developed by the taxpayer to administer the taxpayer's employee
benefits system. If that function and the software necessary to
perform it is later transferred to an unrelated third party,
the software would continue to be subject to the exception.
In addition, the prohibition of the general rule would not
apply, and the Secretary would be allowed to summons computer
source code if the Secretary: (1) is unable to otherwise
reasonably ascertain the correctness of an item on a return
from the taxpayer's books and records, or the computer software
program and any associated data; (2) identifies with reasonable
specificity the portion of the computer source code to be used
to verify the correctness of the item; and (3) determines that
the need for the source code outweighs the risks of disclosure
of the computer source code. No inference is intended as to
whether software is included in the definition of a taxpayer's
books and records.
It is expected that the Secretary will make a good faith
and significant effort to ascertain the correctness of an item
prior to seeking computer source code. The portion of the
computer source code to be used would be considered identified
with reasonable specificity where, for example, the Secretary
requests the portion of the code that is used to determine a
particular item on the return, that otherwise is necessary to
the determination of an item on the return, or that implements
an accounting or other method.
The Committee is aware that the refusal of the taxpayer or
the owner of the software to cooperate could, in certain
situations, prevent the Secretary from establishing the factors
necessary to support the summons of computer source code.
Accordingly, the requirement that the Secretary be unable to
otherwise reasonably ascertain the correctness of an item on a
return from the taxpayer's books and records, or from the
computer software program and any associated data, and the
requirement that the Secretary have identified with reasonable
specificity the portion of the computer source code requested,
will be deemed to be satisfied where (1) the Secretary makes a
good faith determination that it is not feasible to determine
the correctness of the return item in question without access
to the computer software program and associated data, (2) the
Secretary makes a formal request for such program and any data
from the taxpayer and requests such program from the owner of
the source code after reaching such determination, and (3) the
Secretary has not received such program and data within 180
days of making the formal request. In the case of requests to
the taxpayer, the Committee expects that a formal request will
take the form of an Information Document Request (IDR),
summons, or similar document. The Committee intends that the
Secretaryactively pursue the recovery of such program and any
data from the taxpayer before seeking to have the normal requirements
deemed satisfied under this rule.
Additional protections against disclosure of computer software and
source code
The provision establishes a number of protections against
the disclosure and improper use of trade secrets and
confidential information incident to the examination by the
Secretary of any computer software program or source code that
comes into the possession or control of the Secretary in the
course of any examination with respect to any taxpayer. These
protections include the following:
(1) Such software or source code may be examined only
in connection with the examination of the taxpayer's
return with regard to which it was received. It is
expected that the taxpayer will be informed of any
alternative data or settings to be used in the
examination of the software. However, the Committee
does not intend to provide the taxpayer with the right
to monitor the examination of the software by the IRS
on a key stroke by key stroke or similar basis.
(2) Such software or source code must be maintained
in a secure area.
(3) Such source code may not be removed from the
owner's place of business without the owner's consent
unless such removal is pursuant to a court order. If
the owner does not consent to the removal of source
code from its place of business, the owner must make
available the necessary equipment to review the source
code. The owner shall have the right to require the use
of equipment that is configured to prevent electronic
communication outside the owner's place of business.
(4) Such software or source code may not be
decompiled or disassembled.
(5) Such software or source code may only be copied
as necessary to perform the specific examination. The
owner of the software must be informed of any copies
that are made, such copies must be numbered, and at the
conclusion of the examination and any related court
proceedings, all such copies must be accounted for and
returned to the owner, permanently deleted, or
destroyed. The Secretary must provide the owner of such
software or source code with the names of any
individuals who will have access to such software or
source code. Source code may be copied (by the use of a
scanner or otherwise) from written to machine readable
form. However, any such machine readable copies shall
be treated as separate copies and must be numbered,
accounted for and returned or destroyed at the
conclusion of the examination.
(6) If an individual who is not an officer or
employee of the U.S. Government will examine the
software or source code, such individual must enter
into a written agreement with the Secretary that such
individual will not disclose such software or source
code to any person other than authorized employees or
agents of the Secretary at any time, and that such
individual will not participate in the development of
software that is intended for a similar purpose as the
summoned software for a period of two years.
Computer source code is the code written by a programmer
using a programming language that is comprehensible to an
appropriately trained person, is not machine readable, and is
not capable of directly being used to give instructions to a
computer. Computer source code also includes any related
programmer's notes, design documents, memoranda and similar
documentation and customer communications regarding the
operation of the program (other than communications with the
taxpayer or any person related to the taxpayer).
The Secretary's determination may be contested in any
proceeding to enforce the summons, by any person to whom the
summons is addressed. In any such proceeding, the court may
issue any order that is necessary to prevent the disclosure of
confidential information, including (but not limited to) the
enforcement of the protections established by this provision.
Criminal penalties are provided where any person willfully
divulges or makes known software that was obtained (whether or
not by summons) for the purpose of examining a taxpayer's
return in violation of this provision.
Effective Date
The provision is effective for summons issued and software
acquired after the date of enactment. In addition, 90 days
after the date of enactment, the protections against the
disclosure and improper use of trade secrets and confidential
information added by the provision (except for the requirement
that the Secretary provide a written agreement from non-U.S.
government officers and employees) apply to software and source
code acquired on or before the date of enactment.
iv. Threat of audit prohibited to coerce tip reporting alternative
commitment agreements (sec. 3414 of the bill)
Present Law
Restaurants may enter into Tip Reporting Alternative
Commitment (TRAC) agreements. A restaurant entering into a TRAC
agreement is obligated to educate its employees on their tip
reporting obligations, to institute formal tip reporting
procedures, to fulfill all filing and record keeping
requirements, and to pay and deposit taxes. In return, the IRS
agrees to base the restaurant's liability for employment taxes
solely on reported tips and any unreported tips discovered
during an IRS audit of an employee.
Reasons for Change
The Committee believes that it is inappropriate for the
Secretary to use the threat of an IRS audit to induce
participation in voluntary programs.
Explanation of Provision
The provision requires the IRS to instruct its employees
that they may not threaten to audit any taxpayer in an attempt
to coerce the taxpayer to enter into a TRAC agreement.
Effective Date
The provision is effective on the date of enactment.
v. Taxpayers allowed motion to quash all third-party summonses (sec.
3415 of the bill and sec. 7609(a) of the Code)
Present Law
When the IRS issues a summons to a ``third-party
recordkeeper'' relating to the business transactions or affairs
of a taxpayer, Code section 7609 requires that notice of the
summons be given to the taxpayer within three days by certified
or registered mail. The taxpayer is thereafter given up to 23
days to begin a court proceeding to quash the summons. If the
taxpayer does so, third-party recordkeepers are prohibited from
complying with the summons until the court rules on the
taxpayer's petition or motion to quash, but the statute of
limitations for assessment and collection with respect to the
taxpayer is stayed during the pendency of such a proceeding.
Third-party recordkeepers are generally persons who hold
financial information about the taxpayer, such as banks,
brokers, attorneys, and accountants.
Reasons for Change
The Committee believes that a taxpayer should have notice
when the IRS uses its summons power to gather information in an
effort to determine the taxpayer's liability. Expanding notice
requirement to cover all third party summonses will ensure that
taxpayer will receive notice and an opportunity to contest any
summons issued to a third party in connection with the
determination of their liability.
Explanation of Provision
The provision generally expands the current ``third-party
recordkeeper'' procedures to apply to summonses issued to
persons other than the taxpayer. Thus, the taxpayer whose
liability is being investigated receives notice of the summons
and is entitled to bring an action in the appropriate U.S.
District Court to quash the summons. As under the current
third-party recordkeeper provision, the statute of limitations
on assessment and collection is stayed during the litigation,
and certain kinds of summonses specified under current law are
not subject to these requirements. No inference is intended
with respect to the applicability of present law to summonses
to the taxpayer or the scope of the authority to summons
testimony, books, papers, or other records.
Effective Date
The provision is effective for summonses served after the
date of enactment.
vi. Service of summonses to third-party recordkeepers permitted by mail
(sec. 3416 of the bill and sec. 7603 of the Code)
Present Law
Code section 7603 requires that a summons shall be served
``by an attested copy delivered in hand to the person to whom
it is directed or left at his last and usual place of abode.''
By contrast, if a third-party recordkeeper summons is served,
section 7609 permits the IRS to give the taxpayer notice of the
summons via certified or registered mail. Moreover, Rule 4 of
the Federal Rules of Civil Procedure permits service of process
by mail even in summons enforcement proceedings.
Reasons for Change
The Committee is concerned that, in certain cases, the
personal appearance of an IRS official at a place of business
for the purpose of serving a summons may be unnecessarily
disruptive. The Committee believes that it is appropriate to
permit service of summons, as well as notice of summons, by
mail.
Explanation of Provision
The provision allows the IRS the option of serving any
summons either in person or by mail.
Effective Date
The provision is effective for summonses served after the
date of enactment.
vii. Prohibition on IRS contact of third parties without taxpayer pre-
notification (sec. 3417 of the bill and sec. 7602 of the Code)
Present Law
Third parties may be contacted by the IRS in connection
with the examination of a taxpayer or the collection of the tax
liability of the taxpayer. The IRS has the right to summon
third-party recordkeepers under Code section 7609. In general,
the taxpayer must be notified of the service of summons on a
third party within three days of the date of service (sec.
7609(a)). The IRS also has the right to seize property of the
taxpayer that is held in the hands of third parties (sec.
6331(a)). Except in jeopardy situations, the Internal Revenue
Manual provides that IRS will personally contact the taxpayer
and inform the taxpayer that seizure of the asset is planned.
Reasons for Change
The Committee believes that taxpayers should be notified
before the IRS contacts third parties regarding examination or
collection activities with respect to the taxpayer. Such
contacts may have a chilling effect on the taxpayer's business
and could damage the taxpayer's reputation in the community.
Accordingly, the Committee believes that taxpayers should have
the opportunity to resolve issues and volunteer information
before the IRS contacts third parties.
Explanation of Provision
The provision requires the IRS to notify the taxpayer
before contacting third parties regarding examination or
collection activities (including summonses) with respect to the
taxpayer. Contacts with government officials relating to
matters such as the location of assets or the taxpayer's
current address are not restricted by this provision. The
provision does not apply to criminal tax matters, if the
collection of the tax liability is in jeopardy, or if the
taxpayer authorized the contact.
Effective Date
The provision is effective for contacts made after 180 days
after the date of enactment.
c. Collection Activities
i. Approval process for liens, levies, and seizures (sec. 3421 of the
bill)
Present Law
Supervisory approval of liens, levies or seizures is only
required under certain circumstances. For example, a levy on a
taxpayer's principal residence is only permitted upon the
written approval of the District Director or Assistant District
Director (sec. 6334(e)).
Reasons for Change
The Committee believes that the imposition of liens,
levies, and seizures may impose significant hardships on
taxpayers. Accordingly, the Committee believes that extra
protection in the form of an administrative approval process is
appropriate.
Explanation of Provision
The provision requires the IRS to implement an approval
process under which any lien, levy or seizure would be approved
by a supervisor, who would review the taxpayer's information,
verify that a balance is due, and affirm that a lien, levy or
seizure is appropriate under the circumstances. Circumstances
to be considered include the amount due and the value of the
asset. Failure to follow such procedures should result in
disciplinary action against the supervisor and/or revenue
officer.
In addition, the Treasury Inspector General for Tax
Administration is required to collect information on the
approval process and annually report to the tax-writing
committees.
Effective Date
The provision is effective for collection actions commenced
after date of enactment.
ii. Modifications to certain levy exemption amounts (sec. 3431 of the
bill and sec. 6334 of the Code)
Present Law
The Code authorizes the IRS to levy on all non-exempt
property of the taxpayer. Property exempt from levy is
described in section 6334. Section 6334(a)(2) exempts from levy
up to $2,500 in value of fuel, provisions, furniture, and
personal effects in the taxpayer's household. Section
6334(a)(3) exempts from levy up to $1,250 in value of books and
tools necessary for the trade, business or profession of the
taxpayer.
Reasons for Change
The Committee believes that a minimum amount of household
items and equipment for taxpayer's business should be exempt
from levy. To ensure that such exemption is meaningful, the
amounts should be indexed for inflation.
Explanation of Provision
The provision increases the value of personal effects
exempt from levy to $10,000 and the value of books and tools
exempt from levy to $5,000. These amounts are indexed for
inflation.
Effective Date
The provision is effective for collection actions taken
after the date of enactment.
iii. Release of levy upon agreement that amount is uncollectible (sec.
3432 of the bill and sec. 6343 of the Code)
Present Law
Some have contended that the IRS does not release a wage
levy immediately upon receipt of proof that the taxpayer is
unable to pay the tax, but instead, the IRS levies on one
period's wage payment before releasing the levy.
Reasons for Change
Congress believes that taxpayers should not have collection
activity taken against them once the IRS has determined that
the amounts are uncollectible.
Explanation of Provision
The IRS is required to immediately release a wage levy upon
agreement with the taxpayer that the tax is not collectible.
Effective Date
The provision is effective for levies imposed after date of
enactment.
iv. Levy prohibited during pendency of refund proceedings (sec. 3433 of
the bill and sec. 6331 of the Code)
Present Law
The IRS is prohibited from making a tax assessment (and
thus prohibited from collecting payment) with respect to a tax
liability while it is being contested in Tax Court. However,
the IRS is permitted to assess and collect tax liabilities
during the pendency of a refund suit relating to such tax
liabilities, under the circumstances described below.
Generally, full payment of the tax at issue is a
prerequisite to a refund suit. However, if the tax is divisible
(such as employment taxes or the trust fund penalty under Code
section 6672), the taxpayer need only pay the tax for the
applicable period before filing a refund claim. Most divisible
taxes are not within the Tax Court's jurisdiction; accordingly,
the taxpayer has no pre-payment forum for contesting such
taxes. In the case of divisible taxes, it is possible that the
taxpayer could be properly under the refund jurisdiction of the
District Court or the U.S. Court of Federal Claims and still be
subject to collection by levy with respect to the entire amount
of the tax at issue. The IRS's policy is generally to exercise
forbearance with respect to collection while the refund suit is
pending, so long as the interests of the Government are
adequately protected (e.g., by the filing of a notice of
Federal tax lien) and collection is not in jeopardy. Any
refunds due the taxpayer may be credited to the unpaid portion
of the liability pending the outcome of the suit.
Reasons for Change
The Committee believes that taxpayers who are litigating a
refund action over divisible taxes should be protected from
collection of the full assessed amount, because the court
considering the refund suit may ultimately determine that the
taxpayer is not liable.
Explanation of Provision
The provision requires the IRS to withhold collection by
levy of liabilities that are the subject of a refund suit
during the pendency of the litigation. This will only apply
when refund suits can be brought without the full payment of
the tax, i.e., in the case of divisible taxes. Collection by
levy would be withheld unless jeopardy exists or the taxpayer
waives the suspension of collection in writing (because
collection will stop the running of interest and penalties on
the tax liability). This provision will not affect the IRS's
ability to collect other assessments that are not the subject
of the refund suit, to offset refunds, to counterclaim in a
refund suit or related proceeding, or to file a notice of
Federal tax lien. The statute of limitations on collection is
stayed for the period during which the IRS is prohibited from
collecting by levy.
Effective Date
The provision is effective for refund suits brought with
respect to tax years beginning after December 31, 1998.
v. Approval required for jeopardy and termination assessments and
jeopardy levies (sec. 3434 of the bill and sec. 7429(a) of the
Code)
Present Law
In general, a 30-day waiting period is imposed after
assessment of all types of taxes. In certain circumstances, the
waiting period puts the collection of taxes at risk. The Code
provides special procedures that allow the IRS to make jeopardy
assessments or termination assessments in certain extraordinary
circumstances, such as if the taxpayer is leaving or removing
property from the United States (sec. 6851), or if assessment
or collection would be jeopardized by delay (secs. 6861 and
6862). In jeopardy or termination situations, a levy may be
made without the 30-days' notice of intent to levy that is
ordinarily required by section 6331(d)(2). Jeopardy assessments
apply when the tax year is over. Termination assessments apply
to the current taxable year or the immediately preceding
taxable year if the filing date has not yet passed. A
termination assessment serves to terminate the taxable year for
the purpose of computing the tax to be assessed and collected
under the termination assessment procedure. Under both the
jeopardy and termination assessment procedures, the IRS can
assess the tax and immediately begin collection if any one of
the following situations exists: (1) the taxpayer is or appears
to be planning to depart the United States or to go into
hiding; (2) the taxpayer is or appears to be planning to place
property beyond the reach of the IRS by removing it from the
country, hiding it, dissipating it, or by transferring it to
other persons; or (3) the taxpayer's financial solvency is or
appears to be imperiled. Because the same criteria apply to
jeopardy and termination assessments, jeopardy and termination
assessments are often entered at the same time against the same
taxpayer.
The Code and regulations do not presently require Counsel
to review jeopardy assessments, termination assessments, or
jeopardy levies, although the Internal Revenue Manual does
require Counsel review before such actions and it is current
practice to make such a review. The IRS bears the burden of
proof with respect to the reasonableness of a jeopardy or
termination assessment or a jeopardy levy (sec. 7429(g)).
Reasons for Change
The Committee believes that it is appropriate to require
Counsel review and approval of jeopardy and termination levies,
because such actions often involve difficult legal issues.
Explanation of Provision
The provision requires IRS Counsel review and approval
before the IRS could make a jeopardy assessment, a termination
assessment, or a jeopardy levy. If Counsel's approval was not
obtained, the taxpayer would be entitled to obtain abatement of
the assessment or release of the levy, and, if the IRS failed
to offer such relief, to appeal first to IRS Appeals under the
new due process procedure for IRS collections (described in E.
1, above) and then to court.
Effective Date
The provision is effective with respect to taxes assessed
and levies made after the date of enactment.
vi. Increase in amount of certain property on which lien not valid
(sec. 3435 of the bill and sec. 6323 of the Code)
Present Law
The Federal tax lien attaches to all property and rights in
property of the taxpayer, if the taxpayer fails to pay the
assessed tax liability after notice and demand (sec. 6321).
However, the Federal tax lien is not valid as to certain
``superpriority'' interests as defined in section 6323(b).
Two of these interests are limited by a specific dollar
amount. Under section 6323(b)(4), purchasers of personal
property at a casual sale are presently protected against a
Federal tax lien attached to such property to the extent the
sale is for less than $250. Section 6323(b)(7) provides
protection to mechanic's lienors with respect to the repairs or
improvements made to owner-occupied personal residences, but
only to the extent that the contract for repair or improvement
is for not more than $1,000.
In addition, a superpriority is granted under section
6323(b)(10) to banks and building and loan associations which
make passbook loans to their customers, provided that those
institutions retain the passbooks in their possession until the
loan is completely paid off.
Reasons for Change
The Committee believes that it is appropriate to increase
the dollar limits on the superpriority amounts because the
dollar limits have not been increased for decades and do not
reflect current prices or values.
Explanation of Provision
The provision increases the dollar limit in section
6323(b)(4) for purchasers at a casual sale from $250 to $1,000,
and further increases the dollar limit in section 6323(b)(7)
from $1,000 to $5,000 for mechanics lienors providing home
improvement work for owner-occupied personal residences. The
provision indexes these amounts for inflation. The provision
also clarifies section 6323(b)(10) to reflect present banking
practices, where a passbook-type loan may be made even though
an actual passbook is not used.
Effective Date
The provision is effective on the date of enactment.
vii. Waiver of early withdrawal tax for IRS levies on employer-
sponsored retirement plans or IRAs (sec. 3436 of the bill and
sec. 72(t)(2)(A) of the Code)
Present Law
Under present law, a distribution of benefits from any
employer-sponsored retirement plan or an individual retirement
arrangement (``IRA'') generally is includible in gross income
in the year it is paid or distributed, except to the extent the
amount distributed represents the employee's after-tax
contributions or investment in the contract (i.e., basis).
Special rules apply to certain lump-sum distributions from
qualified retirement plans, distributions rolled over to an IRA
or employer-sponsored retirement plan, and lump-sum
distributions of employer securities.
Distributions from qualified plans and IRAs prior to
attainment of age 59\1/2\ that are includible in income
generally are subject to a 10-percent early withdrawal tax,
unless an exception to the tax applies. An exception to the tax
applies if the withdrawal is due to death or disability, is
made in the form of certain periodic payments, or is used to
pay medical expenses in excess of 7.5 percent of adjusted gross
income (``AGI''). Certain additional exceptions to the tax
apply separately to withdrawals from IRAs and qualified plans.
Distributions from IRAs for education expenses, for up to
$10,000 of first-time homebuyer expenses, or to unemployed
individuals to purchase health insurance are not subject to the
10-percent early withdrawal tax. A distribution from a
qualified plan made by an employee after separation from
service after attainment of age 55 is not subject to the 10-
percent early withdrawal tax.
Under present law, the IRS is authorized to levy on all
non-exempt property of the taxpayer. Benefits under employer-
sponsored retirement plans (including section 403(b) and 457
plans) and IRAs are not exempt from levy by the IRS.
Under present law, distributions from employer-sponsored
retirement plans or IRAs made on account of an IRS levy are
includible in the gross income of the individual, except to the
extent the amount distributed represents after-tax
contributions. In addition, the amount includible in income is
subject to the 10-percent early withdrawal tax, unless an
exception described above applies.
Reasons for Change
The Committee believes that the imposition of the 10-
percent early withdrawal tax on amounts distributed from
employer-sponsored retirement plans or IRAs on account of an
IRS levy may impose significant hardships on taxpayers.
Accordingly, the Committee believes such distributions should
be exempt from the 10-percent early withdrawal tax.
Explanation of Provision
The provision provides an exception from the 10-percent
early withdrawal tax for amounts withdrawn from any employer-
sponsored retirement plan or an IRA that are subject to a levy
by the IRS. The exception applies only if the plan or IRA is
levied; it does not apply, for example, if the taxpayer
withdraws funds to pay taxes in the absence of a levy, in order
to release a levy on other interests, or in any other situation
not addressed by the express statutory exceptions to the 10-
percent early withdrawal tax.
Effective Date
The provision is effective for withdrawals after the date
of enactment.
viii. Prohibition of sales of seized property at less than minimum bid
(sec. 3441 of the bill and sec. 6335(e) of the Code)
Present Law
Section 6335(e) requires that a minimum bid price be
established for seized property offered for sale. To conserve
the taxpayer's equity, the minimum bid price should normally be
computed at 80 percent or more of the forced sale value of the
property less encumbrances having priority over the Federal tax
lien. If the group manager concurs, the minimum sales price may
be set at less than 80 percent. The taxpayer is to receive
notice of the minimum bid price within 10 days of the sale. The
taxpayer has the opportunity to challenge the minimum bid
price, which cannot be more than the tax liability plus the
expenses of sale. Accordingly, if the minimum bid price is set
at the tax liability plus the expenses of sale, the taxpayer's
concurrence is not required. IRM 56(13)5.1(4). Section 6335
does not contemplate a sale of the seized property at less than
the minimum bid price. Rather, if no person offers the minimum
bid price, the IRS may buy the property at the minimum bid
price or the property may be released to the owner. Code
section 7433 provides civil damages for certain unauthorized
collection actions.
Reasons for Change
The Committee believes that strengthening provisions
regarding the minimum bid price, including preventing the IRS
from selling the taxpayer's property for less than the minimum
bid price, are appropriate to preserve taxpayers'' rights.
Explanation of Provision
The provision prohibits the IRS from selling seized
property for less than the minimum bid price. The provision
provides that the sale of property for less than the minimum
bid price would constitute an unauthorized collection action,
which would permit an affected person to sue for civil damages
pursuant to section 7433.
Effective Date
The provision is effective for sales occurring after the
date of enactment.
ix. Accounting of sales of seized property (sec. 3442 of the bill and
sec. 6340 of the Code)
Present Law
The IRS is authorized to seize and sell a taxpayer's
property to satisfy an unpaid tax liability (sec. 6331(b)). The
IRS is required to give written notice to the taxpayer before
seizure of the property (sec. 6331(d)). The IRS must also give
written notice to the taxpayer at least 10 days before the sale
of the seized property.
The IRS is required to keep records of all sales of real
property (sec. 6340). The records must set forth all proceeds
and expenses of the sale. The IRS is required to apply the
proceeds first against the expenses of the sale, then against a
specific tax liability on the seized property, if any, and
finally against any unpaid tax liability of the taxpayer (sec.
6342(a)). Any surplus proceeds are credited to the taxpayer or
persons legally entitled to the proceeds.
Reasons for Change
The Committee believes that taxpayers are entitled to know
how proceeds from the sale of their property seized by the IRS
are applied to their tax liability.
Explanation of Provision
The provision requires the IRS to provide a written
accounting of all sales of seized property, whether real or
personal, to the taxpayer. The accounting must include a
receipt for the amount credited to the taxpayer's account.
Effective Date
The provision is effective for seizures occurring after the
date of enactment.
x. Uniform asset disposal mechanism (sec. 3443 of the bill)
Present Law
The IRS must sell property seized by levy either by public
auction or by public sale under sealed bids (sec.
6335(e)(2)(A)). These are often conducted by the revenue
officer charged with collecting the tax liability.
Reasons for Change
The Committee believes that it is important for fairness
and the appearance of propriety that revenue officers charged
with collecting unpaid tax liability are not personally
involved with the sale of seized property.
Explanation of Provision
The provision requires the IRS to implement a uniform asset
disposal mechanism for sales of seized property. The disposal
mechanism should be designed to remove any participation in the
sale of seized assets by revenue officers. The provision
authorizes the consideration of outsourcing of the disposal
mechanism.
Effective Date
The provision requires a uniform asset disposal system to
be implemented within two years from the date of enactment.
xi. Codification of IRS administrative procedures for seizure of
taxpayer's property (sec. 3444 of the bill and sec. 6331 of the
Code)
Present Law
The IRS provides guidelines for revenue officers engaged in
the collection of unpaid tax liabilities. The Internal Revenue
Manual (IRM) 56(12)5.1 provides general guidelines for seizure
actions: (1) the revenue officer must first verify the
taxpayer's liability; (2) no levy may be made if the estimated
expenses of levy and sale will exceed the fair market value of
the property to be sized (sec. 6331(f)); (3) no levy may be
made on the date of an appearance in response to an
administrative summons, unless jeopardy exists (sec. 6331(g));
(4) the taxpayer should have an opportunity to read the levy
form; (5) the revenue officer must attach a sufficient number
of warning notices on the property to clearly identify the
property to be seized; (6) the revenue officer must inventory
the property to be seized; and (7) a revenue officer may not
use force in the seizure of property.
Prior to the levy action, the revenue officer must
determine that there is sufficient equity in the property to be
seized to yield net proceeds from the sale to apply to unpaid
tax liabilities. If it is determined after seizure that the
taxpayer's equity is insufficient to yield net proceeds from
sale to apply to the unpaid tax, the revenue officer will
immediately release the seized property. See IRM 56(12)2.1.
IRS Policy Statement P-5-34 states that the facts of a case
and alternative collection methods must be thoroughly
considered before deciding to seize the assets of a going
business. IRS Policy Statement P-5-16 advises reasonable
forbearance on collection activity when the taxpayer's business
has been affected by a major disaster such as flood, hurricane,
drought, fire, etc., and whose ability to pay has been impaired
by such disaster.
Reasons for Change
The Committee believes that the IRS procedures on
collections provide important protections to taxpayers.
Accordingly, the Committee believes that it is appropriate to
codify those procedures to ensure that they are uniformly
followed by the IRS.
Explanation of Provision
The provision codifies the IRS administrative procedures
which require the IRS to investigate the status of property
prior to levy. The Treasury Inspector General for Tax
Administration would be required to review IRS compliance with
seizure procedures and report annually to Congress.
Effective Date
The provision is effective on the date of enactment.
xii. Procedures for seizure of residences and businesses (sec. 3445 of
the bill and sec. 6334(a)(13) of the Code)
Present Law
Subject to certain procedural rules and limitations, the
Secretary may seize the property of the taxpayer who neglects
or refuses to pay any tax within 10 days after notice and
demand. The IRS may not levy on the personal residence of the
taxpayer unless the District Director (or the assistant
District Director) personally approves in writing or in cases
of jeopardy. There are no special rules for property that is
used as a residence by parties other than the taxpayer.
IRS Policy Statement P-5-34 states that the facts of a case
and alternative collection methods must be thoroughly
considered before deciding to seize the assets of a going
business.
Reasons for Change
The Committee is concerned that seizure of the taxpayer's
principal residence is particularly disruptive for the taxpayer
as well as the taxpayer's family. The seizure of any residence
is disruptive to the occupants, and is not justified in the
case of a small deficiency. In the case of seizure of a
business, the seizure not only disrupts the taxpayer's life but
also may adversely impact the taxpayer's ability to enter into
an installment agreement or otherwise to continue to pay off
the tax liability. Accordingly, the Committee believes that the
taxpayer's principal residence or business should only be
seized to satisfy tax liability as a last resort, and that any
property used by any person as a residence should not be seized
for a small deficiency.
Explanation of Provision
The provision prohibits the IRS from seizing real property
that is used as a residence (by the taxpayer or another person)
to satisfy an unpaid liability of $5,000 or less, including
penalties and interest.
The provision requires the IRS to exhaust all other payment
options before seizing the taxpayer's business or principal
residence. The provision does not prohibit the seizure of a
business or a principal residence, but would treat such seizure
as a payment option of last resort. The provision does not
apply in cases of jeopardy. It is anticipated that the IRS
would consider installment agreements, offer-in-compromise, and
seizure of other assets of the taxpayer before taking
collection action against the taxpayer's business or principal
residence.
Effective Date
The provision is effective on the date of enactment.
d. Provisions Relating to Examination and Collection Activities
i. Procedures relating to extensions of statute of limitations by
agreement (sec. 3461 of the bill and sec. 6502(a) of the Code)
Present Law
The statute of limitations within which the IRS may assess
additional taxes is generally three years from the date a
return is filed (sec. 6501).34 Prior to the
expiration of the statute of limitations, both the taxpayer and
the IRS may agree in writing to extend the statute, using Form
872 or 872-A. An extension may be for either a specified period
or an indefinite period. The statute of limitations within
which a tax may be collected after assessment is 10 years after
assessment (sec. 6502). Prior to the expiration of the statute
of limitations, both the taxpayer and the IRS may agree in
writing to extend the statute, using Form 900.
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\34\ For this purpose, a return filed before the due date is
considered to be filed on the due date.
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Reasons for Change
The Committee believes that taxpayers should be fully
informed of their rights with respect to the statute of
limitations on assessment. The Committee is concerned that in
some cases taxpayer have not been fully aware of their rights
to refuse to extend the statute of limitations, and have felt
that they had no choice but to agree to extend the statute of
limitations upon the request of the IRS.
Moreover, the Committee believes that the IRS should
collect all taxes within 10 years, and that such statute of
limitation should not be extended.
Explanation of Provision
The provision eliminates the provision of present law that
allows the statute of limitations on collections to be extended
by agreement between the taxpayer and the IRS.
The provision also requires that, on each occasion on which
the taxpayer is requested by the IRS to extend the statute of
limitations on assessment, the IRS must notify the taxpayer of
the taxpayer's right to refuse to extend the statute of
limitations or to limit the extension to particular issues.
Effective Date
The provision applies to requests to extend the statute of
limitations made after the date of enactment and to all
extensions of the statute of limitations on collection that are
open 180 days after the date of enactment.
ii. Offers-in-compromise (sec. 3462 of the bill and sec. 7122 of the
Code)
Present Law
Section 7122 of the Code permits the IRS to compromise a
taxpayer's tax liability. An offer-in-compromise is a provision
by the taxpayer to settle unpaid tax accounts for less than the
full amount of the assessed balance due. An offer-in-compromise
may be submitted for all types of taxes, as well as interest
and penalties, arising under the Internal Revenue Code.
There are two bases on which an offer can be made: doubt as
to liability for the amount owed and doubt as to ability to pay
the amount owed.
A compromise agreement based on doubt as to ability to pay
requires the taxpayer to file returns and pay taxes for five
years from the date the IRS accepts the offer. Failure to do so
permits the IRS to begin immediate collection actions for the
original amount of the liability. The Internal Revenue Manual
35 provides guidelines for revenue officers to
determine whether an offer-in-compromise is adequate. An offer
is adequate if it reasonably reflects collection potential.
Although the revenue officer is instructed to consider the
taxpayer's assets and future and present income, the IRM
advises that rejection of an offer solely based on narrow asset
and income evaluations should be avoided.
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\35\ IRM 57(10)(10).1
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Pursuant to the IRM, collection normally is withheld during
the period an offer-in-compromise is pending, unless it is
determined that the offer is a delaying tactic and collection
is in jeopardy.
Reasons for Change
The Committee believes that the ability to compromise tax
liability and to make payments of tax liability by installment
enhances taxpayer compliance. In addition, the Committee
believes that the IRS should be flexible in finding ways to
work with taxpayers who are sincerely trying to meet their
obligations and remain in the tax system. Accordingly, the
Committee believes that the IRS should make it easier for
taxpayers to enter into offer-in-compromise agreements, and
should do more to educate the taxpaying public about the
availability of such agreements.
Explanation of Provision
Rights of taxpayers entering into offers-in-compromise
The provision requires the IRS to develop and publish
schedules of national and local allowances that will provide
taxpayers entering into an offer-in-compromise with adequate
means to provide for basic living expenses. The IRS also will
be required to consider the facts and circumstances of a
particular taxpayer's case in determining whether the national
and local schedules are adequate for that particular taxpayer.
If the facts indicate that use of scheduled allowances would be
inadequate under the circumstances, the taxpayer would not be
limited by the national or local allowances.
The provision prohibits the IRS from rejecting an offer-in-
compromise from a low-income taxpayer solely on the basis of
the amount of the offer.36 The provision provides
that, in the case of an offer-in-compromise submitted solely on
the basis of doubt as to liability, the IRS may not reject the
offer merely because the IRS cannot locate the taxpayer's file.
The provision prohibits the IRS from requesting a financial
statement if the taxpayer makes an offer-in-compromise based
solely on doubt as to liability.
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\36\ This provision does not affect the ability of the IRS to
reject an offer in compromise made by a taxpayer (other than a low-
income taxpayer) because the amount offered is too low.
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Suspend collection by levy while offer-in-compromise is pending
The provision prohibits the IRS from collecting a tax
liability by levy (1) during any period that a taxpayer's
offer-in-compromise for that liability is being processed, (2)
during the 30 days following rejection of an offer, and (3)
during any period in which an appeal of the rejection of an
offer is being considered. Taxpayers whose offers are rejected
and who made good faith revisions of their offers and
resubmitted them within 30 days of the rejection or return
would be eligible for a continuous period of relief from
collection by levy. This prohibition on collection by levy
would not apply if the IRS determines that collection is in
jeopardy or that the offer was submitted solely to delay
collection. The provision provides that the statute of
limitations on collection would be tolled for the period during
which collection by levy is barred.
Procedures for reviews of rejections of offers-in-compromise and
installment agreements
The provision requires that the IRS implement procedures to
review all proposed IRS rejections of taxpayer offers-in-
compromise and requests for installment agreements prior to the
rejection being communicated to the taxpayer. The provision
requires the IRS to allow the taxpayer to appeal any rejection
of such offer or agreement to the IRS Office of Appeals. The
IRS must notify taxpayers of their right to have an appeals
officer review a rejected offer-in-compromise on the
application form for an offer-in-compromise.
Publication of taxpayer's rights with respect to offers-in-compromise
The provision requires the IRS to publish guidance on the
rights and obligations of taxpayers and the IRS relating to
offers in compromise, including a compliant spouse's right to
apply to reinstate an agreement that would otherwise be revoked
due to the nonfiling or nonpayment of the other spouse,
providing all payments required under the compromise agreement
are current.
Liberal acceptance policy
It is anticipated that the IRS will adopt a liberal
acceptance policy for offers-in-compromise to provide an
incentive for taxpayers to continue to file tax returns and
continue to pay their taxes.
Effective Date
The provision is generally effective for offers-in-
compromise submitted after the date of enactment. The provision
suspending levy is effective with respect to offers-in-
compromise pending on or made after the 60th day after the date
of enactment.
iii. Notice of deficiency to specify deadlines for filing Tax Court
petition (sec. 3463 of the bill and sec. 6213(a) of the Code)
Present Law
Taxpayers must file a petition with the Tax Court within 90
days after the deficiency notice is mailed (150 days if the
person is outside the United States) (sec. 6213). If the
petition is not filed within that time period, the Tax Court
does not have jurisdiction to consider the petition.
Reasons for Change
The Committee believes that taxpayers should receive
assistance in determining the time period within which they
must file a petition in the Tax Court and that taxpayers should
be able to rely on the computation of that period by the IRS.
Explanation of Provision
The provision requires the IRS to include on each
deficiency notice the date determined by the IRS as the last
day on which the taxpayer may file a petition with the Tax
Court. The provision provides that a petition filed with the
Tax Court by this date is treated as timely filed.
Effective Date
The provision applies to notices mailed after December 31,
1998.
iv. Refund or credit of overpayments before final determination (sec.
3464 of the bill and sec. 6213(a) of the Code)
Present Law
Generally, the IRS may not take action to collect a
deficiency during the period a taxpayer may petition the Tax
Court, or if the taxpayer petitions the Tax Court, until the
decision of the Tax Court becomes final. Actions to collect a
deficiency attempted during this period may be enjoined, but
there is no authority for ordering the refund of any amount
collected by the IRS during the prohibited period.
If a taxpayer contests a deficiency in the Tax Court, no
credit or refund of income tax for the contested taxable year
generally may be made, except in accordance with a decision of
the Tax Court that has become final. Where the Tax Court
determines that an overpayment has been made and a refund is
due the taxpayer, and a party appeals a portion of the decision of the
Tax Court, no provision exists for the refund of any portion of any
overpayment that is not contested in the appeal.
Reasons for Change
The Committee believes that the Secretary should be allowed
to refund the uncontested portion of an overpayment of taxes,
without regard to whether other portions of the overpayment are
contested, as well as amounts that were collected during a
period in which collection is prohibited.
Explanation of Provision
The provision provides that a proper court (including the
Tax Court) may order a refund of any amount that was collected
within the period during which the Secretary is prohibited from
collecting the deficiency by levy or other proceeding.
The provision also allows the refund of that portion of any
overpayment determined by the Tax Court to the extent the
overpayment is not contested on appeal.
Effective Date
The provision is effective on the date of enactment.
v. IRS procedures relating to appeal of examinations and collections
(sec. 3465 of the bill and new sec. 7123 of the Code)
Present Law
IRS Appeals operates through regional Appeals offices which
are independent of the local District Director and Regional
Commissioner's offices. The regional Directors of Appeals
report to the National Director of Appeals of the IRS, who
reports directly to the Commissioner and Deputy Commissioner.
In general, IRS Appeals offices have jurisdiction over both
pre-assessment and post-assessment cases. The taxpayer
generally has an opportunity to seek Appeals jurisdiction after
failing to reach agreement with the Examination function and
before filing a petition in Tax Court, after filing a petition
in Tax Court (but before litigation), after assessment of
certain penalties, after a claim for refund has been rejected
by the District Director's office, and after a proposed
rejection of an offer-in-compromise in a collection case
(Treas. Reg. sec. 601.106(a)(1)).
In certain cases under Coordinated Examination Program
procedures, the taxpayer has an opportunity to seek early
Appeals jurisdiction over some issues while an examination is
still pending on other issues (Rev. Proc. 96-9, 1996-1 C.B.
575). The early referral procedures also apply to employment
tax issues on a limited basis (Announcement 97-52).
A mediation or alternative dispute resolution (ADR) process
is also available in certain cases. ADR is used at the end of
the administrative process as a final attempt to resolve a
dispute before litigation. ADR is currently only available for
cases with more than $10 million in dispute. ADR processes are
also available in bankruptcy cases and cases involving a
competent authority determination.
In April 1996, the IRS implemented a Collections Appeals
Program within the Appeals function, which allows taxpayers to
appeal lien, levy, or seizure actions proposed by the IRS. In
January 1997, appeals for installment agreements proposed for
termination were added to the program.
The local IRS Offices of Appeals are generally located in
the same area as the District Director's Offices. The IRS has
videoconferencing capability. The IRS does not have any program
to provide for Appeals conferences by videoconferencing
techniques.
Reasons for Change
The Committee believes that the IRS should be statutorily
bound to follow the procedures that the IRS has developed to
facilitate settlement in the IRS Office of Appeals. The
Committee also believes that mediation, binding arbitration,
early referral to Appeals, and other procedures would foster
more timely resolution of taxpayers' problems with the IRS.
In addition, the Committee believes that the ADR process is
valuable to the IRS and taxpayers and should be extended to all
taxpayers.
The Committee believes that all taxpayers should enjoy
convenient access to Appeals, regardless of their locality.
Explanation of Provision
The provision codifies existing IRS procedures with respect
to early referrals to Appeals and the Collections Appeals
Process. The provision also codifies the existing ADR
procedures, as modified by eliminating the dollar threshold.
In addition, the IRS is required to establish a pilot
program of binding arbitration for disputes of all sizes. Under
the pilot program, binding arbitration must be agreed to by
both the taxpayer and the IRS.
The provision requires the IRS to make Appeals officers
available on a regular basis in each State, and consider
videoconferencing of Appeals conferences for taxpayers seeking
appeals in rural or remote areas.
Effective Date
The provision is effective as of the date of enactment.
vi. Application of certain fair debt collection practices (sec. 3466 of
the bill and new sec. 6304 of the Code)
Present Law
The Fair Debt Collection Practices Act provides a number of
rules relating to debt collection practices. Among these are
restrictions on communication with the consumer, such as a
general prohibition on telephone calls outside the hours of
8:00 a.m. to 9:00 p.m. local time, and prohibitions on
harassing or abusing the consumer. In general, these provisions
do not apply to the Federal Government.
Reasons for Change
The Committee believes that the IRS should be at least as
considerate to taxpayers as private creditors are required to
be with their customers. Accordingly, the Committee believes
that it is appropriate to require the IRS to comply with
applicable portions of the Fair Debt Collection Practices Act,
so that both taxpayers and the IRS are fully aware of these
requirements.
Explanation of Provision
The provision makes the restrictions relating to
communication with the taxpayer/debtor and the prohibitions on
harassing or abusing the debtor applicable to the IRS by
incorporating these provisions into the Internal Revenue Code.
The restrictions relating to communication with the taxpayer/
debtor are not intended to hinder the ability of the IRS to
respond to taxpayer inquiries (such as answering telephone
calls from taxpayers).
Effective Date
The provision is effective on the date of enactment.
vii. Guaranteed availability of installment agreements (sec. 3467 of
the bill and sec. 6159 of the Code)
Present Law
Section 6159 of the Code authorizes the IRS to enter into
written agreements with any taxpayer under which the taxpayer
is allowed to pay taxes owed, as well as interest and
penalties, in installment payments if the IRS determines that
doing so will facilitate collection of the amounts owed. An
installment agreement does not reduce the amount of taxes,
interest, or penalties owed. However, it does provide for a
longer period during which payments may be made during which
other IRS enforcement actions (such as levies or seizures) are
held in abeyance. Many taxpayers can request an installment
agreement by filing form 9465. This form is relatively simple
and does not require the submission of detailed financial
statements. The IRS in most instances readily approves these
requests if the amounts involved are not large (in general,
below $10,000) and if the taxpayer has filed tax returns on
time in the past. Some taxpayers are required to submit
background information to the IRS substantiating their
application. If the request for an installment agreement is
approved by the IRS, a user fee of $43 is charged. This user
fee is in addition to the tax, interest, and penalties that are
owed.
Reasons for Change
The Committee believes that the ability to make payments of
tax liability by installment enhances taxpayer compliance. In
addition, the Committee believes that the IRS should be
flexible in finding ways to work with taxpayers who are
sincerely trying to meet their obligations. Accordingly, the
Committee believes that the IRS should make it easier for
taxpayers to enter into installment agreements.
Explanation of Provision
The provision requires the Secretary to enter an
installment agreement, at the taxpayer's option, if:
(1) the liability is $10,000, or less (excluding
penalties and interest);
(2) within the previous 5 years, the taxpayer has not
failed to file or to pay, nor entered an installment
agreement under this provision;
(3) if requested by the Secretary, the taxpayer
submits financial statements, and the Secretary
determines that the taxpayer is unable to pay the tax
due in full;
(4) the installment agreement provides for full
payment of the liability within 3 years; and
(5) the taxpayer agrees to continue to comply with
the tax laws and the terms of the agreement for the
period (up to 3 years) that the agreement is in place.
Effective Date
The provision is effective on the date of enactment.
F. Disclosures to Taxpayers
1. Explanation of joint and several liability (sec. 3501 of the bill)
Present Law
In general, spouses who file a joint tax return are each
fully responsible for the accuracy of the tax return and for
the full liability. Spouses who wish to avoid such joint and
several liability may file as married persons filing
separately. Special rules apply in the case of innocent spouses
pursuant to section 6013(e).
Reasons for Change
The Committee believes that married taxpayers need to
clearly understand the legal implications of signing a joint
return and that it is appropriate for the IRS to provide the
information necessary for that understanding.
Explanation of Provision
The provision requires that, no later than 180 days after
the date of enactment, the IRS must establish procedures
clearly to alert married taxpayers of their joint and several
liability on all appropriate tax publications and instructions
and of the availability of electing separate liability. It is
anticipated that the IRS will make an appropriate cross-
reference to these statements near the signature line on
appropriate tax forms.
Effective Date
The provision requires that the procedures be established
as soon as practicable, but no later than 180 days after the
date of enactment.
2. Explanation of taxpayers' rights in interviews with the IRS (sec.
3502 of the bill)
Present Law
Prior to or at initial in-person audit interviews, the IRS
must explain to taxpayers the audit process and taxpayers'
rights under that process (sec. 7521). In addition, prior to or
at initial in-person collection interviews, the IRS must
explain the collection process and taxpayers' rights under that
process. If a taxpayer clearly states during an interview with
the IRS that the taxpayer wishes to consult with the taxpayer's
representative, the interview must be suspended to afford the
taxpayer a reasonable opportunity to consult with the
representative.
Reasons for Change
The Committee believes that taxpayers should be more fully
informed of their rights to representation in dealings with the
IRS, and that those rights should be respected.
Explanation of Provision
The provision requires that the IRS rewrite Publication 1
(``Your Rights as a Taxpayer'') to more clearly inform
taxpayers of their rights (1) to be represented by a
representative and (2) if the taxpayer is so represented, that
the interview may not proceed without the presence of the
representative unless the taxpayer consents.
In addition, the provision requires the Treasury Inspector
General for Tax Administration to report annually as to whether
IRS employees are directly contacting taxpayers who have
indicated that they prefer their representatives be contacted.
Effective Date
The addition to Publication 1 must be made not later than
180 days after the date of enactment. The annual reports would
begin in 1999.
3. Disclosure of criteria for examination selection (sec. 3503 of the
bill)
Present Law
The IRS examines Federal tax returns to determine the
correct liability of taxpayers. The IRS selects returns to be
audited in a number of ways, such as through a computerized
classification system (the discriminant function (``DIF'')
system).
Reasons for Change
The Committee believes it is important that taxpayers
understand the reasons they may be selected for examination.
Explanation of Provision
The provision requires that IRS add to Publication 1
(``Your Rights as a Taxpayer'') a statement which sets forth in
simple and nontechnical terms the criteria and procedures for
selecting taxpayers for examination. The statement must not
include any information the disclosure of which would be
detrimental to law enforcement. The statement must specify the
general procedures used by the IRS, including whether taxpayers
are selected for examination on the basis of information in the
media or from informants.
Effective Date
The addition to Publication 1 must be made not later than
180 days after the date of enactment.
4. Explanations of appeals and collection process (sec. 3504 of the
bill)
Present Law
There is no statutory requirement that specific notices be
given to taxpayers along with the first letter of proposed
deficiency that allows the taxpayer an opportunity for
administrative review in the IRS Office of Appeals.
Reasons for Change
The Committee believes it is important that taxpayers
understand they have a right to have any assessment reviewed by
the IRS Office of Appeals, as well as be informed of the steps
they must take to obtain that review.
Explanation of Provision
The provision requires that, no later than 180 days after
the date of enactment, a description of the entire process from
examination through collections, including the assistance
available to taxpayers from the Taxpayer Advocate at various
points in the process, be provided with the first letter of
proposed deficiency that allows the taxpayer an opportunity for
administrative review in the IRS Office of Appeals.
Effective Date
The provision requires that the explanation be included as
soon as practicable, but no later than 180 days after the date
of enactment.
5. Explanation of reason for refund denial (sec. 3505 of the bill and
new sec. 6402(j) of the Code)
Present Law
The Examination Division of the IRS examines claims for
refund submitted by taxpayers. The Internal Revenue Manual
requires examination or other audit action on refund claims
within 30 days after receipt of the claims. The refund claim is
preliminarily examined to determine if it should be disallowed
because it (1) was untimely filed, (2) was based solely on
alleged unconstitutionality of the Revenue Acts, (3) was
already waived by the taxpayer as consideration for a
settlement, (4) covers a taxable year and issues which were the
subject of a final closing agreement or an offer in compromise,
or (5) relates to a return closed on the basis of a final order
of the Tax Court. In those cases, the taxpayer will receive a
form from the IRS stating that the claim for refund cannot be
considered. Other cases will be examined as quickly as possible
and the disposition of the case, including the reasons for the
disallowance or partial disallowance of the refund claim, must
be stated in the portion of the revenue agent's report that is
sent to the taxpayer.
Reasons for Change
The Committee believes that taxpayers are entitled to an
explanation of the reason for the disallowance or partial
disallowance of a refund claim so that the taxpayer may
appropriately respond to the IRS.
Explanation of Provision
The provision requires the IRS to notify the taxpayer of
the specific reasons for the disallowance (or partial
disallowance) of the refund claim.
Effective Date
The provision is effective 180 days after the date of
enactment.
6. Statements to taxpayers with installment agreements (sec. 3506 of
the bill)
Present Law
A taxpayer entering into an installment agreement to pay
tax liabilities due to the IRS must complete a Form 433-D which
sets forth the installment amounts to be paid monthly and the
total amount of tax due. The IRS does not provide the taxpayer
with an annual statement reflecting the amounts paid and the
amount due remaining.
Reasons for Change
The Committee believes that taxpayers who enter into an
installment agreement should be kept informed of amounts
applied towards the outstanding tax liability and amounts
remaining due.
Explanation of Provision
The provision requires the IRS to send every taxpayer in an
installment agreement an annual statement of the initial
balance owed, the payments made during the year, and the
remaining balance.
Effective Date
The provision is effective no later than 180 days after the
date of an enactment.
7. Notification of change in tax matters partner (sec. 3507 of the bill
and sec. 6231(a)(7) of the Code)
Present Law
In general, the tax treatment of items of partnership
income, loss, deductions and credits are determined at the
partnership level in a unified partnership proceeding rather
than in separate proceedings with each partner. In providing
notice to taxpayers with respect to partnership proceedings,
the IRS relies on information furnished by a party designated
as the tax matters partner (TMP) of the partnership. The TMP is
required to keep each partner informed of all administrative
and judicial proceedings with respect to the partnership (sec.
6233(g)). Under certain circumstances, the IRS may require the
resignation of the incumbent TMP and designate another partner
as the TMP of a partnership (sec. 6231(a)(7)).
Reasons for Change
The Committee is concerned that, in cases where the IRS
designates the TMP, that the other partners may be unaware of
such designation.
Explanation of Provision
The provision requires the IRS to notify all partners of
any resignation of the tax matters partner that is required by
the IRS, and to notify the partners of any successor tax
matters partner.
Effective Date
The provision applies to selections of tax matters partners
made by the Secretary after the date of enactment.
G. Low-Income Taxpayer Clinics (sec. 3601 of the bill and new sec. 7526
of the Code)
Present Law
There are no provisions in present law providing for
assistance to clinics that assist low-income taxpayers.
Reasons for Change
The Committee believes that the provision of tax services
by accredited nominal fee clinics to low-income individuals and
those for whom English is a second language will improve
compliance with the Federal tax laws and should be encouraged.
Explanation of Provision
The Secretary is authorized to provide up to $3,000,000 per
year in matching grants to certain low-income taxpayer clinics.
No clinic could receive more than $100,000 per year.
Eligible clinics would be those that charge no more than a
nominal fee to either represent low-income taxpayers in
controversies with the IRS or provide tax information to
individuals for whom English is a second language.
A ``clinic'' would include (1) a clinical program at an
accredited law school, an accredited business school, or an
accredited accounting school, in which students represent low-
income taxpayers, or (2) an organization exempt from tax under
Code section 501(c) which either represents low-income
taxpayers or provides referral to qualified representatives.
Effective Date
The provision is effective on the date of enactment.
H. Other Provisions
1. Cataloging complaints (sec. 3701 of the bill)
Present Law
The IRS is required to make an annual report to the
Congress, beginning in 1997, on all categories of instances
involving allegations of misconduct by IRS employees, arising
either from internally identified cases or from taxpayer or
third-party initiated complaints. The report must identify the
nature of the misconduct or complaint, the number of instances
received by category, and the disposition of the complaints.
Reasons for Change
The Committee believes that all allegations of misconduct
by IRS employees must be carefully investigated. The Committee
also believes that the annual report to Congress will help
develop a public perception that the IRS takes such allegations
of misconduct seriously. The Committee is concerned that, in
the absence of records detailing taxpayer complaints of
misconduct on an individual employee basis, the IRS will not be
able to adequately investigate such allegations or properly
prepare the required report.
Explanation of Provision
The provision requires that, in collecting data for this
report, records of taxpayer complaints of misconduct by IRS
employees must be maintained on an individual employee basis.
These individual records are not to be listed in the report.
Effective Date
The requirement is effective on the date of enactment.
2. Archive of records of Internal Revenue Service (sec. 3702 of the
bill and sec. 6103 of the Code)
Present Law
The IRS is obligated to transfer agency records to the
National Archives and Records Administration (``NARA'') for
retention or disposal. The IRS is also obligated to protect
confidential taxpayer records from disclosure. These two
obligations have created conflict between NARA and the IRS.
Under present law, the IRS determines whether records contain
taxpayer information. Once the IRS has made that determination,
NARA is not permitted to examine those records. NARA has
expressed concern that the IRS may be using the disclosure
prohibition to improperly conceal agency records with
historical significance.
IRS obligation to archive records
The IRS, like all other Federal agencies, must create,
maintain, and preserve agency records in accordance with
section 3101 of title 44 of the United States Code. NARA is the
Government agency responsible for overseeing the management of
the records of the Federal government.\37\ Federal agencies are
required to deposit significant and historical records with
NARA.\38\ The head of each Federal agency must also establish
safeguards against the removal or loss of records.\39\
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\37\ 44 U.S.C. sec. 2904.
\38\ 5 U.S.C. sec. 552a(b)(6).
\39\ 44 U.S.C. sec. 3105.
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Authority of NARA
NARA is authorized, under the Federal Records Act, to
establish standards for the selective retention of records of
continuing value.\40\ NARA has the statutory authority to
inspect records management practices of Federal agencies and to
make recommendations for improvement.\41\ The head of each
Federal agency must submit to NARA a list of records to be
destroyed and a schedule for such destruction.\42\ NARA
examines the list to determine if any of the records on the
list have sufficient administrative, legal research, or other
value to warrant their continued preservation. In many cases,
the description of the record on the list is sufficient for
NARA to make the determination. For example, NARA does not need
to inspect Presidential tax returns to determine that they have
historical value and should be retained. In some cases, NARA
may find it helpful to examine a particular record. NARA has
general authority to inspect records solely for the purpose of
making recommendations for the improvement of records
management practices.\43\ However, tax returns and return
information can only be disclosed under the authority provided
in section 6103 of the Internal Revenue Code. There is no
exception to the disclosure prohibition for records management
inspection by NARA.\44\
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\40\ 44 U.S.C. sec. 2905.
\41\ 44 U.S.C. sec. 2904(c)(7).
\42\ 44 U.S.C. sec. 3303.
\43\ 44 U.S.C. sec. 2906.
\44\ American Friends Service Committee v. Webster, 720 F.2d 29
(D.C. Cir. 1983).
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In connection with its evaluation of the records management
system of the IRS, NARA noted several instances where the
disclosure prohibitions of Code section 6103 complicated their
review of many IRS records.
NARA is also responsible for the custody, use and
withdrawal of records transferred to it.\45\ Statutory
provisions that restrict public access to the records in the
hands of the agency from which the records were transferred
also apply to NARA. Thus, if a confidential record, such as a
Presidential tax return, is transferred to NARA for archival
storage, NARA is not permitted to disclose it. In general, the
application of such restrictions to records in the hands of
NARA expire after the records have been in existence for 30
years.\46\ The issue of whether the specific disclosure
prohibition of section 6103 takes precedence over the general
30-year expiration of restrictions generally applicable to
records in the hands of NARA has not been addressed by a court,
but an informal advisory opinion from the Office of Legal
Counsel of the Attorney General concluded that the 30-year
expiration provision would not reach records subject to section
6103.\47\
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\45\ 44 U.S.C. sec. 2108.
\46\ 44 U.S.C. sec. 2108.
\47\ Department of Justice, Office of Legal Counsel, Memorandum to
Richard K. Willard, Assistant Attorney General (Civil Division)
(February 27, 1986).
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Confidentiality requirements
The IRS must preserve the confidentiality of taxpayer
information contained in Federal income tax returns. Such
information may not be disclosed except as authorized under
Code section 6103. Section 6103 was substantially revised in
1976 to address Congress'' concern that tax information was
being used by Federal agencies in pursuit of objectives
unrelated to administration and enforcement of the tax laws.
Congress believed that the wide-spread use of tax information
by agencies other than the IRS could adversely affect the
willingness of taxpayers to comply voluntarily with the tax
laws and could undermine the country's self- assessment tax
system.\48\ Section 6103 does not authorize the disclosure of
confidential return information to NARA.
---------------------------------------------------------------------------
\48\ S. Rept. 94-938, p. 317 (1976).
---------------------------------------------------------------------------
Section 6103 restricts the disclosure of returns and return
information only. Return means any tax or information return,
declaration of estimated tax, or claim for refund, including
schedules and attachments thereto, filed with the IRS. Return
information includes the taxpayer's name; nature and source or
amount of income; and whether the taxpayer's return is under
investigation. Section 6103(b)(2) provides that ``nothing in
any other provision of law shall be construed to require the
disclosure of standards used or to be used for the selection of
returns for examination, or data used or to be used for
determining such standards, if the Secretary determines that
such disclosure will seriously impair assessment, collection,
or enforcement under the internal revenue laws.'' Section 6103
does not restrict the disclosure of other records required to
be maintained by the IRS, such as records documenting agency
policy, programs and activities, and agency histories. Such
records are required to be made available to the public under
the Freedom of Information Act (``FOIA'').\49\
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\49\ FOIA does not require disclosure of records or information
that would frustrate law enforcement efforts. 5 U.S.C. sec. 552(b)(7).
---------------------------------------------------------------------------
The Internal Revenue Code prohibits disclosure of tax
returns and return information, except to the extent
specifically authorized by the Internal Revenue Code (sec.
6103). Unauthorized disclosure is a felony punishable by a fine
not exceeding $5,000 or imprisonment of not more than five
years, or both (sec. 7213). An action for civil damages also
may be brought for unauthorized disclosure (sec. 7431).
Reasons for Change
The Committee believes that it is appropriate to permit
disclosure to NARA for purposes of scheduling records for
destruction or retention, while at the same time preserving the
confidentiality of taxpayer information in those documents.
Explanation of Provision
The provision provides an exception to the disclosure rules
to require IRS to disclose IRS records to officers or employees
of NARA, upon written request from the U.S. Archivist, for
purposes of the appraisal of such records for destruction or
retention. The present-law prohibitions on and penalties for
disclosure of tax information would generally apply to NARA.
Effective Date
The provision is effective for requests made by the
Archivist after the date of enactment.
3. Payment of taxes (sec. 3703 of the bill)
Present Law
The Code provides that it is lawful for the Secretary to
accept checks or money orders as payment for taxes, to the
extent and under the conditions provided in regulations
prescribed by the Secretary (sec. 6311). Those regulations
state that checks or money orders should be made payable to the
Internal Revenue Service.
Reasons for Change
The Committee believes that it more appropriate that checks
be made payable to the United States Treasury.
Explanation of Provision
The provision requires the Secretary or his delegate to
establish such rules, regulations, and procedures as are
necessary to allow payment of taxes by check or money order to
be made payable to the United States Treasury.
Effective Date
The provision is effective on the date of enactment.
4. Clarification of authority of Secretary relating to the making of
elections (sec. 3704 of the bill and sec. 7805 of the Code)
Present Law
Except as otherwise provided, elections provided by the
Code are to be made in such manner as the Secretary shall by
regulations or forms prescribe.
Reasons for Change
The Committee wishes to eliminate any confusion over the
type of guidance in which the Secretary may prescribe the
manner of making any election.
Explanation of Provision
The provision clarifies that, except as otherwise provided,
the Secretary may prescribe the manner of making of any
election by any reasonable means.
Effective Date
The provision is effective as of the date of enactment.
5. IRS employee contacts (sec. 3705 of the bill)
Present Law
The IRS sends many different notices to taxpayers. Some
(but not all) of these notices contain a name and telephone
number of an IRS employee who the taxpayer may call if the
taxpayer has any questions.
Reasons for Change
The Committee believes that it is important that taxpayers
receive prompt answers to their questions about their tax
liability. Many taxpayers report frustration because they
cannot determine the appropriate IRS employee to contact for
information.
Explanation of Provision
The provision requires that all IRS notices and
correspondence contain a name and telephone number of an IRS
employee whom the taxpayer may call. In addition, to the extent
practicable and where it is advantageous to the taxpayer, the
IRS should assign one employee to handle a matter with respect
to a taxpayer until that matter is resolved.
Effective Date
The provision is effective 60 days after the date of
enactment.
6. Use of pseudonyms by IRS employees (sec. 3706 of the bill)
Present Law
The Federal Service Impasses Panel has ruled that if an
employee believes that use of the employee's last name only
will identify the employee due to the unique nature of the
employee's last name, and/or nature of the office locale, then
the employee may ``register'' a pseudonym with the employee's
supervisor.
Reasons for Change
The Committee is concerned that IRS employees may use
pseudonyms in inappropriate circumstances.
Explanation of Provision
The provision provides that an IRS employee may use a
pseudonym only if (1) adequate justification, such as
protecting personal safety, for using the pseudonym was
provided by the employee as part of the employee's request and
(2) management has approved the request to use the pseudonym
prior to its use.
Effective Date
The provision is effective with respect to requests made
after the date of enactment.
7. Conferences of right in the National Office of IRS (sec. 3707 of the
bill)
Present Law
In any matter involving the submission of a substantive
legal matter involving a specific taxpayer to the National
Office of the IRS, the taxpayer is entitled to at least one
conference (the ``conference of right'') at which it can
explain its position.
Reasons for Change
The Committee is concerned that the presence of the IRS
employee with whom the taxpayer has previously dealt may hinder
efficient resolution of the issue in the National Office.
Explanation of Provision
The provision gives a taxpayer the right to limit
participation in its conference of right to IRS national office
personnel.
Effective Date
The provision is effective with respect to requests made
after the date of enactment.
8. Illegal tax protester designations (sec. 3708 of the bill)
Present Law
The IRS designates individuals who meet certain criteria as
``illegal tax protesters'' in the IRS Master File.
Reasons for Change
The Committee is concerned that taxpayers may be
stigmatized by a designation as an ``illegal tax protester.''
Explanation of Provision
The provision prohibits the use by the IRS of the ``illegal
tax protester'' designation. Any extant designation in the
individual master file (the main computer file) must be removed
and any other extant designation (such as on paper records that
have been archived) must be disregarded. The IRS is, however,
permitted to designate appropriate taxpayers as nonfilers. The
IRS must remove the nonfiler designation once the taxpayer has
filed valid tax returns for two consecutive years and paid all
taxes shown on those returns.
Effective Date
The provision is effective on the date of enactment.
9. Provision of confidential information to Congress by whistleblowers
(sec. 3709 of the bill and sec. 6103(f) of the Code)
Present Law
Tax return information generally may not be disclosed,
except as specifically provided by statute. The Secretary of
the Treasury may furnish tax return information to the
Committee on Finance, the Committee on Ways and Means and the
Joint Committee on Taxation upon a written request from the
chairmen of such committees. If the information can be
associated with, or otherwise identify, directly or indirectly,
a particular taxpayer, the information may by furnished to the
committee only while sitting in closed executive session unless
such taxpayer otherwise consents in writing to such disclosure.
Reasons for Change
The Committee believes that it is appropriate to have the
opportunity to receive tax return information directly from
whistleblowers.
Explanation of Provision
The provision allows any person who is (or was) authorized
to receive confidential tax return information to disclose tax
return information directly to the Chairman of the Senate
Committee on Finance, the Chairman of the House Committee on
Ways and Means or the Chief of Staff of the Joint Committee on
Taxation provided: (1) such disclosure is for the purpose of
disclosing an incident of IRS employee or taxpayer abuse, and
(2) the Chairman of the committee to which the information will
be disclosed gives prior approval for the disclosure in
writing.
Effective Date
The provision is effective on the date of enactment.
10. Listing of local IRS telephone numbers and addresses (sec. 3710 of
the bill)
Present Law
The IRS is not statutorily required to publish the local
telephone number or address of its local offices, and generally
does not do so.
Reasons for Change
The Committee believes that every taxpayer should have
convenient access to the IRS.
Explanation of Provision
The provision requires the IRS, as soon as is practicable
but no later than 180 days after the date of enactment, to
publish addresses and local telephone numbers of local IRS
offices in appropriate local telephone directories.
Effective Date
The provision is effective on the date of enactment.
11. Identification of return preparers (sec. 3711 of the bill and sec.
6109(a) of the Code)
Present Law
Any return or claim for refund prepared by an income tax
return preparer must bear the social security number of the
return preparer, if such preparer is an individual (sec.
6109(a)).
Reasons for Change
The Committee is concerned that inappropriate use might be
made of a preparer's social security number.
Explanation of Provision
The provision authorizes the IRS to approve alternatives to
Social Security numbers to identify tax return preparers.
Effective Date
The provision is effective on the date of enactment.
12. Offset of past-due, legally enforceable State income tax
obligations against overpayments (sec. 3712 of the bill and new
sec. 6402(e) of the Code)
Present Law
Overpayments of Federal tax may be used to pay past-due
child support and debts owed to Federal agencies (sec. 6402),
without the consent of the taxpayer. Such amount for past-due
child support may be paid directly to a State. Present law
provides that offsets are made in the following priority: (1)
child support; and (2) other Federal debts, in the order in
which such debts accrued.
Reasons for Change
The Committee believes that it is appropriate to permit
States to collect past-due, legally enforceable income tax
debts that have been reduced to judgment from Federal tax
overpayments.
Explanation of Provision
The provision permits States to participate in the IRS
refund offset program for past-due, legally enforceable State
income tax debts that have been reduced to judgment, providing
the person making the Federal tax overpayment has shown on the
return establishing the overpayment an address that is within
the State seeking the tax offset. The offset applies after the
offsets provided in present law for internal revenue tax
liabilities, past-due support, and past-due, legally
enforceable obligations owed a Federal agency. The offset
occurs before the designation of any refund toward future
Federal tax liability.
Effective Date
The provision applies to Federal income tax refunds payable
after December 31, 1998.
13. Moratorium regarding regulations under Notice 98-11 (sec.
3713(a)(1) of the bill)
Present Law
Overview
U.S. citizens and residents and U.S. corporations are taxed
currently by the United States on their worldwide income,
subject to a credit against U.S. tax on foreign-source income
for foreign income taxes paid with respect to such income. A
foreign corporation generally is not subject to U.S. tax on its
income from operations outside the United States.
Income of a foreign corporation generally is taxed by the
United States when it is repatriated to the United States
through payment to the corporation's U.S. shareholders, subject
to a foreign tax credit. However, various regimes imposing
current U.S. tax on income earned through a foreign corporation
are reflected in the Code. One anti-deferral regime set forth
in the Code is the controlled foreign corporation rules of
subpart F (secs. 951-964).
A controlled foreign corporation (``CFC'') is defined
generally as any foreign corporation if U.S. persons own more
than 50 percent of the corporation's stock (measured by vote or
value), taking into account only those U.S. persons that own at
least 10 percent of the stock (measured by vote only) (sec.
957). Stock ownership includes not only stock owned directly,
but also stock owned indirectly or constructively (sec. 958).
The United States generally taxes the U.S. 10-percent
shareholders of a CFC currently on their pro rata shares of
certain income of the CFC (so-called ``subpart F income'')
(sec. 951). In effect, the Code treats those shareholders as
having received a current distribution out of the CFC's subpart
F income. Such shareholders also are subject to current U.S.
tax on their pro rata shares of the CFC's earnings invested in
U.S. property (sec. 951). The foreign tax credit may reduce the
U.S. tax on these amounts.
Subpart F income includes, among other items, foreign base
company income (sec. 952). Foreign base company income, in
turn, includes foreign personal holding company income, foreign
base company sales income, foreign base company services
income, foreign base company shipping income and foreign base
company oil related income (sec. 954). Foreign personal holding
company income includes, among other items, dividends,
interest, rents and royalties. An exception from foreign
personal holding company income applies to certain dividends
and interest received from a related person which is created or
organized in the same country as the CFC and which has a
substantial part of its assets in that country, and to certain
rents and royalties received from a related person for the use
of property in the same country in which the CFC was created or
organized (the so-called ``same-country exception'').
Foreign base company sales income includes income derived
by a CFC from certain related-party transactions, including the
purchase of personal property from a related person and its
sale to any person, the purchase of personal property from any
person and its sale to a related person, and the purchase or
sale of personal property on behalf of a related person, where
the property which is purchased or sold is manufactured outside
the country in which the CFC was created or organized and the
property is purchased or sold for use or consumption outside
such foreign country. A special branch rule applies for
purposes of determining a CFC's foreign base company sales
income. Under this rule, a branch of a CFC is treated as a
separate corporation (only for purposes of determining the
CFC's foreign base company sales income) where the activities
of the CFC through the branch outside the CFC's country of
incorporation have substantially the same effect as if such
branch were a subsidiary.
Because of differences in U.S. and foreign laws, it is
possible for a taxpayer to enter into transactions that are
treated in one manner for U.S. tax purposes and in another
manner for foreign tax purposes. These transactions are
referred to as hybrid transactions. For example, a hybrid
transaction may involve the use of an entity that is treated as
a corporation for purposes of the tax law of one jurisdiction
but is treated as a branch or partnership for purposes of the
tax law of another jurisdiction.
Notice 98-11 and the regulations issued thereunder
Notice 98-11, issued on January 16, 1998, addresses the
treatment of hybrid branches under the subpart F provisions of
the Code. The Notice states that the Treasury Department and
the Internal Revenue Service have concluded that the use of
certain arrangements involving hybrid branches is contrary to
the policy and rules of subpart F. The hybrid branch
arrangements identified in Notice 98-11 involve structures that
are characterized for U.S. tax purposes as part of a CFC but
are characterized for purposes of the tax law of the country in
which the CFC is incorporated as a separate entity. The Notice
states that regulations will be issued to prevent the use of
hybrid branch arrangements to reduce foreign tax while avoiding
the corresponding creation of subpart F income. The Notice
states that such regulations will provide that the branch and
the CFC will be treated as separate corporations for purposes
of subpart F. The Notice also states that similar issues raised
under subpart F by certain partnership or trust arrangements
will be addressed in separate regulation projects.
On March 23, 1998, temporary and proposed regulations were
issued to address the issues raised in Notice 98-11 and to
address certain partnership and other issues raised under
subpart F. Under the regulations, certain payments between a
CFC and its hybrid branch or between hybrid branches of the CFC
(so-called ``hybrid branch payments'') are treated as giving
rise to subpart F income. The regulations generally provide
that non-subpart F income of the CFC, in the amount of the
hybrid branch payment, is recharacterized as subpart F income
of the CFC if: (1) the hybrid branch payment reduces the
foreign tax of the payor, (2) the hybrid branch payment would
have been foreign personal holding company income if made
between separate CFCs, and (3) there is a disparity between the
effective tax rate on the payment in the hands of the payee and
the effective tax rate that would have applied if the income
had been taxed in the hands of the payor. The regulations also
apply to other hybrid branch arrangements involving a
partnership, including a CFC's proportionate share of any
hybrid branch payment made between a partnership in which the
CFC is a partner and a hybrid branch of the partnership or
between hybrid branches of such a partnership. Under the
regulations, if a partnership is treated as fiscally
transparent by the CFC's taxing jurisdiction, the
recharacterization rules are applied by treating the hybrid
branch payment as if it had been made directly between the CFC
and the hybrid branch, or as if the hybrid branches of the
partnership were hybrid branches of the CFC, as applicable. If
the partnership is treated as a separate entity by the CFC's
taxing jurisdiction, the recharacterization rules are applied
to treat the partnership as if it were a CFC.
The regulations also address the application of the same-
country exception to the foreign personal holding company
income rules under subpart F in the case of certain hybrid
branch arrangements. Under the regulations, the same-country
exception applies to payments by a CFC to a hybrid branch of a
related CFC only if the payment would have qualified for the
exception if the hybrid branch had been a separate CFC
incorporated in the jurisdiction in which the payment is
subject to tax (other than a withholding tax). The regulations
provide additional rules regarding the application of the same-
country exception in the case of certain hybrid arrangements
involving a partnership.
The regulations generally apply to amounts paid or accrued
pursuant to hybrid branch arrangements entered into or
substantially modified on or after January 16, 1998. As a
result, the regulations generally do not apply to amounts paid
or accrued pursuant to hybrid branch arrangements entered into
before January 16, 1998 and not substantially modified on or
after that date.
In the case of certain hybrid arrangements involving
partnerships, the regulations generally apply to amounts paid
or accrued pursuant to such arrangements entered into or
substantially modified on or after March 23, 1998. As a result,
the regulations generally do not apply to amounts paid or
accrued pursuant to such arrangements entered into before March
23, 1998 and not substantially modified on or after that date.
Reasons for Change
Notice 98-11 and the regulations issued thereunder address
complex international tax issues relating to the treatment of
hybrid transactions under the subpart F provisions of the Code.
The impact of such administrative guidance on U.S. businesses
operating abroad may be substantial. The Committee believes
that it is appropriate to place a moratorium on the
implementation of the regulations with respect to Notice 98-11
so that these important issues can be considered by the
Congress.
Explanation of Provision
The bill provides that no temporary or final regulations
with respect to Notice 98-11 may be implemented prior to six
months after the date of enactment of this provision. This
moratorium applies to the regulations with respect to hybrid
branches and to the regulations with respect to hybrid
arrangements involving partnerships. It is intended that the
moratorium delaying implementation of the regulations would not
require a modification to the effective dates of the
regulations. No inference is intended regarding the authority
of the Department of the Treasury or the Internal Revenue
Service to issue the Notice or the regulations.
Effective Date
The provision is effective on the date of enactment.
14. Sense of the Senate regarding Notices 98-5 and 98-11 (secs. 3713
(a)(2) and (b) of the bill)
Present Law
Overview
U.S. citizens and residents and U.S. corporations are taxed
currently by the United States on their worldwide income. U.S.
persons may credit foreign taxes against U.S. tax on foreign-
source income. The amount of foreign tax credits that can be
claimed in a year is subject to a limitation that prevents
taxpayers from using foreign tax credits to offset U.S. tax on
U.S.-source income. Separate limitations are applied to
specific categories of income.
A foreign corporation generally is not subject to U.S. tax
on its income from operations outside the United States. Income
of a foreign corporation generally is taxed by the United
States when it is repatriated to the United States through
payment to the corporation's U.S. shareholders, subject to a
foreign tax credit. However, various regimes imposing current
U.S. tax on income earned through a foreign corporation are
reflected in the Code. One anti-deferral regime set forth in
the Code is the controlled foreign corporation rules of subpart
F (secs. 951-964).
A controlled foreign corporation (``CFC'') is defined
generally as any foreign corporation if U.S. persons own more
than 50 percent of the corporation's stock (measured by vote or
value), taking into account only those U.S. persons that own at
least 10 percent of the stock (measured by vote only) (sec.
957). Stock ownership includes not only stock owned directly,
but also stock owned indirectly or constructively (sec. 958).
The United States generally taxes the U.S. 10-percent
shareholders of a CFC currently on their pro rata shares of
certain income of the CFC (so-called ``subpart F income'')
(sec. 951). In effect, the Code treats those shareholders as
having received a current distribution out of the CFC's subpart
F income. Such shareholders also are subject to current U.S.
tax on their pro rata shares of the CFC's earnings invested in
U.S. property (sec. 951). The foreign tax credit may reduce the
U.S. tax on these amounts.
Subpart F income includes, among other items, foreign base
company income (sec. 952). Foreign base company income, in
turn, includes foreign personal holding company income, foreign
base company sales income, foreign base company services
income, foreign base company shipping income and foreign base
company oil related income (sec. 954). Foreign personal holding
company income includes, among other items, dividends,
interest, rents and royalties. An exception from foreign
personal holding company income applies to certain dividends
and interest received from a related person which is created or
organized in the same country as the CFC and which has a
substantial part of its assets in that country, and to certain
rents and royalties received from a related person for the use
of property in the same country in which the CFC was created or
organized (the so-called ``same-country exception'').
Foreign base company sales income includes income derived
by a CFC from certain related-party transactions, including the
purchase of personal property from a related person and its
sale to any person, the purchase of personal property from any
person and its sale to a related person, and the purchase or
sale of personal property on behalf of a related person, where
the property which is purchased or sold is manufactured outside
the country in which the CFC was created or organized and the
property is purchased or sold for use or consumption outside
such foreign country. A special branch rule applies for
purposes of determining a CFC's foreign base company sales
income. Under this rule, a branch of a CFC is treated as a
separate corporation (only for purposes of determining the
CFC's foreign base company sales income) where the activities
of the CFC through the branch outside the CFC's country of
incorporation have substantially the same effect as if such
branch were a subsidiary.
Because of differences in U.S. and foreign laws, it is
possible for a taxpayer to enter into transactions that are
treated in one manner for U.S. tax purposes and in another
manner for foreign tax purposes. These transactions are
referred to as hybrid transactions. For example, a hybrid
transaction may involve the use of an entity that is treated as
a corporation for purposes of the tax law of one jurisdiction
but is treated as a branch or partnership for purposes of the
tax law of another jurisdiction.
Notices 98-5 and 98-11
Notice 98-5, issued on December 23, 1997, addresses the
treatment of certain types of transactions under the foreign
tax credit provisions of the Code. The Notice states that the
Treasury Department and the Internal Revenue Service have
concluded that the use of certain transactions creates the
potential for foreign tax credit abuse. The Notice states that
such transactions typically involve either: (1) the acquisition
of an asset that generates an income stream (e.g., royalties or
interest) subject to a foreign withholding tax, or (2) the
effective duplication of tax benefits through the use of
certain structures designed to exploit inconsistencies between
U.S. and foreign tax laws. The Notice includes five specific
transactions as illustrations of arrangements creating the
potential for foreign tax credit abuse. The Notice states that
it is intended that regulations will be issued to disallow
foreign tax credits for abusive transactions in cases where the
reasonably expected economic profit from the transaction is
insubstantial compared to the value of the foreign tax credits
expected to be obtained as a result of the arrangement. The
Notice further states that it is intended that regulations
generally will apply with respect to such transactions for
taxes paid or accrued on or after December 23, 1997.
Regulations have not yet been issued under Notice 98-5.
Notice 98-11, issued on January 16, 1998, addresses the
treatment of hybrid branches under the subpart F provisions of
the Code. The Notice states that the Treasury Department and
the Internal Revenue Service have concluded that the use of
certain arrangements involving hybrid branches is contrary to
the policy and rules of subpart F. The hybrid branch
arrangements identified in Notice 98-11 involve structures that
are characterized for U.S. tax purposes as part of a CFC but
are characterized for purposes of the tax law of the country in
which the CFC is incorporated as a separate entity. The Notice
states that regulations will be issued to prevent the use of
hybrid branch arrangements to reduce foreign tax while avoiding
the corresponding creation of subpart F income. The Notice
states that such regulations will provide that the branch and
the CFC will be treated as separate corporations for purposes
of subpart F. The Notice also states that similar issues raised
under subpart F by certain partnership or trust arrangements
will be addressed in separate regulation projects.
On March 23, 1998, temporary and proposed regulations were
issued to address the issues raised in Notice 98-11 and to
address certain partnership and other issues raised under
subpart F. Under the regulations, certain payments between a
CFC and its hybrid branch or between hybrid branches of the CFC
(so-called ``hybrid branch payments'') are treated as giving
rise to subpart F income. The regulations generally provide
that non-subpart F income of the CFC, in the amount of the
hybrid branch payment, is recharacterized as subpart F income
of the CFC if: (1) the hybrid branch payment reduces the
foreign tax of the payor, (2) the hybrid branch payment would
have been foreign personal holding company income if made
between separate CFCs, and (3) there is a disparity between the
effective tax rate on the payment in the hands of the payee and
the effective tax rate that would have applied if the income
had been taxed in the hands of the payor. The regulations also
apply to other hybrid branch arrangements involving a
partnership, including a CFC's proportionate share of any
hybrid branch payment made between a partnership in which the
CFC is a partner and a hybrid branch of the partnership or
between hybrid branches of such a partnership. Under the
regulations, if a partnership is treated as fiscally
transparent by the CFC's taxing jurisdiction, the
recharacterization rules are applied by treating the hybrid
branch payment as if it had been made directly between the CFC
and the hybrid branch, or as if the hybrid branches of the
partnership were hybrid branches of the CFC, as applicable. If
the partnership is treated as aseparate entity by the CFC's
taxing jurisdiction, the recharacterization rules are applied to treat
the partnership as if it were a CFC.
The regulations also address the application of the same-
country exception to the foreign personal holding company
income rules under subpart F in the case of certain hybrid
branch arrangements. Under the regulations, the same-country
exception applies to payments by a CFC to a hybrid branch of a
related CFC only if the payment would have qualified for the
exception if the hybrid branch had been a separate CFC
incorporated in the jurisdiction in which the payment is
subject to tax (other than a withholding tax). The regulations
provide additional rules regarding the application of the same-
country exception in the case of certain hybrid arrangements
involving a partnership.
The regulations generally apply to amounts paid or accrued
pursuant to hybrid branch arrangements entered into or
substantially modified on or after January 16, 1998. As a
result, the regulations generally do not apply to amounts paid
or accrued pursuant to hybrid branch arrangements entered into
before January 16, 1998 and not substantially modified on or
after that date.
In the case of certain hybrid arrangements involving
partnerships, the regulations generally apply to amounts paid
or accrued pursuant to such arrangements entered into or
substantially modified on or after March 23, 1998. As a result,
the regulations generally do not apply to amounts paid or
accrued pursuant to such arrangements entered into before March
23, 1998 and not substantially modified on or after that date.
Reasons for Change
The subpart F provisions of the Code reflect a balancing of
various policy objectives. Any modification or refinement to
that balance should be the subject of serious and thoughtful
debate. It is the Committee's view that any significant policy
developments with respect to the subpart F provisions, such as
those addressed by Notice 98-11 and the regulations issued
thereunder, should be considered by the Congress as part of the
normal legislative process. The Committee also believes that
any regulations issued under Notice 98-5 should be limited to
the specific transactions described therein. Moreover, the
Committee is concerned about the potential disruptive effect of
the issuance of an administrative notice that describes general
principles to be reflected in regulations that will be issued
in the future, but provides that such future regulations will
be effective as of the date of issuance of the notice.
Explanation of Provision
The bill provides that it is the sense of the Senate that
the Department of the Treasury and the Internal Revenue Service
should withdraw Notice 98-11 and the regulations issued
thereunder, and that the Congress, and not the Department of
the Treasury nor the Internal Revenue Service, should determine
the international tax policy issues relating to the treatment
of hybrid transactions under the subpart F provisions of the
Code.
The bill further provides that it is the sense of the
Senate that the Department of the Treasury and the Internal
Revenue Service should limit any regulations issued under
Notice98-5 to the specific transactions described therein. In
addition, such regulations should: (a) not affect transactions
undertaken in the ordinary course of business, (b) not have an
effective date any earlier than the date of issuance of proposed
regulations, and (c) be issued in accordance with normal regulatory
procedures which include an opportunity for comment. Nothing in this
sense of the Senate should be construed to limit the ability of the
Department of the Treasury or the Internal Revenue Service to address
abusive transactions.
Effective Date
The provision is effective on the date of enactment.
I. Studies
1. Administration of penalties and interest (sec. 3801 of the bill)
Present Law
The last major comprehensive revision of the overall
penalty structure in the Internal Revenue Code was the
``Improved Penalty Administration and Compliance Tax Act,''
enacted as part of the Omnibus Budget Reconciliation Act of
1989.
Reasons for Change
The Committee believes that it is appropriate to undertake
a study of penalty and interest administration, which will
provide the Committee with legislative and administrative
recommendations for improvement of the current penalty and
interest structure.
Explanation of Provision
The provision requires the Joint Committee on Taxation and
the Treasury to each conduct a separate study reviewing the
interest and penalty provisions of the Code (including the
administration and implementation of the penalty reform
provisions of the Omnibus Budget Reconciliation Act of 1989),
and making any legislative and administrative recommendations
it deems appropriate to simplify penalty administration and
reduce taxpayer burden. The studies must also include an
analysis of the interest provisions in the Code, including
legislative and administrative recommendations deemed
appropriate to simplify the administration of the interest
provisions and to reduce taxpayer burden.
Effective Date
The reports must be provided not later than nine months
after the date of enactment.
2. Confidentiality of tax return information (sec. 3802 of the bill)
Present Law
The Internal Revenue Code prohibits disclosure of tax
returns and return information, except to the extent
specifically authorized by the Internal Revenue Code (sec.
6103). Unauthorized disclosure is a felony punishable by a fine
not exceeding $5,000 or imprisonment of not more than five
years, or both (sec. 7213). An action for civil damages also
may be brought for unauthorized disclosure (sec. 7431). No tax
information may be furnished by the IRS to another agency
unless the other agency establishes procedures satisfactory to
the IRS for safeguarding the tax information it receives (sec.
6103(p)).
Reasons for Change
The Committee believes that a study of the confidentiality
provisions will be useful in assisting the Committee in
determining whether improvements can be made to these
provisions.
Explanation of Provision
The provision requires the Joint Committee on Taxation and
Treasury to each conduct a separate study on provisions
regarding taxpayer confidentiality. The studies are to examine
present-law protections of taxpayer privacy, the need, if any,
for third parties to use tax return information, whether
greater levels of voluntary compliance can be achieved by
allowing the public to know who is legally required to file tax
returns but does not do so, and the interrelationship of the
taxpayer confidentiality provisions in the Internal Revenue
Code with those elsewhere in the United States Code (such as
the Freedom of Information Act).
Effective Date
The findings of the studies, along with any
recommendations, are required to be reported to the Congress no
later than one year after the date of enactment.
Title IV. Congressional Accountability for the IRS
A. Century Date Change (sec. 4001 of the bill)
Present Law
No specific provision.
Reasons for Change
Operations of the IRS computer systems are critical to the
viability of the Federal tax system.
Explanation of Provision
The bill provides that it is the sense of the Congress that
the IRS should place resolving the century date change
computing problems as a high priority. The bill also provides
that the Commissioner shall expeditiously submit a report to
the Congress on the overall impact of the bill on the ability
of the IRS to resolve the century date change computing
problems and the provisions of the bill that will require
significant amounts of computer programming changes prior to
December 31, 1999, in order to carry out the provisions. It is
expected that this report will be submitted within 14 days of
the date of Committee action on the bill.
Effective Date
The provision is effective on the date of enactment.
B. Tax Law Complexity Analysis (sec. 4002 of the bill)
Present Law
Present law does not require a formal complexity analysis
with respect to changes to the tax laws.
Reasons for Change
The National Commission on Restructuring the IRS found a
clear connection between the complexity of the Internal Revenue
Code and the difficulty of tax law administration and taxpayer
frustration. The Committee shares the concern that complexity
is a serious problem with the Federal tax system. Complexity
and frequent changes in the tax laws create burdens for both
the IRS and taxpayers. Failure to address complexity may
ultimately reduce voluntary compliance.
The Committee is aware that it may not be possible or
desirable to eliminate all complexity in the tax system. There
are many objectives of a tax system and particular tax
provisions, and simplicity is only one. In some cases other
policies, such as fairness, may outweigh concerns about
complexity. Nevertheless, the Committee believes complexity of
the tax system should be reduced whenever possible.
Accordingly, the Committee believes it appropriate to introduce
new procedural rules that will focus attention on complexity.
The Committee also believes that the tax-writing committees
should receive periodic input from the IRS regarding areas of
the law that cause problems for taxpayers. This input will be
valuable in developing future legislation.
Explanation of Provision
IRS report on complexity
The IRS is to report to the House Ways and Means Committee
and the Senate Finance Committee annually regarding sources of
complexity in the administration of the Federal tax laws.
Factors the IRS may take into account include: (1) frequently
asked questions by taxpayers; (2) common errors made by
taxpayers in filling out returns; (3) areas of the law that
frequently result in disagreements between taxpayers and the
IRS; (4) major areas in which there is no or incomplete
published guidance or in which the law is uncertain; (5) areas
in which revenue agents make frequent errors in interpreting or
applying the law; (6) impact of recent legislation on
complexity; (7) information regarding forms, including a
listing of IRS forms, the time it takes for taxpayers to
complete and review forms, the number of taxpayers who use each
form, and how the time required changed as a result of recently
enacted legislation; and (8) recommendations for reducing
complexity in the administration of the Federal tax system.
Complexity analysis with respect to current legislation
The bill requires the Joint Committee on Taxation (in
consultation with the IRS and Treasury) to provide an analysis
of complexity or administrability concerns raised by tax
provisions of widespread applicability to individuals or small
businesses. The analysis is to be included in any Committee
Report of the House Ways and Means Committee or Senate Finance
Committee or Conference Report containing tax provisions, or
provided to the Members of the relevant Committee or Committees
as soon as practicable after the report is filed. The analysis
is to include: (1) an estimate of the number and type of
taxpayers affected; and (2) if applicable, the income level of
affected individual taxpayers. In addition, such analysis
should include, if determinable, the following: (1) the extent
to which existing tax forms would require revision and whether
a new form or forms would be required; (2) whether and to what
extent taxpayers would be required to keep additional records;
(3) the estimated cost to taxpayers to comply with the
provision; (4) the extent to which enactment of the provision
would require the IRS to develop or modify regulatory guidance;
(5) whether and to what extent the provision can be expected to
lead to disputes between taxpayers and the IRS; and (6) how the
IRS can be expected to respond to the provision (including the
impact on internal training, whether the Internal Revenue
Manual would require revision, whether the change would require
reprogramming of computers, and the extent to which the IRS
would be required to divert or redirect resources in response
to the provision).
Effective Date
The provision requiring the Joint Committee on Taxation to
provide a complexity analysis is effective with respect to
legislation considered on or after January 1, 1999. The
provision requiring the IRS to report on sources of complexity
is effective on the date of enactment.
Title V. Revenue Offsets
A. Employer Deduction for Vacation and Severance Pay (sec. 5001 of the
bill and sec. 404 of the Code)
Present Law
For deduction purposes, any method or arrangement that has
the effect of a plan deferring the receipt of compensation or
other benefits for employees is treated as a deferred
compensation plan (sec. 404(b)). In general, contributions
under a deferred compensation plan (other than certain pension,
profit-sharing and similar plans) are deductible in the taxable
year in which an amount attributable to the contribution is
includible in income of the employee. However, vacation pay
which is treated as deferred compensation is deductible for the
taxable year of the employer in which the vacation pay is paid
to the employee (sec. 404(a)(5)).
Temporary Treasury regulations provide that a plan, method,
or arrangement defers the receipt of compensation or benefits
to the extent it is one under which an employee receives
compensation or benefits more than a brief period of time after
the end of the employer's taxable year in which the services
creating the right to such compensation or benefits are
performed. A plan, method or arrangement is presumed to defer
the receipt of compensation for more than a brief period of
time after the end of an employer's taxable year to the extent
that compensation is received after the 15th day of the 3rd
calendar month after the end of the employer's taxable year in
which the related services are rendered (the ``2\1/2\ month''
period). A plan, method or arrangement is not considered to
defer the receipt of compensation or benefits for more than a
brief period of time after the end of the employer's taxable
year to the extent that compensation or benefits are received
by the employee on or before the end of the applicable 2\1/2\
month period. (Temp. Treas. Reg. sec. 1.404(b)-1T A-2).
The Tax Court recently addressed the issue of when vacation
pay and severance pay are considered deferred compensation in
Schmidt Baking Co., Inc., 107 T.C. 271 (1996). In Schmidt
Baking, the taxpayer was an accrual basis taxpayer with a
fiscal year that ended December 28, 1991. The taxpayer funded
its accrued vacation and severance pay liabilities for 1991 by
purchasing an irrevocable letter of credit on March 13, 1992.
The parties stipulated that the letter of credit represented a
transfer of substantially vested interest in property to
employees for purposes of section 83, and that the fair market
value of such interest was includible in the employees' gross
incomes for 1992 as a result of the transfer.50 The
Tax Court held that the purchase of the letter of credit, and
the resulting income inclusion, constituted payment of the
vacation and severance pay within the 2\1/2\ month period.
Thus, the vacation and severance pay were treated as received
by the employees within the 2\1/2\ month period and were not
treated as deferred compensation. The vacation pay and
severance pay were deductible by the taxpayer for its 1991
fiscal year pursuant to its normal accrual method of
accounting.
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\50\ While the rules of section 83 may govern the income inclusion,
section 404 governs the deduction if the amount involved is deferred
compensation.
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Reasons for Change
The Committee believes that the decision in Schmidt Baking
reaches an inappropriate and unintended result. To permit
methods such as that used in Schmidt Baking to be considered
payment or receipt would allow taxpayers to avoid the 2\1/2\
month rule and inappropriately accelerate deductions. The
Committee believes that the intent of the 2\1/2\ month rule was
clearly to provide that a deduction for deferred compensation
is not available for the current taxable year unless the
compensation is actually paid to employees within 2\1/2\ months
after the end of the year. Moreover, previous legislative
histories reflect Congressional intent and understanding that
compensation actually paid beyond the 2\1/2\ month period is
deferred compensation.51
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\51\ See, e.g., the legislative history to the Omnibus Budget
Reconciliation Act of 1987.
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Further, the Committee is concerned that taxpayers may
inappropriately extend the rationale of Schmidt Baking to other
situations in which a deduction or other tax consequences are
contingent upon an item being paid. The Committee does not
believe that, as a general rule, letters of credit and similar
mechanisms should be considered payment for any purposes of the
Code.
Explanation of Provision
Under the bill, for purposes of determining whether an item
of compensation is deferred compensation (under Code sec. 404),
the compensation is not considered to be paid or received until
actually received by the employee. In addition, an item of
deferred compensation is not considered paid to an employee
until actually received by the employee. The provision is
intended to overrule the result in Schmidt Baking. For example,
with respect to the determination of whether vacation pay is
deferred compensation, the fact that the value of the vacation
pay is includible in the income of employees within the
applicable 2\1/2\ month period would not be relevant. Rather,
the vacation pay must have been actually received by employees
within the 2\1/2\ month period in order for the compensation
not to be treated as deferred compensation.
It is intended that similar arrangements, in addition to
the letter of credit approach used in Schmidt Baking, do not
constitute actual receipt by the employee, even if there is an
income inclusion. Thus, for example, actual receipt does not
include the furnishing of a note or letter or other evidence of
indebtedness of the taxpayer, whether or not the evidence is
guaranteed by any other instrument or by any third party. As a
further example, actual receipt does not include a promise of
the taxpayer to provide service or property in the future
(whether or not the promise is evidenced by a contract or other
written agreement). In addition, actual receipt does not
include an amount transferred as a loan, refundable deposit, or
contingent payment. Amounts set aside in a trust for employees
are not considered to be actually received by the employee.
The provision does not change the rule under which deferred
compensation (other than vacation pay and deferred compensation
under qualified plans) is deductible in the yearincludible in
the gross income of employees participating in the plan if separate
accounts are maintained for each employee.
While Schmidt Baking involved only vacation pay and
severance pay, there is concern that this type of arrangement
may be tried to circumvent other provisions of the Code where
payment is required in order for a deduction to occur. Thus, it
is intended that the Secretary will prevent the use of similar
arrangements. No inference is intended that the result in
Schmidt Baking is present law beyond its immediate facts or
that the use of similar arrangements is permitted under present
law.
The provision does not affect the determination of whether
an item is includible in income. Thus, for example, using the
mechanism in Schmidt Baking for vacation pay could still result
in income inclusion to the employees, but the employer would
not be entitled to a deduction for the vacation pay until
actually paid to and received by the employees.
Effective Date
The provision is effective for taxable years ending after
the date of enactment. Any change in method of accounting
required by the bill is treated as initiated by the taxpayer
with the consent of the Secretary of the Treasury. Any
adjustment required by section 481 as a result of the change
will be taken into account in the year of the change.
B. Modify Foreign Tax Credit Carryover Rules (sec. 5002 of the bill and
sec. 904 of the Code)
Present Law
U.S. persons may credit foreign taxes against U.S. tax on
foreign source income. The amount of foreign tax credits that
can be claimed in a year is subject to a limitation that
prevents taxpayers from using foreign tax credits to offset
U.S. tax on U.S. source income. Separate foreign tax credit
limitations are applied to specific categories of income.
The amount of creditable taxes paid or accrued (or deemed
paid) in any taxable year which exceeds the foreign tax credit
limitation is permitted to be carried back two years and
forward five years. The amount carried over may be used as a
credit in a carryover year to the extent the taxpayer otherwise
has excess foreign tax credit limitation for such year. The
separate foreign tax credit limitations apply for purposes of
the carryover rules.
Reasons for Change
The Committee believes that reducing the carryback period
for foreign tax credits to one year and increasing the
carryforward period to seven years will reduce some of the
complexity associated with carrybacks while continuing to
address the timing differences between U.S. and foreign tax
rules.
Explanation of Provision
The bill reduces the carryback period for excess foreign
tax credits from two years to one year. The bill also extends
the excess foreign tax credit carryforward period from five
years to seven years.
Effective Date
The provision applies to foreign tax credits arising in
taxable years ending after the date of enactment.
C. Clarify and Expand Mathematical Error Procedures (sec. 5003 of the
bill and sec. 6213(g)(2) of the Code)
Present Law
Taxpayer identification numbers (``TINs'')
The IRS may deny a personal exemption for a taxpayer, the
taxpayer's spouse or the taxpayer's dependents if the taxpayer
fails to provide a correct TIN for each person for whom the
taxpayer claims an exemption. This TIN requirement also
indirectly effects other tax benefits currently conditioned on
a taxpayer being able to claim a personal exemption for a
dependent (e.g., head-of-household filing status and the
dependent care credit). Other tax benefits, including the
adoption credit, the child tax credit, the Hope Scholarship
credit and Lifetime Learning credit, and the earned income
credit also have TIN requirements. For most individuals, their
TIN is their Social Security Number (``SSN''). The mathematical
and clerical error procedure currently applies to the omission
of a correct TIN for purposes of personal exemptions and all of
the credits listed above except for the adoption credit.
Mathematical or clerical errors
The IRS may summarily assess additional tax due as a result
of a mathematical or clerical error without sending the
taxpayer a notice of deficiency and giving the taxpayer an
opportunity to petition the Tax Court. Where the IRS uses the
summary assessment procedure for mathematical or clerical
errors, the taxpayer must be given an explanation of the
asserted error and a period of 60 days to request that the IRS
abate its assessment. The IRS may not proceed to collect the
amount of the assessment until the taxpayer has agreed to it or
has allowed the 60-day period for objecting to expire. If the
taxpayer files a request for abatement of the assessment
specified in the notice, the IRS must abate the assessment. Any
reassessment of the abated amount is subject to the ordinary
deficiency procedures. The request for abatement of the
assessment is the only procedure a taxpayer may use prior to
paying the assessed amount in order to contest an assessment
arising out of a mathematical or clerical error. Once the
assessment is satisfied, however, the taxpayer may file a claim
for refund if he or she believes the assessment was made in
error.
Reasons for Change
The Committee believes that it is appropriate to provide
additional guidance to the Internal Revenue Service with
respect to the application of the TIN requirement. It will also
improve compliance to allow the IRS to use date of birth data,
from the Social Security Administration, to determine
ineligibility for the dependent care credit, the child tax
credit and the earned income credit. Once this determination is
made, the Committee believes that the IRS should use the
mathematical and clerical error procedure to correctly assess
the tax due with respect to affected tax returns.
Explanation of Provision
The bill provides in the application of the mathematical
and clerical error procedure that a correct TIN is a TIN that
was assigned by the Social Security Administration (or in
certain limited cases, the IRS) to the individual identified on
the return. For this purpose the IRS is authorized to determine
that the individual identified on the tax return corresponds in
every aspect (including, name, age, date of birth, and SSN) to
the individual to whom the TIN is issued. The IRS also is
authorized to use the mathematical and clerical error procedure
to deny eligibility for the dependent care tax credit, the
child tax credit, and the earned income credit even though a
correct TIN has been supplied if the IRS determines that the
statutory age restrictions for eligibility for any of the
respective credits is not satisfied (e.g., the TIN issued for
the child claimed as the basis of the child tax credit
identifies the child as over the age of 17 at the end of the
taxable year).
Effective Date
The provision is effective for taxable years ending after
the date of enactment.
D. Freeze Grandfather Status of Stapled REITs (sec. 5004 of the bill)
Present Law
In general
A real estate investment trust (``REIT'') is an entity that
receives most of its income from passive real estate related
investments and that essentially receives pass-through
treatment for income that is distributed to shareholders. If an
electing entity meets the qualifications for REIT status, the
portion of its income that is distributed to the investors each
year generally is taxed to the investors without being
subjected to a tax at the REIT level. In general, a REIT must
derive its income from passive sources and not engage in any
active trade or business.
Requirements for REIT status
A REIT must satisfy a number of tests on a year-by-year
basis that relate to the entity's (1) organizational structure,
(2) source of income, (3) nature of assets, and (4)
distribution of income. These tests are intended to allow pass-
through treatment only if there is a pooling of investment
arrangement, if the entity's investments are basically in real
estate assets, and its income is passive income from real
estate investment, as contrasted with income from the operation
of a business involving real estate. In addition, substantially
all of the entity's income must be passed through to its
shareholders on a current basis.
Under the organizational structure tests, except for the
first taxable year for which an entity elects to be a REIT, the
beneficial ownership of the entity must be held by 100 or more
persons. Generally, no more than 50 percent of the value of the
REIT's stock can be owned by five or fewer individuals during
the last half of the taxable year.
Under the source-of-income tests, at least 95 percent of
its gross income generally must be derived from rents,
dividends, interest and certain other passive sources (the
``95-percent test''). In addition, at least 75 percent of its
income generally must be from real estate sources, including
rents from real property and interest on mortgages secured by
real property (the ``75-percent test'').
For purposes of these tests, rents from real property
generally include charges for services customarily rendered in
connection with the rental of real property, whether or not
such charges are separately stated. Where a REIT furnishes non-
customary services to tenants, amounts received generally are
not treated as qualifying rents unless the services are
furnished through an independent contractor from whom the REIT
does not derive any income. In general, an independent
contractor is a person who does not own more than a 35-percent
interest in the REIT, and in which no more than a 35-percent
interest is held by persons with a 35-percent or greater
interest in the REIT.
To satisfy the REIT asset requirements, at the close of
each quarter of its taxable year, an entity must have at least
75 percent of the value of its assets invested in real estate
assets, cash and cash items, and government securities. Not
more than 25 percent of the value of theREIT's assets can be
invested in securities (other than government securities and other
securities described in the preceding sentence). The securities of any
one issuer may not comprise more than five percent of the value of a
REIT's assets. Moreover, the REIT may not own more than 10 percent of
the outstanding securities of any one issuer, determined by voting
power.
A REIT is permitted to have a wholly-owned subsidiary
subject to certain restrictions. A REIT's subsidiary is treated
as one with the REIT.
The income distribution requirement provides generally that
at least 95 percent of a REIT's income (with certain minor
exceptions) must be distributed to shareholders as dividends.
Stapled REITs
In a stapled REIT structure, both the shares of a REIT and
a C corporation may be traded, but are subject to a provision
that they may not be sold separately. Thus, the REIT and the C
corporation have identical ownership at all times.
In the Deficit Reduction Act of 1984 (the ``1984 Act''),
Congress required that, in applying the tests for REIT status,
all stapled entities are treated as one entity (sec.
269B(a)(3)). The 1984 Act included grandfather rules, one of
which provided that certain then-existing stapled REITs were
not subject to the new provision (sec. 136(c)(3) of the 1984
Act). That grandfather rule provided that the new provision did
not apply to a REIT that was a part of a group of stapled
entities if the group of entities was stapled on June 30, 1983,
and included a REIT on that date.
Reasons for Change
In the 1984 Act, Congress eliminated the tax benefits of
the stapled REIT structure out of concern that it could
effectively result in one level of tax on active corporate
business income that would otherwise be subject to two levels
of tax. Congress also believed that allowing a corporate
business to be stapled to a REIT was inconsistent with the
policy that led Congress to create REITs.
As part of the 1984 Act provision, Congress provided
grandfather relief to the small number of stapled REITs that
were already in existence. Since 1984, however, many of the
grandfathered stapled REITs have been acquired by new owners.
Some have entered into new lines of businesses, and most of the
grandfathered REITs have used the stapled structure to engage
in large-scale acquisitions of assets. The Committee believes
that such unlimited relief from a general tax provision by a
handful of taxpayers raises new questions not only of fairness,
but of unfair competition, because the stapled REITs are in
direct competition with other companies that cannot use the
benefits of the stapled structure.
The Committee believes that it would be unfair to remove
the benefit of the stapled REIT structure with respect to real
estate interests that have already been acquired. On the other
hand, the Committee believes that future acquisitions of
interests in real property by these grandfathered entities, or
improvements of property that are tantamount to new
acquisitions, should not be accorded the benefits of the
stapled REIT structure. Accordingly, the rules of the Committee
bill generally apply with respect to real property interests
acquired by the REIT or a stapled entity after March 26, 1998,
pursuant to transactions not in progress on that date. Further,
the Committee is concerned that the some of the benefit of the
stapled REIT structure can be derived through mortgages and
interests in subsidiaries and partnerships. Accordingly, the
Committee bill provides rules for mortgages acquired after
March 26, 1998, and indirect acquisitions of real property
interests through entities after such date (with transition
relief similar to that for direct acquisitions).
Explanation of Provision
Overview
Under the provision, rules similar to the rules of present
law treating a REIT and all stapled entities as a single entity
for purposes of determining REIT status (sec. 269B) apply to
real property interests acquired after March 26, 1998, by an
existing stapled REIT, a stapled entity, or a subsidiary or
partnership in which a 10-percent or greater interest is owned
by an existing stapled REIT or stapled entity (together
referred to as the ``stapled REIT group''), unless the real
property interest is grandfathered as described below. Special
rules apply to certain mortgages acquired by the stapled REIT
group after March 26, 1998, where a member of the stapled REIT
group performs services with respect to the property secured by
the mortgage.
Rules for real property interests
In general
The provision generally applies to real property interests
acquired by a member of the stapled REIT group after March 26,
1998. Real property interests that are acquired by a member of
the REIT group after such date, and which are not grandfathered
under the rules described below, are referred to as
``nonqualified real property interests''.
The provision treats activities and gross income of a
stapled REIT group with respect to nonqualified real property
interests held by any member of the stapled REIT group as
activities and income of the REIT for certain purposes in the
same manner as if the stapled REIT group were a single entity.
This treatment applies for purposes of the following provisions
that depend on a REIT's gross income: (1) the 95-percent test
(sec. 856(c)(2)); (2) the 75-percent test (sec. 856(c)(3)); (3)
the ``reasonable cause'' exception for failure to meet either
test (sec. 856(c)(6)); and (4) the special tax on excess gross
income for REITs with net income from prohibited transactions
(sec. 857(b)(5)).
Thus, for example, where a stapled entity leases
nonqualified real property from the REIT and earns gross income
from operating the property, such gross income will be subject
to the provision. The REIT and the stapled entity will be
treated as a single entity, with the result that the lease
payments from the stapled entity to the REIT would be ignored.
The gross income earned by the stapled entity from operating
the property will be treated as grossincome of the REIT, with
the result that either the 75-percent or 95-percent test might not be
met and REIT status might be lost. Similarly, where a stapled entity
leases property from a third party after March 26, 1998, and uses that
property in a business, the gross income it derives will be treated as
income of the REIT because the lease would be a nonqualified real
property interest.
Grandfathered real property interests
Under the provision, all real property interests acquired
by a member of the stapled REIT group after March 26, 1998, are
treated as nonqualified real property interests subject to the
general rules described above, unless they qualify under one of
the grandfather rules. An option to acquire real property is
generally treated as a real property interest for purposes of
the provision. However, a real property interest acquired by
exercise of an option after March 26, 1998, is treated as a
nonqualified real property interest, even though the option was
acquired before such date.
Under the provision, grandfathered real property interests
include properties acquired by a member of the stapled REIT
group after March 26, 1998, pursuant to a written agreement
which was binding on March 26, 1998, and all times thereafter.
Grandfathered properties also include certain properties, the
acquisition of which were described in a public announcement or
in a filing with the Securities and Exchange Commission on or
before March 26, 1998.
A real property interest does not generally lose its status
as a grandfathered interest by reason of a repair to, an
improvement of, or a lease of, the real property. Thus, if a
REIT leases a grandfathered real property to a stapled entity,
a renewal of the lease does not cause the property to lose its
grandfathered status, whether the renewal is pursuant to the
terms of the lease or otherwise. Similarly, if a REIT owns a
grandfathered real property interest that is leased to a third
party and, at the expiration of that lease, the REIT leases the
property to a stapled entity, the interest would remain a
grandfathered interest. Finally, if a stapled entity leases a
grandfathered property interest from a third party and the
property is repaired or improved, the interest would remain a
grandfathered interest except as described below.
An improvement of a grandfathered real property interest
will cause loss of grandfathered status and become a
nonqualified real property interest in certain circumstances.
Any expansion beyond the boundaries of the land of the
otherwise grandfathered interest occurring after March 26,
1998, will be treated as a non-qualified real property interest
to the extent of such expansion. Moreover, any improvement of
an otherwise grandfathered real property interest (within its
land boundaries) that is placed in service after December 31,
1999, is treated as a separate nonqualified real property
interest in certain circumstances. Such treatment applies where
(1) the improvement changes the use of the property and (2) its
cost is greater than (a) 200 percent of the undepreciated cost
of the property (prior to the improvement) or (b) in the case
of property acquired where there is a substituted basis, the
fair market value of the property on the date that the property
was acquired by the stapled entity or the REIT. There is an
exception for improvements placed in service before January 1,
2004, pursuant to a binding contract in effect on December 31,
1999, and at all times thereafter. The rule treating
improvements as nonqualified real property interests could
apply, for example, if a member of the stapled REIT group
constructs a building after December 31, 1999, on previously
undeveloped raw land that had been acquired on or before March
26, 1998.
Ownership through entities
If a REIT or stapled entity owns, directly or indirectly, a
10-percent-or-greater interest in a corporate subsidiary or
partnership (or other entity described below) that owns a real
property interest, the above rules apply with respect to a
proportionate part of the entity's real property interest,
activities and gross income. Thus, any real property interest
acquired by such a subsidiary or partnership that is not
grandfathered under the rules described above is treated as a
nonqualified real property interest held by the REIT or stapled
entity in the same proportion as its ownership interest in the
entity. The same proportion of the subsidiary's or
partnership's gross income from any nonqualified real property
interest owned by it or another member of the stapled REIT
group will be treated as income of the REIT under the rules
described above. However, an interest in real property acquired
by a grandfathered 10-percent-or-greater partnership or
subsidiary is treated as grandfathered if such interest would
be a grandfathered interest if held directly by the REIT or
stapled entity. Thus, for example, if a REIT contributes a
grandfathered real property interest to a partnership 10
percent or more of which is owned on March 26, 1998, the
interest will not cease to be a grandfathered
interest.52
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\52\ Nevertheless, under the rules below, if the REITs partnership
interest increases as a result of the contribution, a portion of each
of the partnership's real estate interests, reflecting the
proportionate increase in the partnership interest, will be treated as
a nonqualified real property interest.
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Similar rules attributing the proportionate part of the
subsidiary's or partnership's real property interests and gross
income will apply when a REIT or stapled entity acquires a 10-
percent-or-greater interest (or in the case of a previously-
owned entity, acquires an additional interest) after March 26,
1998, with exceptions for interests acquired pursuant to
binding written agreements or public announcements described
above. Transition relief can apply to both an entity's assets
and the interest in the entity under the above rules. Thus, if
on March 26, 1998, and at all times thereafter, a stapled
entity has a binding written contract to buy 10-percent or more
of the stock of a corporation and the corporation also has a
binding written contract to buy real property, no portion of
the property will be treated as a nonqualified real property
interest as a result of the transaction.
Under the above rules, gross income of a REIT or stapled
entity with respect to a nonqualified real property interest
held by a 10-percent-or-greater partnership or subsidiary is
subject to the rules for nonqualified real property interests
only in proportion to the interest held in the partnership or
subsidiary. For example, assume that a stapled entity has a
contract to manage a nonqualified real property interest held
by a partnership in which the stapled entity owns an 85-percent
interest. Under the above rules, for purposes of applying the
gross income tests, 85 percent of the partnership's activities
and gross income from the property are attributed to the REIT.
As a result, 85 percent of the stapled entity's income from
themanagement contract is ignored under the single-entity analysis
described above. The remaining 15 percent of the management fee is not
treated as gross income of the REIT because it is not income from a
nonqualified real property interest held or deemed held by the REIT or
a stapled entity.
Grandfathered real property interests that are deemed owned
by a REIT or a stapled entity under the rules for 10-percent-
or-greater interests will not be treated as acquired after
March 26, 1998, if the REIT or a stapled entity subsequently
becomes the actual owner. For example, assume a REIT has a 50-
percent interest in a partnership that distributes a
grandfathered real property interest to the REIT in complete
liquidation of its interest. The 50-percent interest that was
previously deemed owned by the REIT will continue to be
grandfathered; the remaining 50-percent interest will be a
nonqualified real property interest because it was acquired by
the REIT after March 26, 1998.
Mortgage rules
Under the provision, special rules apply where a member of
the stapled REIT group holds a mortgage (that is not an
existing obligation under the rules described below) that is
secured by an interest in real property, and a member of the
stapled REIT group engages in certain activities with respect
to that property. The activities that have this effect under
the provision are activities that would result in impermissible
tenant service income (as defined in sec. 856(d)(7)) if
performed by the REIT with respect to property it held. In such
a case, all interest on the mortgage that is allocable to that
property and all gross income received by a member of the
stapled REIT group from the activity will be treated as
impermissible tenant service income of the REIT, which is not
qualifying income under either the 75-percent or 95-percent
tests. For example, assume that the REIT makes a mortgage loan
on a hotel owned by a third party which is operated by a
stapled entity under a management contract. Unless an exception
applies, both the management fees earned by the stapled entity
and the interest earned by the REIT will be treated as
impermissible tenant services income of the REIT.
An exception to the above rules is provided for mortgages
the interest on which does not exceed an arm's-length rate and
which would be treated as interest for purposes of the REIT
rules. An exception also is available for mortgages that are
held by a member of the stapled REIT group on March 26, 1998,
and at all times thereafter, and which are secured by an
interest in real property on that date, and at all times
thereafter (the ``existing mortgage exception''). The existing
mortgage exception ceases to apply if the mortgage is
refinanced and the principal amount is increased in such
refinancing.
In the case of a partnership or subsidiary in which the
REIT or a stapled entity owns a 10-percent-or-greater interest,
a proportionate part of the entity's mortgages, interest and
gross income from activities would be attributed to the REIT or
the stapled entity, subject to rules similar to those for
nonqualified real property interests. Thus, if a REIT or a
stapled entity acquires a 10-percent-or-greater interest in a
partnership or corporation after March 26, 1998, no mortgage
held by the partnership or subsidiary at such time would
qualify for the existing mortgage exception. Similarly, if a
REIT or stapled entity owns a 10-percent-or-greater interest in
a partnership or subsidiary on March 26, 1998, and the REIT or
the stapled entity subsequently acquires a greater interest, a
portion of each of the partnership's or subsidiary's mortgages
that is the same as the proportionate increase in the ownership
interest would fail to qualify for the existing mortgage
exception.
Under the provision's priority rules, the mortgage rules do
not apply to any part of a real property interest that is owned
or deemed owned by the REIT or a stapled entity under the rules
for real property interests described above. Thus, for example,
if the REIT makes a mortgage loan on real property owned by a
stapled entity, the mortgage rules would not apply. If the
property is a nonqualified real property interest, the interest
on the mortgage would be ignored under the single-entity
analysis described above, and the gross income of the stapled
entity from the property would be treated as income of the
REIT. Similarly, assume that a stapled entity owns 75 percent
of the stock of a subsidiary and has a management contract to
operate a hotel owned by the subsidiary. Assume also that the
REIT makes a mortgage loan for the hotel. Under the real
property interest rules, 75 percent of the hotel is treated as
owned by the stapled entity. Thus, if the hotel is a
nonqualified real property interest, 75 percent of the
subsidiary's gross income from the hotel is treated as income
of the REIT and 75 percent of the income on the management
contract is ignored under the single-entity analysis. With
respect to the remaining 25-percent interest in the subsidiary,
the real property interest rules do not apply, but the mortgage
rules would treat 25 percent of the mortgage interest and 25
percent of management contract income as impermissible tenant
services income of the REIT.
Other rules
For purposes of both the real property interest and
mortgage rules, if a stapled REIT is not stapled as of March
26, 1998, and at all times thereafter, or if it fails to
qualify as a REIT as of such date or any time thereafter, no
assets of any member of the stapled REIT group would qualify
under the grandfather rules. Thus, all of the real property
interests held by the group would be nonqualified real property
interests and none of the mortgages held by the group would
qualify for the existing mortgage exception.
For a corporate subsidiary owned by a stapled entity, the
10-percent ownership test would be met if a stapled entity
owns, directly or indirectly, 10 percent or more of the
corporation's stock, by either vote or value.53 For
this purpose, any change in proportionate ownership that is
attributable solely to fluctuations in the relative fair market
values of different classes of stock is not taken into account.
For interests in partnerships, the ownership test would be met
if either the REIT or a stapled entity owns, directly or
indirectly, a 10-percent or greater interest in the
partnership's assets or net profits. Interests in other
entities, such as trusts, are treated in the same manner as 10-
percent-or-greater interests in partnerships or corporations if
the REIT or a stapled entity owns, directly or indirectly, 10
percent or more of the beneficial interests in the entity.
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\53\ The provision does not apply to a stapled REIT's ownership of
a corporate subsidiary, although the REIT would be subject to the
normal restrictions on a REIT's ownership of stock in a corporation.
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Under the provision, terms used that are also used in the
stapled stock rules (sec. 269B) or the REIT rules (sec. 856)
have the same meanings as under those rules.
The Secretary of the Treasury is given authority to
prescribe such guidance as may be necessary or appropriate to
carry out the purposes of the provision, including guidance to
prevent the double counting of income and to prevent
transactions that would avoid the purposes of the provision.
Effective Date
The provision is effective for taxable years ending after
March 26, 1998.
E. MAKE CERTAIN TRADE RECEIVABLES INELIGIBLE FOR MARK-TO-MARKET
TREATMENT (SEC. 5005 OF THE BILL AND SEC. 475 OF THE CODE)
Present Law
In general, dealers in securities are required to use a
mark-to-market method of accounting for securities (sec. 475).
Exceptions to the mark-to-market rule are provided for
securities held for investment, certain debt instruments and
obligations to acquire debt instruments and certain securities
that hedge securities. A dealer in securities is a taxpayer who
regularly purchases securities from or sells securities to
customers in the ordinary course of a trade or business, or who
regularly offers to enter into, assume, offset, assign, or
otherwise terminate positions in certain types of securities
with customers in the ordinary course of a trade or business. A
security includes (1) a share of stock, (2) an interest in a
widely held or publicly traded partnership or trust, (3) an
evidence of indebtedness, (4) an interest rate, currency, or
equity notional principal contract, (5) an evidence of an
interest in, or derivative financial instrument in, any of the
foregoing securities, or any currency, including any option,
forward contract, short position, or similar financial
instrument in such a security or currency, or (6) a position
that is an identified hedge with respect to any of the
foregoing securities.
Treasury regulations provide that if a taxpayer would be a
dealer in securities only because of its purchases and sales of
debt instruments that, at the time of purchase or sale, are
customer paper with respect to either the taxpayer or a
corporation that is a member of the same consolidated group,
the taxpayer will not normally be treated as a dealer in
securities. However, the regulations allow such a taxpayer to
elect out of this exception to dealer status.\54\ For this
purpose, a debt instrument is customer paper with respect to a
person if: (1) the person's principal activity is selling
nonfinancial goods or providing nonfinancial services; (2) the
debt instrument was issued by the purchaser of the goods or
services at the time of the purchase of those goods and
services in order to finance the purchase; and (3) at all times
since the debt instrument was issued, it has been held either
by the person selling those goods or services or by a
corporation that is a member of the same consolidated group as
that person.
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\54\ Treas. reg. sec. 1.475(c)-1(b), issued December 23, 1996; the
``customer paper election.''
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Reasons for Change
Congress enacted the mark-to-market rules of section 475 to
provide a more accurate reflection of the income of securities
dealers. The Committee does not believe that these provisions
were intended to be used by taxpayers whose principal activity
is selling goods and services to obtain a deduction for loss in
value of their receivables at a time earlier than otherwise
would be permitted.
Explanation of Provision
The provision provides that certain trade receivables are
not eligible for mark-to-market treatment. A trade receivable
is covered by the provision if it is a note, bond or debenture
arising out of the sale of goods by a person the principal
activity of which is selling or providing nonfinancial goods
and services and it is held by such person or a related person
at all times since it was issued.
Under the provision, a receivable meeting the above
definition is not treated as a security for purposes of the
mark-to-market rules (sec. 475). Thus, such receivables are not
marked-to-market, even if the taxpayer qualifies as a dealer in
other securities. Because trade receivables cease to meet the
above definition when they are disposed of (other than to a
related person), a taxpayer who regularly sells trade
receivables is treated as a dealer in securities as under
present law, with the result that the taxpayer's other
securities would be subject to mark-to-market treatment unless
an exception to section 475 applies (such as that for
securities identified as held for investment).
Effective Date
The provision generally is effective for taxable years
ending after the date of enactment. Adjustments required under
section 481 as a result of the change in method of accounting
generally are required to be taken into account ratably over
the four-year period beginning in the first taxable year for
which the provision is in effect. However, where the taxpayer
terminates its existence or ceases to engage in the trade or
business that generated the receivables (except as a result of
a tax-free transfer), any remaining balance of the section 481
adjustment is taken into account entirely in the year of such
cessation or termination (see sec. 5.04(c) of Rev. Proc. 97-37,
1997-33 I.R.B. 18).
F. ADD VACCINES AGAINST ROTAVIRUS GASTROENTERITIS TO THE LIST OF
TAXABLE VACCINES (SEC. 5006 OF THE BILL AND SEC. 4132 OF THE CODE)
Present Law
A manufacturer's excise tax is imposed at the rate of 75
cents per dose (sec. 4131) on the following vaccines routinely
recommended for administration to children: diphtheria,
pertussis, tetanus, measles, mumps, rubella, polio, HIB
(haemophilus influenza type B), hepatitis B, and varicella
(chicken pox). The tax applied to any vaccine that is a
combination of vaccine components equals 75 cents times the
number of components in the combined vaccine.
Amounts equal to net revenues from this excise tax are
deposited in the Vaccine Injury Compensation Trust Fund to
finance compensation awards under the Federal Vaccine Injury
Compensation Program for individuals who suffer certain
injuries following administration of the taxable vaccines. This
program provides a substitute Federal, ``no fault'' insurance
system for the State-law tort and private liability insurance
systems otherwise applicable to vaccine manufacturers. All
persons immunized after September 30, 1988, with covered
vaccines must pursue compensation under this Federal program
before bringing civil tort actions under State law.
Reasons for Change
Rotavirus gastroenteritis is a highly contagious disease
among young children that can lead to life-threatening
diarrhea, cramps, vomiting, and can result in death. In the
United States, more than 50,000 children are hospitalized and
more than 100 die annually from rotavirus gastroenteritis. The
Food and Drug Administration's (``FDA'') advisory committee has
favorably reviewed a vaccine against the disease and the
Centers for Disease Control have voted to recommend the vaccine
for inoculation of children, subject to final FDA approval. The
Committee believes American children will benefit from wide use
of this new vaccine. The Committee believes that, by including
the new vaccine with those presently covered by the Vaccine
Injury Compensation Trust Fund, greater application of the
vaccine will be promoted. The Committee, therefore, believes it
is appropriate to add the vaccine against rotavirus
gastroenteritis to the list of taxable vaccines.
Explanation of Provision
The bill adds any vaccine against rotavirus gastroenteritis
to the list of taxable vaccines.
Effective Date
The provision is effective for vaccines sold by a
manufacturer or importer after the date of enactment. For sales
on or before the date of enactment for which delivery is made
after the date of enactment, the delivery date is deemed to be
the sale date.
Title VI. Tax Technical Corrections
Technical Corrections to the Taxpayer Relief Act of 1997
a. amendments to title i of the 1997 act relating to the child credit
1. Stacking rules for the child credit under the limitations based on
tax liability (sec. 6003(a) of the bill, sec. 101(a) of the
1997 Act, and sec. 24 of the Code)
Present Law
Present law provides a $500 ($400 for taxable year 1998)
tax credit for each qualifying child under the age of 17. A
qualifying child is defined as an individual for whom the
taxpayer can claim a dependency exemption and who is a son or
daughter of the taxpayer (or a descendent of either), a stepson
or stepdaughter of the taxpayer or an eligible foster child of
the taxpayer. For taxpayers with modified adjusted gross income
in excess of certain thresholds, the allowable child credit is
phased out. The length of the phase-out range is affected by
the number of the taxpayer's qualifying children.
Generally, the maximum amount of a taxpayer's child credit
for each taxable year is limited to the excess of the
taxpayer's regular tax liability over the taxpayer's tentative
minimum tax liability (determined without regard to the
alternative minimum foreign tax credit). In the case of a
taxpayer with three or more qualifying children, the maximum
amount of the taxpayer's child credit for each taxable year is
limited to the greater of: (1) the amount computed under the
rule described above, or (2) an amount equal to the excess of
the sum of the taxpayer's regular income tax liability and the
employee share of FICA taxes (and one-half of the taxpayer's
SECA tax liability, if applicable) reduced by the earned income
credit. In the case of a taxpayer with three or more qualifying
children, the excess of the amount allowed in (2) over the
amount computed in (1) is a refundable credit.
Nonrefundable credits may not be used to reduce tax
liability below a taxpayer's tentative minimum tax. Certain
credits not used as result of this rule may be carried over to
other taxable years, while others may not. Special stacking
rules apply in determining which nonrefundable credits are used
in the current year. Generally, the stacking rules require that
nonrefundable personal credits be considered
first,55 followed by other credits, business
credits, and the investment tax credit. Refundable credits,
which are not limited by the minimum tax, are not stacked until
after the nonrefundable credits.
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\55\ It is understood that there is also a stacking rule under
which the income tax liability limitation applies between the
nonrefundable personal credits, including the nonrefundable portion of
the child credit. Generally, the nonrefundable portion of the child
credit and the other nonrefundable personal credits which do not
provide a carryforward are grouped together and stacked first followed
by the nonrefundable personal credits which provide a carryforward for
purposes of applying the income tax liability limitation. Therefore, if
the sum of the taxpayer's nonrefundable credits exceeds the difference
between the taxpayer's regular income tax liability and the taxpayer's
tentative minimum tax (determined without regard to the alternative
minimum foreign tax credit) then the nonrefundable personal credits
which do not provide a carryforward would be applied to reduce the
income tax liability for that year first and any excess credits which
allow a carryforward would be available to reduce the taxpayer's income
tax liability in future years.
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Explanation of Provision
The bill clarifies the application of the income tax
liability limitation to the refundable portion of the child
credit by treating the refundable portion of the child credit
in the same way as the other refundable credits. Specifically,
after all the other credits are applied according to the
stacking rules of the income tax limitation then the refundable
credits are applied first to reduce the taxpayer's tax
liability for the year and then to provide a credit in excess
of income tax liability for the year.
Effective Date
The provision is effective for taxable years beginning
after December 31,
2. Treatment of a portion of the child credit as a supplemental child
credit (sec. 6003(b) of the bill, sec. 101(b) of the 1997 Act,
and sec. 32(n) of the Code)
Present Law
A portion of the child credit may be treated as a
supplemental child credit. The supplemental child credit is
treated as provided under the earned income credit and the
child credit amount is reduced by the amount of the
supplemental child credit.
Explanation of Provision
The bill clarifies that the treatment of a portion of the
child credit as a supplemental child credit under the earned
income credit (sec. 32) and the offsetting reduction of the
child credit (sec. 24) does not affect the total tax credits
allowed to the taxpayer or any other tax credit available to
the taxpayer. Rather, it simply reduces the otherwise allowable
nonrefundable child credit dollar-for-dollar by the amount
treated as a supplemental child credit. The bill also clarifies
that the amount of the supplemental child credit under section
32(n) is the lesser of (1) the amount by which the taxpayer's
total nonrefundable personal credits (as limited by the tax
liability limitation of section 26(a)) are increased by reason
of the child credit, or (2) the ``negative'' tax liability of
the taxpayer, defined as the excess of taxpayer's total tax
credits, including the earned income credit over the sum of the
taxpayer's regular income taxes and social security taxes. For
purposes of this calculation, subsection 32(n) is not taken
into account. The bill also clarifies that the earned income
credit rules (e.g., the phaseout of the earned income credit)
generally do not apply to the supplemental child credit.
Effective Date
The provision is effective for taxable years beginning
after December 31, 1997.
b. amendments to title ii of the 1997 act relating to education
incentives
1. Clarifications to HOPE and Lifetime Learning tax credits (sec.
6004(a) of the bill, sec. 201 of the 1997 Act, and secs. 25A
and 6050S of the Code)
Present Law
Individual taxpayers are allowed to claim a nonrefundable
HOPE credit against Federal income taxes up to $1,500 per
student for qualified tuition and fees paid during the year on
behalf of a student (i.e., the taxpayer, the taxpayer's spouse,
or a dependent of the taxpayer) who is enrolled in a post-
secondary degree or certificate program at an eligible post-
secondary institution on at least a half-time basis. The HOPE
credit is available only for the first two years of a student's
post-secondary education. The credit rate is 100 percent of the
first $1,000 of qualified tuition and fees and 50 percent on
the next $1,000 of qualified tuition and fees. The HOPE credit
amount that a taxpayer may otherwise claim is phased out for
taxpayers with modified adjusted gross income (AGI) between
$40,000 and $50,000 ($80,000 and $100,000 for joint returns).
For taxable years beginning after 2001, the $1,500 maximum HOPE
credit amount and the AGI phase-out range will be indexed for
inflation. The HOPE credit is available for expenses paid after
December 31, 1997, for education furnished in academic periods
beginning after such date.
If a student is not eligible for the HOPE credit (or in
lieu of claiming a HOPE credit with respect to a student),
individual taxpayers are allowed to claim a nonrefundable
Lifetime Learning credit against Federal income taxes equal to
20 percent of qualified tuition and fees paid during the
taxable year on behalf of the taxpayer, the taxpayer's spouse,
or a dependent. In contrast to the HOPE credit, the student
need not be enrolled on at least a half-time basis in order to
be eligible for the Lifetime Learning credit, which is
available for an unlimited number of years of post-secondary
training. For expenses paid before January 1, 2003, up to
$5,000 of qualified tuition and fees per taxpayer return will
be eligible for the Lifetime Learning credit (i.e., the maximum
credit per taxpayer return will be $1,000). For expenses paid
after December 31, 2002, up to $10,000 of qualified tuition and
fees per taxpayer return will be eligible for the Lifetime
Learning credit (i.e., the maximum credit per taxpayer return
will be $2,000). The Lifetime Learning credit amount that a
taxpayer may otherwise claim is phased out over the same
modified AGI phase-out range as applies for purposes of the
HOPE credit. The Lifetime Learning credit is available for
expenses paid after June 30, 1998, for education furnished in
academic periods beginning after such date.
Section 6050S provides that certain educational
institutions and other taxpayers engaged in a trade or business
must file information returns with the IRS and certain
individual taxpayers, as required by regulations prescribed by
the Secretary of the Treasury, containing information on
individuals who made payments for qualified tuition and related
expenses or to whom reimbursements or refunds were made of such
expenses.
Explanation of Provision
The bill clarifies that, under section 6050S, information
returns containing information with respect to qualified
tuition and fees must be filed by a person that is not an
eligible educational institution only if such person is engaged
in a trade or business of making payments to any individual
under an insurance arrangement as reimbursements or refunds (or
similar payments) of qualified tuition and related expenses. As
under present law, section 6050S will continue to require the
filing of information returns by persons engaged in a trade or
business if, in the course of such trade or business, the
person receives from any individual interest aggregating $600
or more for any calendar year on one or more qualified
education loans.
Effective Date
The provision is effective as if included in the 1997 Act--
i.e., for expenses paid after December 31, 1997, for education
furnished in academic periods beginning after such date.
2. Education IRAs (sec. 6004(d) of the bill, sec. 213 of the 1997 Act,
and sec. 530 of the Code)
Present Law
Section 530 provides that taxpayers may establish
``education IRAs,'' meaning certain trusts or custodial
accounts created exclusively for the purpose of paying
qualified higher education expenses of a named beneficiary.
Annual contributions to education IRAs may not exceed $500 per
designated beneficiary, and may not be made after the
designated beneficiary reaches age 18. Contributions to an
education IRA may not be made by certain high-income
taxpayers--i.e., the contribution limit is phased out for
taxpayers with modified adjusted gross income between $95,000
and $110,000 ($150,000 and $160,000 for taxpayers filing joint
returns). No contribution may be made to an education IRA
during any year in which any contributions are made by anyone
to a qualified State tuition program on behalf of the same
beneficiary.
Until a distribution is made from an education IRA,
earnings on contributions to the account generally are not
subject to tax.56 In addition, distributions from an
education IRA are excludable from gross income to the extent
that the distribution does not exceed qualified higher
education expenses incurred by the beneficiary during the year
the distribution is made (provided that a HOPE credit or
Lifetime Learning credit is not claimed with respect to the
beneficiary for the same taxable year). The earnings portion of
an education IRA distribution not used to pay qualified higher
education expenses is includible in the gross income of the
distributee and generally is subject to an additional 10-
percent tax.57 However, the additional 10-percent
tax does not apply if a distribution is made of excess
contributions above the $500 limit (and any earnings
attributable to such excess contributions) if the distribution
is made on or before the date that a return is required to be
filed (including extensions of time) by the contributor for the
year in which the excess contribution was made. In addition,
section 530 allows tax-free rollovers of account balances from
an education IRA benefiting one family member to an education
IRA benefiting another family member. Section 530 is effective
for taxable years beginning after December 31, 1997.
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\56\ However, education IRAs are subject to the unrelated business
income tax (``UBIT'') imposed by section 511.
\57\ This 10-percent additional tax does not apply if a
distribution from an education IRA is made on account of the death,
disability, or scholarship received by the designated beneficiary.
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Explanation of Provision
Consistent with the legislative history to the 1997 Act,
the bill provides that any balance remaining in an education
IRA will be deemed to be distributed within 30 days after the
date that the designated beneficiary reaches age 30 (or, if
earlier, within 30 days of the date that the beneficiary dies).
The bill further clarifies that, in the event of the death of
the designated beneficiary, the balance remaining in an
education IRA may be distributed (without imposition of the
additional 10-percent tax) to any other (i.e., contingent)
beneficiary or to the estate of the deceased designated
beneficiary. If any member of the family of the deceased
beneficiary becomes the new designated beneficiary of an
education IRA, then no tax will be imposed on such
redesignation and the account will continue to be treated as an
education IRA.
Under the bill, the additional 10-percent tax provided for
by section 530(d)(4) will not apply to a distribution from an
education IRA, which (although used to pay for qualified higher
education expenses) is includible in the beneficiary's gross
income solely because the taxpayer elects to claim a HOPE or
Lifetime Learning credit with respect to the beneficiary. The
bill further provides that the additional 10-percent tax will
not apply to the distribution of any contribution to an
education IRA made during a taxable year if such distribution
is made on or before the date that a return is required to be
filed (including extensions of time) by the beneficiary for the
taxable year during which the contribution was made (or, if the
beneficiary is not required to file such a return, April 15th
of the year following the taxable year during which the
contribution was made). In addition, the bill amends section
4973(e) to provide that the excise tax penalty applies under
that section for each year that an excess contribution remains
in an education IRA (and not merely the year that the excess
contribution is made).
The bill clarifies that, in order for taxpayers to
establish an education IRA, the designated beneficiary must be
a life-in-being. The bill also clarifies that, under rules
contained in present-law section 72, distributions from
education IRAs are treated as representing a pro-rata share of
the principal (i.e., contributions) and accumulated earnings in
the account.58
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\58\ For example, if an education IRA has a total balance of
$10,000, of which $4,000 represents principal (i.e., contributions) and
$6,000 represents earnings, and if a distribution of $2,000 is made
from such an account, then $800 of that distribution will be treated as
a return of principal (which under no event is includible in the gross
income of the distributee) and $1,200 of the distribution will be
treated as accumulated earnings. In such a case, if qualified higher
education expenses of the beneficiary during the year of the
distribution are at least equal to the $2,000 total amount of the
distribution (i.e., principal plus earnings), then the entire earnings
portion of the distribution will be excludible under section 530,
provided that a Hope credit or Lifetime Learning credit is not claimed
for that same taxable year on behalf of the beneficiary. If, however,
the qualified higher education expenses of the beneficiary for the
taxable year are less than the total amount of the distribution, then
only a portion of the earnings will be excludable from gross income
under section 530. Thus, in the example discussed above, if the
beneficiary incurs only $1,500 of qualified higher education expenses
in the year that a $2,000 distribution is made, then only $900 of the
earnings will be excludable from gross income under section 530 (i.e.,
an exclusion will be provided for the pro-rata portion of the earnings,
based on the ratio that the $1,500 of qualified higher education
expenses bears to the $2,000 distribution) and the remaining $300 of
the earnings portion of the distribution will be includible in the
distributee's gross income.
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The bill also provides that, if any qualified higher
education expenses are taken into account in determining the
amount of the exclusion under section 530 for a distribution
from an education IRA, then no deduction (under section 162 or
any other section), or exclusion (under section 135) or credit
will be allowed under the Internal Revenue Code with respect to
such qualified higher education expenses.
In addition, because the 1997 Act allows taxpayers to
redeem U.S. Savings Bonds and be eligible for the exclusion
under present-law section 135 (as if the proceeds were used to
pay qualified higher education expenses) provided the proceeds
from the redemption are contributed to an education IRA (or to
a qualified State tuition program defined under section 529) on
behalf of the taxpayer, the taxpayer's spouse, or a dependent,
the bill conforms the definition of ``eligible educational
institution'' under section 135 to the broader definition of
that term under present-law section 530 (and section 529).
Thus, for purposes of section 135, as under present-law
sections 529 and 530, the term ``eligible educational
institution'' is defined as an institution which (1) is
described in section 481 of the Higher Education Act of 1965
(20 U.S.C. 1088) and (2) is eligible to participate in
Department of Education student aid programs.
Effective Date
The provisions are effective as if included in the 1997
Act--i.e., for taxable years beginning after December 31, 1997.
3. Treatment of cancellation of certain student loans (6004(f) of the
bill, sec. 225 of the 1997 Act, and sec. 108(f) of the Code)
Present Law
Under present law, an individual's gross income does not
include forgiveness of loans made by tax-exempt educational
organizations if the proceeds of such loans are used to pay
costs of attendance at an educational institution or to
refinance outstanding student loans and the student is not
employed by the lender organization. The exclusion applies only
if 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. In addition, the student's work must
fulfill a public service requirement.
Explanation of Provision
The bill clarifies that gross income does not include
amounts from the forgiveness of loans made by educational
organizations and certain tax-exempt organizations to refinance
any existing student loan (and not just loans made by
educational organizations). In addition, the bill clarifies
that refinancing loans made by educational organizations and
certain tax-exempt organizations must be made pursuant to a
program of the refinancing organization (e.g., school or
private foundation) that requires the student to fulfill a
public service work requirement.
Effective Date
The provision is effective as of August 5, 1997, the date
of enactment of the 1997 Act.
4. Deduction for student loan interest (sec. 6004(b) of the bill, sec.
202 of the 1997 Act, and sec. 221 of the Code)
Present Law
Certain individuals who have paid interest on qualified
education loans may claim an above-the-line deduction for such
interest expenses, up to a maximum deduction of $2,500 per
year. The deduction is allowed only with respect to interest
paid on a qualified education loan during the first 60 months
in which interest payments are required. In this regard,
required payments of interest do not include nonmandatory
payments, such as interest payments made during a period of
loan forbearance. Months during which the qualified education
loan is in deferral or forbearance do not count against the 60-
month period. No deduction is allowed to an individual if that
individual is claimed as a dependent on another taxpayer's
return for the taxable year.
A qualified education loan generally is defined as any
indebtedness incurred to pay for the qualified higher education
expenses of the taxpayer, the taxpayer's spouse, or any
dependent of the taxpayer as of the time the indebtedness was
incurred in attending (1) post-secondaryeducational
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.
Explanation of Provision
The bill clarifies that the student loan interest deduction
may be claimed only by a taxpayer who is legally obligated to
make the interest payments pursuant to the terms of the loan.
Effective Date
The provision is effective for interest payments due and
paid after December 31, 1997, on any qualified education loan.
5. Enhanced deduction for corporate contributions of computer
technology and equipment (sec. 6004(e) of the bill, sec. 224 of
the 1997 Act, and sec. 170(e)(6) of the Code)
Present Law
In computing taxable income, a taxpayer who itemizes
deductions generally is allowed to deduct the fair market value
of property contributed to a charitable organization. However,
in the case of a charitable contribution of inventory or other
ordinary-income property, short-term capital gain property, or
certain gifts to private foundations, the amount of the
deduction is limited to the taxpayer's basis in the property.
In the case of a charitable contribution of tangible personal
property, a taxpayer's deduction is limited to the adjusted
basis in such property if the use by the recipient charitable
organization is unrelated to the organization's tax-exempt
purpose.
The Taxpayer Relief Act of 1997 provided that certain
contributions of computer and other equipment to eligible
donees to be used for the benefit of elementary and secondary
school children qualify for an augmented deduction. Under this
special rule, the amount of the augmented deduction available
to a corporation making a qualified contribution generally is
equal to its basis in the donated property plus one-half of the
amount of ordinary income that would have been realized if the
property had been sold. However, the augmented deduction cannot
exceed twice the basis of the donated property. To qualify for
the augmented deduction, the contribution must satisfy various
requirements.
The legislative history of the provision states that the
special tax treatment for contributions of computer and other
equipment was to be effective for contributions made during a
three-year period in taxable years beginning after December 31,
1997, and before January 1, 2001.59 However, as a
result of a drafting error, the statutory provision does not
apply to contributions made during taxable years beginning
after December 31, 1999.
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\59\ H. Rept. 105-220, p. 374.
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Explanation of Provision
The bill corrects the termination date of the provision to
provide that the special rule applies to contributions made
during taxable years beginning after December 31, 1997, and
before December 31, 2000.
In addition, the bill clarifies that the requirements set
forth in section 170(e)(6)(B)(ii)-(vii) apply regardless of
whether the donee is an educational organization or a tax-
exempt charitable entity. Similarly, the rule in section
170(e)(6)(ii)(I) regarding subsequent contributions by private
foundations is clarified to permit contributions to either
educational organizations or tax-exempt charitable entities
described in section 170(e)(6)(B)(i).
Effective Date
The provision is effective as of August 5, 1997, the date
of enactment of the 1997 Act.
6. Qualified State tuition programs (sec. 6004(c) of the bill, sec. 211
of the 1997 Act, and sec. 529 of the Code)
Present Law
Section 529 provides tax-exempt status to ``qualified State
tuition programs,'' meaning certain programs established and
maintained by a State (or agency or instrumentality thereof)
under which persons may (1) purchase tuition credits or
certificates on behalf of a designated beneficiary that entitle
the beneficiary to a waiver or payment of qualified higher
education expenses of the beneficiary, or (2) make
contributions to an account that is established for the purpose
of meeting qualified higher education expenses of the
designated beneficiary of the account. The term ``qualified
higher education expenses'' means expenses for tuition, fees,
books, supplies, and equipment required for the enrollment or
attendance at an eligible postsecondary educational
institution, as well as room and board expenses (meaning the
minimum room and board allowance applicable to the student as
determined by the institution in calculating costs of
attendance for Federal financial aid programs under sec. 472 of
the Higher Education Act of 1965) for any period during which
the student is at least a half-time student.
Section 529 also provides that no amount shall be included
in the gross income of a contributor to, or beneficiary of, a
qualified State tuition program with respect to any
distribution from, or earnings under, such program, except that
(1) amounts distributed or educational benefits provided to a
beneficiary (e.g., when the beneficiary attends college) will
be included inthe beneficiary's gross income (unless excludable
under another Code section) to the extent such amounts or the value of
the educational benefits exceed contributions made on behalf of the
beneficiary, and (2) amounts distributed to a contributor or another
distributee (e.g., when a parent receives a refund) will be included in
the contributor's/distributee's gross income to the extent such amounts
exceed contributions made on behalf of the beneficiary. Earnings on an
account may be refunded to a contributor or beneficiary, but the State
or instrumentality must impose a more than de minimis monetary penalty
unless the refund is (1) used for qualified higher education expenses
of the beneficiary, (2) made on account of the death or disability of
the beneficiary, or (3) made on account of a scholarship received by
the designated beneficiary to the extent the amount refunded does not
exceed the amount of the scholarship used for higher education
expenses.
A transfer of credits (or other amounts) from one account
benefiting one designated beneficiary to another account
benefiting a different beneficiary will be considered a
distribution (as will a change in the designated beneficiary of
an interest in a qualified State tuition program), unless the
beneficiaries are members of the same family. For this purpose,
the term ``member of the family'' means persons described in
paragraphs (1) through (8) of section 152(a)--e.g., sons,
daughters, brothers, sisters, nephews and nieces, certain in-
laws, etc--and any spouse of such persons.
Explanation of Provision
The bill clarifies that, under rules contained in present-
law section 72, distributions from qualified State tuition
programs are treated as representing a pro-rata share of the
principal (i.e., contributions) and accumulated earnings in the
account.
In addition, the bill modifies section 529(e)(2) to clarify
that--for purposes of tax-free rollovers and changes of
designated beneficiaries--a ``member of the family'' includes
the spouse of the original beneficiary.
Effective Date
The provisions are effective for distributions made after
December 31, 1997.
7. Qualified zone academy bonds (sec. 6004(g) of the bill, sec. 226 of
the 1997 Act, and sec. 1397E of the Code)
Present Law
Certain financial institutions (i.e., banks, insurance
companies, and corporations actively engaged in the business of
lending money) that hold ``qualified zone academy bonds'' are
entitled to a nonrefundable tax credit in an amount equal to a
credit rate (set monthly by the Treasury Department
60) multiplied by the face amount of the bond (sec.
1397E). The credit rate applies to all such bonds issued in
each month. A taxpayer holding a qualified zone academy bond on
the credit allowance date (i.e., each one-year anniversary of
the issuance of the bond) is entitled to a credit. The credit
is includible in gross income (as if it were an interest
payment on the bond), and may be claimed against regular income
tax and AMT liability.
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\60\ The Treasury Department will set the credit rate each month at
a rate estimated to allow issuance of qualified zone academy bonds
without discount and without interest cost to the issuer.
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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''--meaning certain public schools
located in empowerment zones or enterprise communities or with
a certain percentage of students from low-income families--and
(2) private entities have promised to make contributions to the
qualified zone academy with a value equal to at least 10
percent of the bond proceeds.
A total of $400 million of ``qualified zone academy bonds''
may be issued in each of 1998 and 1999. The $400 million
aggregate bond cap will be allocated each year to the States
according to their respective populations of individuals below
the poverty line.61 Each State, in turn, will
allocate the credit to qualified zone academies within such
State. A State may carry over any unused allocation into
subsequent years.
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\61\ See Rev. Proc. 98-9, which sets forth the maximum face amount
of qualified zone academy bonds that may be issued for each State
during 1998; IRS Proposed Rules (REG-119449-97), which provides
guidance to holders and issuers of qualified zone academy bonds.
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Explanation of Provision
The bill clarifies that, for purposes of section
6655(g)(1)(B), the credit for certain holders of qualified zone
academy bonds may be claimed for estimated tax purposes.
Similarly, the bill clarifies for purposes of section
6401(b)(1) the manner in which the credit is taken into account
when determining whether a taxpayer has made an overpayment of
tax.
Effective Date
The provisions are effective for obligations issued after
December 31, 1997.
C. Amendments to Title III of the 1997 Act Relating to Savings
Incentives
1. Conversions of IRAs into Roth IRAs (sec. 6005(b) of the bill, sec.
302 of the 1997 Act, and secs. 408A and 72(t) of the Code)
Present Law
A taxpayer with adjusted gross income of less than $100,000
may convert a present-law deductible or nondeductible IRA into
a Roth IRA at any time. The amount converted is includible in
income in the year of the conversion, except that if the
conversion occurs in 1998, the amount converted is includible
in income ratably over the 4-year period beginning with the
year in which the conversion occurs.62 Amounts
includible in income as a result of the conversion are not
taken into account in determining whether the $100,000
threshold is exceeded. The 10-percent tax on early withdrawals
does not apply to conversions of IRAs into Roth IRAs.
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\62\ If the conversion is accomplished by means of a withdrawal and
a rollover into a Roth IRA, the 4-year rule applies if the withdrawal
is made during 1998 and the rollover occurs within 60 days of the
withdrawal. In such a case, the 4-year period begins with the year in
which the withdrawal was made. For purposes of this discussion, such
conversions are treated as occurring in 1998.
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In general, distributions of earnings from a Roth IRA are
excludable from income if the individual has had a Roth IRA for
at least 5 years and certain other requirements are satisfied.
The 5-year holding period with respect to conversion Roth IRAs
begins from the year of the conversion. (Distributions that are
excludable from income are referred to as qualified
distributions.)
Present law does not contain a specific rule addressing
what happens if an individual dies during the 4-year spread
period for 1998 conversions.
Explanation of Provision
Distributions of converted amounts
Distributions before the end of the 4-year spread
The bill modifies the rules relating to conversions of IRAs
into Roth IRAs in order to prevent taxpayers from receiving
premature distributions from a Roth conversion IRA while
retaining the benefits of 4-year income averaging. In the case
of conversions to which the 4-year income inclusion rule
applies, income inclusion will be accelerated with respect to
any amounts withdrawn before the final year of inclusion. Under
this rule, a taxpayer that withdraws converted amounts prior to
the last year of the 4-year spread will be required to include
in income the amount otherwise includible under the 4-year
rule, plus the lesser of (1) the taxable amount of the
withdrawal, or (2) the remaining taxable amount of the
conversion (i.e., the taxable amount of the conversion not
included in income under the 4-year rule in the current or a
prior taxable year). In subsequent years (assuming no such
further withdrawals), the amount includible in income under the
4-year will be the lesser of (1) the amount otherwise required
under the 4-year rule (determined without regard to the
withdrawal) or (2) the remaining taxable amount of the
conversion.
Under the bill, application of the 4-year spread will be
elective. The election will be made in the time and manner
prescribed by the Secretary. If no election is made, the 4-year
rule will be deemed to be elected. An election, or deemed
election, with respect to the 4-year spread cannot be changed
after the due date for the return for the first year of the
income inclusion (including extensions).
The following example illustrates the application of these
rules.
Example: Taxpayer A has a nondeductible IRA with a
value of $100 (and no other IRAs). The $100 consists of
$75 of contributions and $25 of earnings. A converts
the IRA into a Roth IRA in 1998 and elects the 4-year
spread. As a result of the conversion, $25 is
includible in income ratably over 4 years ($6.25 per
year). The 10-percent early withdrawal tax does not
apply to the conversion. At the beginning of 1999, the
value of the account is $110, and A makes a withdrawal
of $10. Under the proposal, the withdrawal would be
treated as attributable entirely to amounts that were
includible in income due to the conversion. In the year
of withdrawal, $16.25 would be includible in income
(the $6.25 includible in the year of withdrawal under
the 4-year rule, plus $10 ($10 is less than the
remaining taxable amount of $12.50 ($25-$12.50)). In
the next year, $2.50 would be includible in income
under the 4-year rule. No amount would be includible in
income in year 4 due to the conversion.
Application of early withdrawal tax to converted amounts
The bill modifies the rules relating to conversions to
prevent taxpayers from receiving premature distributions (i.e.,
within 5 years) while retaining the benefit of the nonpayment
of the early withdrawal tax. Under the bill, if converted
amounts are withdrawn within the 5-year period beginning with
the year of the conversion, then, to the extent attributable to
amounts that were includible in income due to the conversion,
the amount withdrawn will be subject to the 10- percent early
withdrawal tax.63
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\63\ The otherwise available exceptions to the early withdrawal
tax, e.g., for distributions after age 59\1/2\, would apply.
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Applying this rule to the example above, the $10 withdrawal
would be subject to the 10-percent early withdrawal tax (unless
as exception applies).
Application of 5-year holding period
The bill will also eliminate the special rule under which a
separate 5-year holding period begins for purposes of
determining whether a distribution of amounts attributable to a
conversion is a qualified distribution; thus, the 5-year
holding rule for Roth IRAs will begin with the year for which a
contribution is first made to a Roth IRA. A subsequent
conversion will not start the running of a new 5-year period.
Ordering rules
Ordering rules will apply to determine what amounts are
withdrawn in the event a Roth IRA contains both conversion
amounts (possibly from different years) and other
contributions. Under these rules, regular Roth IRA
contributions will be deemed to be withdrawn first, then
converted amounts (starting with the amounts first converted).
Withdrawals of converted amounts will be treated as coming
first from converted amounts that were includible in income. As
under present law, earnings will be treated as withdrawn after
contributions. For purposes of these rules, all Roth IRAs,
whether or not maintained in separate accounts, will be
considered a single Roth IRA.
Corrections
In order to assist individuals who erroneously convert IRAs
into Roth IRAs or otherwise wish to change the nature of an IRA
contribution, contributions to an IRA (and earnings thereon)
may be transferred in a trustee-to-trustee transfer from any
IRA to another IRA by the due date for the taxpayer's return
for the year of the contribution (including extensions). Any
such transferred contributions will be treated as if
contributed to the transferee IRA (and not to the transferor
IRA). Trustee-to-trustee transfers include transfers between
IRA trustees as well as IRA custodians, apply to transfers from
and to IRA accounts and annuities, and apply to transfers
between IRA accounts and annuities with the same trustee or
custodian.
Effect of death on 4-year spread
Under the bill, in general, any amounts remaining to be
included in income as a result of a 1998 conversion will be
includible in income on the final return of the taxpayer. If
the surviving spouse is the sole beneficiary of the Roth IRA,
the spouse may continue the deferral by including the remaining
amounts in his or her income over the remainder of the 4-year
period.
Calculation of AGI limit for conversions
The bill clarifies the determination of AGI for purposes of
applying the $100,000 AGI limit on IRA conversions into Roth
IRAs. Under the bill, the conversion amount (to the extent
otherwise includible in AGI) is subtracted from AGI as
determined under the rules relating to IRAs (sec. 219) for the
year of distribution. Thus, for example, the AGI-based phase
out of the exemption from the disallowance for passive activity
losses from rental real estate activities (sec. 469(i)(3))
would be applied taking into account the amount of the
conversion that is includible in AGI, and then the amount of
the conversion would be subtracted from AGI in determining
whether a taxpayer is eligible to convert an IRA into a Roth
IRA.
Effective Date
The provision is effective as if included in the 1997 Act,
i.e., for taxable years beginning after December 31, 1997.
2. Penalty-free distributions for education expenses and purchase of
first homes (sec. 6005(c) of the bill, secs. 203 and 303 of the
1997 Act, and sec. 402 of the Code)
Present Law
The 10-percent early withdrawal tax does not apply to
distributions from an IRA if the distribution is for first-time
homebuyer expenses, subject to a $10,000 life-time cap, or for
higher education expenses. These exceptions do not apply to
distributions from employer-sponsored retirement plans. A
distribution from an employer-sponsored retirement plan that is
an ``eligible rollover distribution'' may be rolled over to an
IRA. The term ``eligible rollover distribution'' means any
distribution to an employee of all or a portion or the balance
to the credit of the employee in a qualified trust, except the
term does not include certain periodic distributions,
distributions based on life or joint life expectancies and
distributions required under the minimum distribution rules.
Generally, distributions from cash or deferred arrangements
made on account of hardship are eligible rollover
distributions. An eligible rollover distribution which is not
transferred directly to another retirement plan or an IRA is
subject to 20-percent withholding on the distribution.
Explanation of Provision
Under present law, participants in employer-sponsored
retirement plans can avoid the early withdrawal tax applicable
to such plans by rolling over hardship distributions to an IRA
and withdrawing the funds from the IRA. The bill modifies the
rules relating to the ability to roll over hardship
distributions from employer-sponsored retirement plans
(including section 403(b) plans) in order to prevent such
avoidance of the 10-percent early withdrawal tax. The bill
provides that distributions from cash or deferred arrangements
and similar arrangements made on account of hardship of the
employee are not eligible rollover distributions. Such
distributions will not be subject to the 20-percent withholding
applicable to eligible rollover distributions.
Effective Date
The provision is effective for distributions after December
31, 1998.
3. Limits based on modified adjusted gross income (sec. 6005(b) of the
bill, sec. 302(a) of the 1997 Act, and sec. 72(t) of the Code)
Present Law
The $2,000 Roth IRA maximum contribution limit is phased
out for individual taxpayers with adjusted gross income
(``AGI'') between $95,000 and $110,000 and for married
taxpayers filing a joint return with AGI between $150,000 and
$160,000. The maximum deductible IRA contribution is phased out
between $0 and $10,000 of AGI in the case of married couples
filing a separate return.
Explanation of Provision
The bill clarifies the phase-out range for the Roth IRA
maximum contribution limit for a married individual filing a
separate return and conforms it to the range for deductible IRA
contributions. Under the bill, the phase-out range for married
individuals filing a separate return will be $0 to $10,000 of
AGI.
Effective Date
The provision is effective as if included in the 1997 Act,
i.e., for taxable years beginning after December 31, 1997.
4. Contribution limit to Roth IRAs (sec. 6005(b) of the bill, sec. 302
of the 1997 Act, and sec. 408A(c) of the Code)
Present Law
An individual who is an active participant in an employer-
sponsored plan may deduct annual IRA contributions up to the
lesser of $2,000 or 100 percent of compensation if the
individual's adjusted gross income (``AGI'') does not exceed
certain limits. For 1998, the limit is phased-out over the
following ranges of AGI: $30,000 to $40,000 in the case of a
single taxpayer and $50,000 to $60,000 in the case of married
taxpayers. An individual who is not an active participant in an
employer-sponsored retirement plan (and whose spouse is not an
active participant) may deduct IRA contributions up to the
limits described above without limitation based on income. An
individual who is not an active participant in an employer-
sponsored retirement plan (and whose spouse is such an active
participant) may deduct IRA contributions up to the limits
described above if the AGI of the such individuals filing a
joint return does not exceed certain limits. The limit is
phased for out for such individuals with AGI between $150,000
and $160,000.
An individual may make nondeductible contributions up to
the lesser of $2,000 or 100 percent of compensation to a Roth
IRA if the individual's AGI does not exceed certain limits. An
individual may make nondeductible contributions to an IRA to
the extent the individual does not or cannot make deductible
contributions to an IRA or contributions to a Roth IRA.
Contributions to all an individual's IRAs for a taxable year
may not exceed $2,000.
Explanation of Provision
The bill clarifies the intent of the Act that an individual
may contribute up to $2,000 a year to all the individual's
IRAs. Thus, for example, suppose an individual is not eligible
to make deductible IRA contributions because of the phase-out
limits, and is eligible to make a $1,000 Roth IRA contribution.
The individual could contribute $1,000 to the Roth IRA and
$1,000 to a nondeductible IRA.
Effective Date
The provision is effective as if included in the 1997 Act,
i.e., for taxable years beginning after December 31, 1997.
5. Contribution limitations for active participants in an IRA (sec.
6005(a) of the bill, sec. 301(b) of the 1997 Act, and sec.
219(g) of the Code)
Present Law
Under present law, if a married individual (filing a joint
return) is an active participant in an employer-sponsored
retirement plan, the $2,000 IRA deduction limit is phased out
over the following levels of adjusted gross income (``AGI''):
Taxable years beginning in: Phase-out range
1997................................................ $40,000-50,000
1998................................................ 50,000-60,000
1999................................................ 51,000-61,000
2000................................................ 52,000-62,000
2001................................................ 53,000-63,000
2002................................................ 54,000-64,000
2003................................................ 60,000-70,000
2004................................................ 65,000-75,000
2005................................................ 70,000-80,000
2006................................................ 75,000-85,000
2007................................................ 80,000-100,000
An individual is not considered an active participant in an
employer-sponsored retirement plan merely because the
individual's spouse is an active participant. The $2,000
maximum deductible IRA contribution for an individual who is
not an active participant, but whose spouse is, is phased out
for taxpayers with AGI between $150,000 and $160,000.
Explanation of Provision
The bill clarifies the intent of the Act relating to the
AGI phase-out ranges for married individuals who are active
participants in employer-sponsored plans and the AGI phase-out
range for spouses of such active participants as described
above.
Effective Date
The provision is effective as if included in the 1997 Act,
i.e., for taxable years beginning after December 31, 1997.
D. Amendments to Title III of the 1997 Act Relating to Capital Gains
1. Individual capital gains rate reductions (sec. 6005(d) of the bill,
sec. 311 of the 1997 Act, and sec. 1(h) of the Code)
Present Law
The 1997 Act provided lower capital gains rates for
individuals. Generally, the 1997 Act reduced the maximum rate
on the adjusted net capital gain of an individual from 28
percent to 20 percent and provided a 10-percent rate for the
adjusted net capital gain otherwise taxed at a 15-percent rate.
The ``adjusted net capital gain'' means the net capital gain
determined without regard to certain gain for which the 1997
Act provided a higher maximum rate of tax. The 1997 Act
generally retained a 28-percent maximum rate for the long-term
capital gain from collectibles, certain long-term capital gain
included in income from the sale of small business stock, and
the net capital gain determined by including all capital gains
and losses properly taken into account after July 28, 1997,
from property held more than one year but not more than 18
months and all capital gains and losses properly taken into
account for the portion of the taxable year before May 7, 1997.
In addition, the 1997 Act provided a maximum rate of 25 percent
for the long-term capital gain attributable to real estate
depreciation (``unrecaptured section 1250 gain''). Beginning in
2001 and 2006, lower rates of 8 and 18 percent will apply to
certain property held more than five years.
The amounts taxed at the 28 and 25-percent rates may not
exceed the individual's net capital gain and also are reduced
by amounts otherwise taxed at a 15-percent rate.
Under the provisions of the 1997 Act, net short-term
capital losses and long-term capital loss carryovers reduce the
amount of adjusted net capital gain before reducing amounts
taxed at the maximum 25 and 28-percent rates.
The 1997 Act failed to coordinate the new multiple holding
periods with certain provisions of the Code.
Explanation of Provision
Under the bill, 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.
``28-percent rate gain'' means the amount of net gain
attributable to collectibles gains and losses, an amount of
gain equal to the gain excluded from gross income on the sale
of certain small business stock under section 1202,\64\ long-
term capital gains and losses properly taken into account after
July 28, 1997, from property held more than one year but not
more than 18 months, the net short-term capital loss for the
taxable year and the long-term capital loss carryover to the
taxable year. Long-term capital gains and losses properly taken
into account before May 7, 1997, also are included in computing
28-percent rate gain.
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\64\ For example, assume an individual has $300,000 gain from the
sale of qualified stock in a small business corporation and assume that
section 1202(b) limits the gain that may be taken into account under
section 1202(a) to $240,000. $120,000 of the gain (50 percent of
$240,000) is excluded from gross income under section 1202(a). The
$180,000 of gain that is included in gross income is included in the
computation of net capital gain, and $120,000 of that gain is taken
into account under section 1(h)(5)(i)(III), as added by the bill, in
computing 28-percent rate gain. The maximum effective regular tax rate
on the $240,000 of gain to which the 50-percent section 1202 exclusion
applies is 14 percent and the maximum rate on the remaining $60,000 of
gain is 20 percent.
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``Unrecaptured section 1250 gain'' means the amount of
long-term capital gain (not otherwise treated as ordinary
income) which would be treated as ordinary income if section
1250 recapture applied to all depreciation (rather than only to
depreciation in excess of straight-line depreciation) from
property held more than 18 months (one year for amounts
properly taken into account after May 6, 1997, and before July
29, 1997).\65\ The unrecaptured section 1250 depreciation is
reduced (but not below zero) by the excess (if any) of amount
of losses taken into account in computing 28-percent gain over
the amount of gains taken into account in computing 28-percent
rate gain.
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\65\ In the case of a disposition of a partnership interest held
more than 18 months, the amount of the individual's long-term capital
gain which would be treated as ordinary income under section 751(a) if
section 1250 applied to all depreciation, will be taken into account in
computing unrecaptured section 1250 gain.
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The bill contains several conforming amendments to
coordinate the multiple holding periods with other provisions
of the Code. Inherited property (sec. 1223 (11) and (12)) and
certain patents (sec. 1235) are deemed to have a holding period
of more than 18 months, allowing the 10 and 20-percent rates to
apply. Amounts treated as ordinary income by reason of section
1231(c) will be allocated among categories of net section 1231
gain in accordance with IRS forms or regulations. The bill
clarifies that the amount treated as long-term capital gain or
loss on a section 1256 contract is treated as attributable to
property held for more than 18 months.
Under the bill, in applying section 1233(b) where the
substantially identical property has been held more than one
year but not more than 18 months, any gain on the closing of
the short sale will be considered gain from property held not
more than 18 months, and the substantially identical property
will have be treated as held for one year on the day before the
earlier of thedate of the closing of the short sale or the date
the property is disposed of. In applying section 1233(d) where, on the
date of the short sale, the substantially identical property has been
held more than 18 months, any loss on the closing of the short sale
will be treated as a loss from the sale or exchange of a capital asset
held more than 18 months. Finally, in applying section 1092(f), any
loss with respect to the option shall be treated as a loss from the
sale or exchange of a capital asset held more than 18 months, if at the
time the loss is realized, gain on the sale or exchange of the stock
would be treated as gain from the sale or exchange of a capital asset
held more than 18 months.66
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\66\ Any loss treated as a long-term capital loss by reason of
section 1233(d) or 1092(f) will be taken into account in computing 28-
percent rate gain where the property causing such loss to be treated as
a long-term capital loss was held not more than 18 months on the
applicable date.
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The bill reorders the rate structure under sections 1(h)(1)
and 55(b)(3) without any substantive change.
The bill makes minor technical changes, including a
provision to reduce the minimum tax preference on certain small
business stock to 28 percent, beginning in 2006.67
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\67\ Thus, the maximum rate under the minimum tax will be 17.92%
(.64 times 28%).
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Effective Date
The provision applies to taxable years ending after May 6,
1997.
2. Rollover of gain from sale of qualified stock (sec. 6005(f) of the
bill, sec. 313 of the 1997 Act, and sec. 1045 of the Code)
Present Law
The 1997 Act provided that gain from the sale of qualified
small business stock held by an individual for more than six
months can be ``rolled over'' tax-free to other qualified small
business stock.
Explanation of Provision
Under the bill, a partnership or an S corporation can roll
over gain from qualified small business stock held more than
six months if (and only if) at all times during the taxable
year all the interests in the partnership or S corporation are
held by individuals, estates,68 and trusts with no
corporate beneficiaries.
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\68\ The term ``estate'' is intended to include both the estate of
a decedent and the estate of an individual in bankruptcy.
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Effective Date
The provision applies to sales on or after August 5, 1997,
the date of enactment of the 1997 Act.
3. Exclusion of gain on the sale of a principal residence owned and
used less than two years (sec. 6005(e)(1) and (2) of the bill,
sec. 312(a) of the 1997 Act, and sec. 121 of the Code)
Present Law
Under present law, a taxpayer generally is able to exclude
up to $250,000 ($500,000 if married filing a joint return) of
gain realized on the sale or exchange of a principal residence.
To be eligible for the exclusion, the taxpayer must have owned
the residence and used it as a principal residence for at least
two of the five years prior to the sale or exchange. A taxpayer
who fails to meet these requirements by reason of a change of
place of employment, health, or unforeseen circumstances is
able to exclude a fraction of the taxpayer's realized gain
equal to the fraction of the two years that the requirements
are met.
Explanation of Provision
The bill clarifies that an otherwise qualifying taxpayer
who fails to satisfy the two-year ownership and use
requirements is able to exclude an amount equal to the fraction
of the $250,000 ($500,000 if married filing a joint return),
not the fraction of the realized gain which is equal to the
fraction of the two years that the ownership and use
requirements are met. For example, an unmarried taxpayer who
owns and uses a principal residence for one year then sells at
realized gain of $500,000 may exclude $125,000 of gain (one-
half of $250,000) not $250,000 of gain (one-half of the
realized gain). Similarly, an unmarried taxpayer who owns and
uses a principal residence for one year then sells at a
realized gain of $50,000 may exclude the entire $50,000 of gain
since it is less than one half of $250,000. The exclusion is
not limited to $25,000 (one-half of the $50,000 realized gain).
In addition, the bill provides that if a married couple
filing a joint return does not qualify for the $500,000 maximum
exclusion, the amount of the maximum exclusion that may be
claimed by the couple is the sum of each spouse's maximum
exclusion determined on a separate basis.
Effective Date
The provision is effective as if included in section 312 of
the 1997 Act.
4. Effective date of the exclusion of gain on the sale of a principal
residence (sec. 6005(e)(3) of the bill, sec. 312(d)(2) of the
1997 Act, and sec. 121 of the Code)
Present law
The exclusion for gain on sale of a principal residence
under the 1997 Act generally applies to sales or exchanges
occurring after May 6, 1997. A taxpayer may elect, however, to
apply prior law to a sale or exchange (1) made before the date
of enactment of the Act, (2) made after the date of enactment
pursuant to a binding contract in effect on such date, or (3)
where a replacement residence was acquired on or before the
date of enactment (or pursuant to a binding contract in effect
on the date of enactment) and the prior-law rollover provision
would apply.
Explanation of Provision
The bill clarifies that a taxpayer may elect to apply prior
law with respect to a sale or exchange on the date of enactment
of section 312 of the 1997 Act.
Effective Date
The provision is effective as if included in section 312 of
the 1997 Act.
E. Amendments to Title IV of the 1997 Act Relating to Alternative
Minimum Tax
1. Election to use AMT depreciation for regular tax purposes (sec.
6006(b) of the bill, sec. 402 of the 1997 Act, and sec. 168 of
the Code)
Present Law
For regular tax purposes, depreciation deductions for
certain shorter-lived tangible property may be determined using
the 200-percent declining balance method over 3-, 5-, 7-, or
10-year recovery periods (depending on the type of property).
For alternative minimum tax (``AMT'') purposes, depreciation on
such property placed in service after 1986 and before 1999 is
computed by using the 150-percent declining balance method over
the longer class lives prescribed by the alternative
depreciation system of section 168(g). A taxpayer may elect to
use the methods and lives applicable to AMT depreciation for
regular tax purposes.
The 1997 Act conformed the recovery periods (but not the
methods) used for purposes of the AMT depreciation to the
recovery periods used for purposes of the regular tax, for
property placed in service after 1998. The 1997 Act did not
make a conforming change to the election to use the pre-1998
AMT recovery methods and recovery periods for regular tax
purposes.
Explanation of Provision
For property placed in service after 1998, a taxpayer would
be allowed to elect, for regular tax purposes, to compute
depreciation on tangible personal property otherwise qualified
for the 200-percent declining balance method by using the 150-
percent declining balance method over the recovery periods
applicable to the regular tax (rather than the longer class
lives of the alternative depreciation system of sec. 168(g)).
Effective Date
The provision is effective for property placed in service
after December 31, 1998.
2. Clarification of the small business exemption (sec. 6006(a) of the
bill, sec. 401 of the 1997 Act, and sec. 55 of the Code)
Present Law
The corporate alternative minimum tax is repealed for small
corporations for taxable years beginning after December 31,
1997. A small corporation is one that had average gross
receipts of $5 million or less for a prior three-year period. A
corporation that meets the $5 million gross receipts test will
continue to be treated as a small corporation exempt from the
alternative minimum tax so long as its average gross receipts
do not exceed $7.5 million.
Explanation of Provision
The provision clarifies the application of the $5 million
and $7.5 million gross receipts tests that a corporation must
meet to be a small corporation exempt from the AMT. Under the
provision, in order for a corporation to qualify as a small
corporation exempt from the AMT for a taxable year, the
corporation's average gross receipts for all 3-taxable-year
periods beginning after December 31, 1993 and ending before
such taxable year must be $7.5 million or less. The $7.5
million amount is reduced to $5 million for the corporation's
first 3-taxable-year period (or portion thereof) beginning
after December 31, 1993, and ending before the taxable year for
which the exemption is claimed.
If a corporation's first taxable year beginning after
December 31, 1997 (the first year the exemption is available)
is its first taxable year (and the corporation does not lose
its status as a small corporation because it is aggregated with
one or more corporations under section 448(c)(2) or treated as
having a predecessor corporation under section 448(c)(3)(D)),
the corporation will be treated as an exempt small corporation
for such year regardless of its gross receipts for such year.
The operation of the gross receipts tests for the small
corporation AMT exemption is demonstrated by the following
examples.
Example 1.--Assume a calendar-year corporation was in
existence on January 1, 1994. In order to qualify as a small
corporation for 1998 (the first year the exemption is
available), (1) the corporation's average gross receipts for
the 3-taxable-year period 1994 through 1996 must be $5 million
or less and (2) the corporation's average gross receipts for
the 1995 through 1997 period must be $7.5 million or less. If
the corporation qualifies for 1998, the corporation will
qualify for 1999 if its average gross receipts for the 3-
taxable-year period 1996 through 1998 also is $7.5 million or
less. If the corporation does not qualify for 1998, the
corporation cannot qualify for 1999 or any subsequent year.
Example 2.--Assume a calendar-year corporation is first
incorporated in 1999 and is neither aggregated with a related,
existing corporation under section 448(c)(2) nor treated as
having a predecessor corporation under section 448(c)(3)(D).
The corporation will qualify as a small corporation for 1999
regardless of its gross receipts for such year. In order to
qualify as a small corporation for 2000, the corporation's
gross receipts for 1999 must be $5 million or
less.69 If the corporation qualifies for 2000, the
corporation also will qualify for 2001 if its average gross
receipts for the 2-taxable-year period 1999 through 2000 is
$7.5 million or less. If the corporation does not qualify for
2000, the corporation cannot qualify for 2001 or any subsequent
year. If the corporation qualifies for 2001, the corporation
will qualify for 2002 if its average gross receipts for the 3-
taxable-year period 1999 through 2001 is $7.5 million or less.
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\69\ The gross receipts for 1999 must be annualized under section
448(c)(3)(B) if the 1999 taxable year is less than 12 months.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 1997.
F. Amendments to Title V of the 1997 Act Relating to Estate and Gift
Taxes
1. Clarification of phaseout range for 5-percent surtax to phase out
the benefits of the unified credit and graduated rates (sec.
6007(a)(1) of the bill, sec. 501 of the 1997 Act, and sec.
2001(c)(2) of the Code)
Present Law
Prior to the 1997 Act, a 5-percent surtax was imposed upon
cumulative taxable transfers between $10 million and
$21,040,000 to phase out the benefits of the graduated rates
and the unified credit. The 1997 Act increased the unified
credit beginning in 1998, from an effective exemption of
$600,000 to an effective exemption of $1,000,000 in 2006. A
conforming amendment was made to the 5-percent surtax provision
in section 2001(c)(2) that was intended to reflect the
increased unified credit. However, the conforming amendment was
drafted in a manner that had the effect of phasing out the
benefits of the graduated rates but not the unified credit.
Explanation of Provision
The provision clarifies section 2001(c)(2) to properly
phase out the benefits of both the graduated rates and the
unified credit.
Effective Date
The provision is effective for decedents dying, and gifts
made, after December 31, 1997.
2. Clarification of effective date for indexing of generation-skipping
exemption (sec. 6007(a)(2) of the bill, secs. 501 (d) and (f)
of the 1997 Act, and sec. 2631(c) of the Code)
Present Law
The 1997 Act provided for the indexation of the $1 million
exemption from generation-skipping transfers effective for
decedents dying after December 31, 1998.
Explanation of Provision
The provision clarifies that the indexing of the exemption
from generation-skipping transfers is effective with respect to
all generation-skipping transfers (i.e., direct skips, taxable
terminations, and taxable distributions) made after 1998.
With respect to existing trusts, transferors are permitted
to make a late allocation of any additional GST exemption
amount attributable to indexing adjustments in accordance with
the present-law rules applicable to late allocations as set
forth in sections 2632 and 2642, and the regulations
promulgated thereunder. For example, assume an individual
transferred $2 million to a trust in 1995, and allocated his
entire $1 million GST exemption to the trust at that time
(resulting in an inclusion ratio of .50). Assume further that
in 2001, the GST exemption has increased to $1,100,000 as the
result of indexing, and that the value of the trust assets is
now $3 million. If the individual is still alive in 2001, he is
permitted to make a late allocation of $100,000 of GST
exemption to the trust, resulting in a new inclusion ratio of
1-(($1,500,000+100,000)/$3,000,000), or .467.
Effective Date
The provision is effective for generation-skipping
transfers (i.e., direct skips, taxable terminations, and
taxable distributions) made after December 31, 1998.
3. Conversion of qualified family-owned business exclusion into a
deduction (sec. 6007(b)(1)(A) of the bill, sec. 502 of the 1997
Act, and redesignated sec. 2057 of the Code)
Present Law
The qualified family-owned business provision in the 1997
Act provides an exclusion from estate taxes for certain
qualified family-owned business interests. It is unclear
whether the provision provides an exclusion of value or an
exclusion of property from the estate, and thus it is unclear
how the new provision interacts with other provisions in the
Internal Revenue Code (e.g., secs. 1014, 2032A, 2056, 2612, and
6166).
Explanation of Provision
The provision converts the qualified family-owned business
exclusion into a deduction, and redesignates section 2033A as
section 2057. Except as provided below, the requirements of the
qualified family-owned business provision otherwise remain
unchanged. The qualified family-owned business deduction is not
available for generation-skipping transfer tax purposes.
Effective Date
The provision is effective with respect to estates of
decedents dying after December 31, 1997.
4. Coordination between unified credit and family-owned business
provision (sec. 6007(b)(1)(B) and 6007(b)(4) of the bill, sec.
502 of the 1997 Act, and redesignated sec. 2057(a) of the Code)
Present Law
The 1997 Act effectively increased the amount of lifetime
gifts and transfers at death that are exempt from unified
estate and gift tax from $600,000 to $1,000,000 over the period
1997 to 2006, through increases in an individual's unified
credit. In addition, the 1997 Actprovided a limited exclusion
for certain family-owned business interests. The exclusion for family-
owned business interests may be taken only to the extent that the
exclusion for family-owned business interests, plus the amount
effectively exempted by the unified credit, does not exceed $1.3
million. As a result, for years after 1998, the maximum amount of
exclusion for family-owned business interests is reduced by increases
in the dollar amount of transfers effectively exempted through the
unified credit.
Because the structure of the 1997 Act increases the unified
credit over time (until 2006) while decreasing over the same
period the benefit of the closely-held business exclusion, the
estate tax on estates with family-owned businesses increases
over time until 2006. This increase in estate tax results from
the fact that increases in the unified credit provide a benefit
at the decedent's lowest estate tax brackets, while the
exclusion for family-owned businesses provides a benefit at the
decedent's highest estate tax brackets.
Explanation of Provision
Under the provision, if an executor elects to utilize the
qualified family-owned business deduction, the estate tax
liability is calculated as if the estate were allowed a maximum
qualified family-owned business deduction of $675,000 and an
applicable exclusion amount under section 2010 (i.e., the
amount exempted by the unified credit) of $625,000, regardless
of the year in which the decedent dies. If the estate includes
less than $675,000 of qualified family-owned business
interests, the applicable exclusion amount is increased on a
dollar-for-dollar basis, but only up to the applicable
exclusion amount generally available for the year of death.
For example, assume the decedent dies in 2005, when the
applicable exclusion amount under section 2010 is $800,000. If
the estate includes qualified family-owned business interests
valued at $675,000 or more, the estate tax liability is
calculated as if the estate were allowed a qualified family-
owned business deduction of $675,000, and the applicable
exclusion amount under section 2010 is limited to $625,000. If
the estate includes qualified family-owned business interests
of $500,000 or less, all of the qualified family-owned business
interests could be deducted from the estate, and the applicable
exclusion amount under section 2010 is $800,000. If the estate
includes qualified family-owned business interests valued
between $500,000 and $675,000, all of the qualified family-
owned business interests could be deducted from the estate, and
the applicable exclusion amount under section 2010 is
calculated as the excess of $1.3 million over the amount of
qualified family-owned business interests. (For example, if the
qualified family-owned business interests were valued at
$600,000, the applicable exclusion amount under section 2010 is
$700,000.)
If a recapture event occurs with respect to any qualified
family-owned business interest, the total amount of estate
taxes potentially subject to recapture is calculated as the
difference between the actual amount of estate tax liability
for the estate, and the amount of estate taxes that would have
been owed had the qualified family-owned business election not
been made.
Effective Date
The provision is effective for decedents dying after
December 31, 1997.
5. Clarification of businesses eligible for family-owned business
provision (sec. 6007(b)(2) of the bill, sec. 502 of the 1997
Act, and redesignated sec. 2057(b)(3) of the Code)
Present Law
In order to be eligible to exclude from the gross estate a
portion of the value of a family-owned business, the sum of (1)
the adjusted value of family-owned business interests
includible in the decedent's estate, and (2) the amount of
gifts of family-owned business interests to family members of
the decedent that are not included in the decedent's gross
estate, must exceed 50 percent of the decedent's adjusted gross
estate.
Explanation of Provision
The provision clarifies the formula for determining the
amount of gifts of family-owned business interests made to
members of the decedent's family that are not otherwise
includible in the decedent's gross estate.
Effective Date
The provision is effective with respect to decedents dying
after December 31, 1997.
6. Clarification of ``trade or business'' requirement for family-owned
business provision (sec. 6007(b)(5) of the bill, sec. 502 of
the Act, and redesignated secs. 2057(e)(1) and 2057(f) of the
Code)
Present Law
A qualified family-owned business interest is defined as
any interest in a trade or business that meets certain
requirements--e.g., the decedent and members of his family must
own certain percentages of the trade or business, the decedent
or members of his family must have materially participated in
the trade or business for five of the eight years preceding the
decedent's death, and the qualified heir or members of his
family must materially participate in the trade or business for
at least five years of any eight-year period within 10 years
following the decedent's death.
Explanation of Provision
The provision clarifies that an individual's interest in
property used in a trade or business may qualify for the
qualified family-owned business provision as long as such
property is used in a trade or business by the individual or a
member of the individual's family. Thus, for example,if a
brother and sister inherit farmland upon their father's death, and the
sister cash-leases her portion to her brother, who is engaged in the
trade or business of farming, the ``trade or business'' requirement is
satisfied with respect to both the brother and the sister. Similarly,
if a father cash-leases farmland to his son, and the son materially
participates in the trade or business of farming the land for at least
five of the eight years preceding his father's death, the pre-death
material participation and ``trade or business'' requirements are
satisfied with respect to the father's interest in the farm.
Effective Date
The provision is effective with respect to estates of
decedents dying after December 31, 1997.
7. Clarification that interests eligible for family-owned business
provision must be passed to a qualified heir (secs.
6007(b)(1)(B) of the bill, sec. 502 of the Act, and
redesignated sec. 2057(a)(1) of the Code)
Present Law
The 1997 Act provided a new exclusion for qualified family-
owned business interests. One of the requirements for the
exclusion is that such interests must pass to a ``qualified
heir,'' which includes members of the decedent's family and any
individual who has been actively employed by the trade or
business for at least 10 years prior to the date of the
decedent's death.
Explanation of Provision
The provision clarifies that qualified family-owned
business interests must pass to a qualified heir in order to
qualify for the deduction. For this purpose, if all
beneficiaries of a trust are qualified heirs (and in such other
circumstances as the Secretary of the Treasury may provide),
property passing to the trust may be treated as having passed
to a qualified heir.
Effective Date
The provision is effective with respect to estates of
decedents dying after December 31, 1997.
8. Other modifications to the qualified family-owned business provision
(secs. 6007(b)(3), 6007(b)(6), and 6007(b)(7) of the bill, sec.
502 of the 1997 Act, and redesignated sec. 2057 of the Code)
Present Law
The qualified family-owned business provision incorporates
by cross-reference several other provisions of the Code,
including a number of provisions in section 2032A and the
personal holding company rules of section 543(a).
Explanation of Provision
The provision modifies section 2033A(g) (relating to the
security requirements for noncitizen qualified heirs) by
deleting the cross-reference to section 2033A(i)(3)(M), which
does not appear to be appropriate. The provision also makes
rules similar to those set forth in section 2032A(h) and (i)
(relating to conversions and exchanges of property under
sections 1031 and 1033) applicable for purposes of section
2033A. Finally, the provision clarifies that, in identifying
assets that produce (or are held for the production of) income
of a type described in section 543(a), section 543(a) is
applied without regard to section 543(a)(2)(B) (the dividend
requirement for corporate entities).
Effective Date
The provision is effective with respect to estates of
decedents dying after December 31, 1997.
9. Clarification of interest on installment payment of estate tax on
holding companies (sec. 6007(c) of the bill, sec. 503 of the
1997 Act, and secs. 6166(b)(7)(A) and 6166(b)(8)(A) of the
Code)
Present Law
If certain conditions are met, a decedent's estate may
elect to pay the estate tax attributable to certain closely-
held businesses over a 14-year period. The 1997 Act provided
for a 2-percent interest rate on the estate tax on first $1
million in value of interests in qualified closely-held
businesses, and a rate equal to 45 percent of the regular
deficiency rate on the amount in excess of the portion eligible
for the 2-percent rate, but also provided that none of interest
on the deferred payment of estate taxes is deductible for
income or estate tax purposes. Interests in holding companies
and non-readily-tradeable business interests are not eligible
for the 2-percent rate.
Explanation of Provision
The provision clarifies that deferred payments of estate
tax on holding companies and non-readily-tradable business
interests do not qualify for the 2-percent interest rate, but
insteadare subject to a rate of 45 percent of the regular
deficiency rate. Such interest payments are not deductible for income
or estate tax purposes.
Effective Date
The provision generally is effective for decedents dying
after December 31, 1997.
10. Clarification on declaratory judgment jurisdiction of U.S. Tax
Court regarding installment payment of estate tax (sec. 6007(d)
of the bill, sec. 505 of the 1997 Act, and sec. 7479(a) of the
Code)
Present Law
If certain conditions are met, a decedent's estate may
elect to pay estate tax attributable to certain closely-held
business over a 14-year period. The 1997 Act provided that the
U.S. Tax Court would have jurisdiction to determine whether the
estate of a decedent qualifies for the 14-year installment
payment of estate tax.
Explanation of Provision
The provision clarifies that the jurisdiction of the U.S.
Tax Court to determine whether an estate qualifies for
installment payment of estate tax on closely-held businesses
extends to determining which businesses in an estate are
eligible for the deferral.
Effective Date
The provision is effective for decedents dying after the
date of enactment of the 1997 Act.
11. Clarification of rules governing revaluation of gifts (sec. 6007(e)
of the bill, sec. 506 of the 1997 Act, and sec. 2504(c) of the
Code)
Present Law
The valuation of a gift becomes final for gift tax purposes
after the statute of limitations on any gift tax assessed or
paid has expired. The 1997 Act extended that rule to apply for
estate tax purposes, provided for a lengthened statute of
limitations for gift tax purposes if certain information is not
disclosed with the gift tax return, and provided jurisdiction
to the U.S. Tax Court to determine the value of any gift.
Explanation of Provision
The provision clarifies that in determining the amount of
taxable gifts made in preceding calendar periods, the value of
prior gifts is the value of such gifts as finally determined,
even if no gift tax was assessed or paid on that gift. For this
purpose, final determinations include, e.g., the value reported
on the gift tax return (if not challenged by the IRS prior to
the expiration of the statute of limitations), the value
determined by the IRS (if not challenged in court by the
taxpayer), the value determined by the courts, or the value
agreed to by the IRS and the taxpayer in a settlement
agreement.
Effective Date
The provision is effective with respect to gifts made after
the date of enactment of the 1997 Act.
12. Clarification with respect to post-mortem conservation easements
(sec. 6007(g) of the bill, sec. 506 of the 1997 Act, and sec.
2031(c) of the Code)
Present Law
A deduction is allowed for estate tax purposes for a
contribution of a qualified real property interest to a charity
(or other qualified organization) exclusively for conservation
purposes (sec. 2055(f)). The 1997 Act also provided an election
to exclude from the taxable estate 40 percent of the value of
any land subject to a qualified conservation easement that
meets certain requirements. The 1997 Act provided that the
executor of the decedent's estate, or the trustee of a trust
holding the land, could grant a qualifying easement after the
decedent's death, as long as the easement is granted prior to
the date of the election (generally, within nine months after
the date of the decedent's death).
Explanation of Provision
The provision clarifies that, in the case of a qualified
conservation contribution made after the date of the decedent's
death, an estate tax deduction is allowed under section
2055(f). However, no income tax deduction is allowed to the
estate or the qualified heirs with respect to such post-mortem
conservation easements.
Effective Date
The provision is effective with respect to estates of
decedents dying after December 31, 1997.
G. Amendments to Title VII of the 1997 Act Relating to Incentives for
the District of Columbia (sec. 6008 of the bill, sec. 701 of the 1997
Act, and secs. 1400, 1400B and 1400C of the Code)
Present Law
Designation of D.C. Enterprise Zone
Certain economically depressed census tracts within the
District of Columbia are designated as the ``D.C. Enterprise
Zone,'' within which businesses and individual residents are
eligible for special tax incentives. The census tracts that
compose the D.C. Enterprise Zone for purposes of the wage
credit, expensing, and tax-exempt financing incentives include
all census tracts that presently are part of the D.C.
enterprise community and census tracts within the District of
Columbia where the poverty rate is not less than 20 percent.
The D.C. Enterprise Zone designation generally will remain in
effect for five years for the period from January 1, 1998,
through December 31, 2002.
Empowerment zone wage credit, expensing, and tax-exempt financing
The following tax incentives generally are available in the
D.C. Enterprise Zone: (1) a 20-percent wage credit for the
first $15,000 of wages paid to D.C. residents who work in the
D.C. Enterprise Zone; (2) an additional $20,000 of expensing
under Code section 179 for qualified zone property placed in
service by a ``qualified D.C. Zone business''; and (3) special
tax-exempt financing for certain zone facilities.
Qualified D.C. Zone business
For purposes of the increased expensing under section 179,
as well as for purposes of the zero percent capital gains rate
(described below), a corporation or partnership is a qualified
D.C. Zone business if: (1) the sole trade or business of the
corporation or partnership is the active conduct of a
``qualified business'' (defined below) within the D.C. Zone;
(2) at least 50 percent (80 percent for purposes of the zero
percent capital gains rate) of the total gross income of such
entity is derived from the active conduct of a qualified
business within the D.C. Zone; (3) a substantial portion of the
use of the entity's tangible property (whether owned or leased)
is within the D.C. Zone; (4) a substantial portion of the
entity's intangible property is used in the active conduct of
such business; (5) a substantial portion of the services
performed for such entity by its employees are performed within
the D.C. Zone; and (6) less than 5 percent of the average of
the aggregate unadjusted bases of the property of such entity
is attributable to (a) certain financial property, or (b)
collectibles not held primarily for sale to customers in the
ordinary course of an active trade or business. Similar rules
apply to a qualified business carried on by an individual as a
proprietorship.
In general, a ``qualified business'' means any trade or
business. However, a ``qualified business'' does not include
any trade or business that consists predominantly of the
development or holding of intangibles for sale or license. In
addition, a qualified business does not include any private or
commercial golf course, country club, massage parlor, hot tub
facility, suntan facility, racetrack or other facility used for
gambling, liquor store, or certain large farms (so- called
``excluded businesses''). The rental of residential real estate
is not a qualified business. The rental of commercial real
estate is a qualified business only if at least 50 percent of
the gross rental income from the real property is from
qualified D.C. Zone businesses. The rental of tangible personal
property to others also is not a qualified business unless at
least 50 percent of the rental of such property is by qualified
D.C. Zone businesses or by residents of the D.C. Zone.
For purposes of the tax-exempt financing provisions, the
term ``D.C. Zone business'' generally is defined as for
purposes of the increased expensing under section 179. However,
a qualified D.C. Zone business for purposes of the tax-exempt
financing provisions includes a business located in the D.C.
Zone that would qualify as a D.C. Zone business if it were
separately incorporated. In addition, under a special rule
applicable only for purposes of the tax- exempt financing
rules, a business is not required to satisfy the requirements
applicable to a D.C. Zone business until the end of a startup
period if, at the beginning of the startup period, there is a
reasonable expectation that the business will be a qualified
D.C. Zone business at the end of the startup period and the
business makes bona fide efforts to be such a business. With
respect to each property financed by a bond issue, the startup
period ends at the beginning of the first taxable year
beginning more than two years after the later of (1) the date
of the bond issue financing such property, or (2) the date the
property was placed in service (but in no event more than three
years after the date of bond issuance). In addition, if a
business satisfies certain requirements applicable to a
qualified D.C. Zone business for a three-year testing period
following the end of the start-up period and thereafter
continues to satisfy certain business requirements, then it
will be treated as a qualified D.C. Zone business for all years
after the testing period irrespective of whether it satisfies
all of the requirements of a qualified D.C. Zone business.
Zero-percent capital gains rate
A zero-percent capital gains rate applies to capital gains
from the sale of certain qualified D.C. Zone assets held for
more than five years. For purposes of the zero-percent capital
gains rate, the D.C. Enterprise Zone is defined to include all
census tracts within the District of Columbia where the poverty
rate is not less than 10 percent. Only capital gain that is
attributable to the 10-year period beginning January 1, 1998,
and ending December 31, 2007, is eligible for the zero-percent
rate.
In general, qualified ``D.C. Zone assets'' mean stock or
partnership interests held in, or tangible property held by, a
D.C. Zone business. Such assets must generally be acquired
after December 31, 1997, and before January 1, 2003. However,
under a special rule, qualified D.C. Zone assets include
property that was a qualified D.C. Zone asset in the hands of a
prior owner, provided that at the time of acquisition, and
during substantially all of the subsequent purchaser's holding
period, either (1) substantially all of the use of the property
is in a qualifiedD.C. Zone business, or (2) the property is an
ownership interest in a qualified D.C. Zone business.
First-time homebuyer tax credit
First-time homebuyers of a principal residence in the
District are eligible for a tax credit of up to $5,000 of the
amount of the purchase price, except that the credit phases out
for individual taxpayers with adjusted gross income (``AGI'')
between $70,000 and $90,000 ($110,000-$130,000 for joint
filers). The credit is available with respect to property
purchased after the date of enactment and before January 1,
2001. Any excess credit may be carried forward indefinitely to
succeeding taxable years.
Explanation of Provisions
Eligible census tracts
The bill clarifies that the determination of whether a
census tract in the District of Columbia satisfies the
applicable poverty criteria for inclusion in the D.C.
Enterprise Zone for purposes of the wage credit, expensing, and
special tax-exempt financing incentives (poverty rate of not
less than 20 percent) or for purposes of the zero-percent
capital gains rate (poverty rate of not less than 10 percent)
is based on 1990 decennial census data. Thus, data from the
2000 decennial census would not result in the expansion or
other reconfiguration of the D.C. Enterprise Zone.
Qualified D.C. Zone business
The bill modifies section 1400B(c) to clarify that a
proprietorship can constitute a D.C. Zone business for purposes
of the zero-percent capital gains rate.
The bill also clarifies that qualified D.C. Zone businesses
that take advantage of the special tax-exempt financing
incentives do not become subject to a 35-percent zone resident
requirement after the close of the testing period.
Zero-percent capital gains rate
The bill clarifies that there is no requirement that D.C.
Zone business property be acquired by a subsequent purchaser
prior to January 1, 2003, to be eligible for the special rule
applicable to subsequent purchasers.
In addition, the bill clarifies that the termination of the
D.C. Enterprise Zone designation at the end of 2002 will not,
by itself, result in property failing to be treated as a
qualified D.C. Zone asset for purposes of the zero-percent
capital gains rate, provided that the property otherwise
continues to qualify were the D.C. Zone designation in effect.
First-time homebuyer credit
The bill clarifies that, for purposes of the first-time
homebuyer credit, 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.
The bill also clarifies that the phaseout of the credit for
individual taxpayers with adjusted gross income between $70,000
and $90,000 ($110,000-$130,000 for joint filers) applies only
in the year the credit is generated, and does not apply in
subsequent years to which the credit may be carried over.
In addition, the bill clarifies that the term ``purchase
price'' means the adjusted basis of the principal residence on
the date the residence is purchased. Newly constructed
residences are treated as purchased by the taxpayer on the date
the taxpayer first occupies such residence.
The bill clarifies that the first-time homebuyer credit is
a nonrefundable personal credit and would provide that the
first-time homebuyer credit is claimed after the credits
described in Code sections 25 (credit for interest on certain
home mortgages) and 23 (adoption credit).
Finally, the bill clarifies that the first-time homebuyer
credit would be available only for property purchased after
August 4, 1997, and before January 1, 2001. Thus, the credit is
available to first-time home purchasers who acquire title to a
qualifying principal residence on or after August 5, 1997, and
on or before December 31, 2000, irrespective of the date the
purchase contract was entered into.
Effective Date
The provisions are effective as of August 5, 1997, the date
of enactment of the 1997 Act.
H. Amendments to Title IX of the 1997 Act Relating to Miscellaneous
Provisions
1. Clarification of effect of certain transfers to Highway Trust Fund
(sec. 6009(a) of the bill, sec. 901 of the 1997 Act, and sec.
9503 of the Code) 70
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\70\ S. 1173, as passed by the Senate, and H.R. 2400, as passed by
the House, would repeal the underlying provision of the 1997 Act to
which this correction relates.
---------------------------------------------------------------------------
Present Law
The 1997 Act provided for the transfer of an additional 4.3
cents per gallon of the highway motor fuels tax revenues from
the General Fund to the Highway Trust Fund, and provided that
revenues transferred to the Trust Fund under this provision
could not be used in a manner resulting in changes in direct
spending. The 1997 Act further changed the dates by which
certain taxes would be required to be deposited with the
Treasury in fiscal year 1998.
Explanation of Provision
The bill clarifies that the tax deposit delays included in
the provisions affecting transfers to the Highway Trust Fund,
like the revenue transfers themselves, do not affect direct
spending from the Trust Fund.
Effective Date
The provision is effective as if included in the 1997 Act.
2. Clarification of Mass Transit Account portions of highway motor
fuels taxes (sec. 6009(b) of the bill, sec. 907 of the 1997
Act, and sec. 9503 of the Code) 71
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\71\ S. 1173, as passed by the Senate, and H.R. 2400, as passed by
the House, include an identical technical correction.
---------------------------------------------------------------------------
Present Law
The 1997 Act provided for the transfer to the Highway Trust
Fund of revenues attributable to a General Fund fuels tax rate
of 4.3 cents per gallon. That Act further enacted reduced
rates, based on energy content, for propane, liquefied natural
tax, compressed natural gas, and methanol produced from natural
gas. When deposited in the Highway Trust Fund, revenues from
the taxes on each of these products are divided between the
Trust Fund's Highway Account and the Mass Transit Account.
Explanation of Provision
The bill clarifies that the Mass Transit Account portion of
the highway motor fuels taxes generally is 2.86 cents per
gallon and that taxes on the four fuels eligible for reduced
rates are divided between the Highway Account and the Mass
Transit Account in the same proportion as is the tax on
gasoline.
Effective Date
The provision is effective as if included in the 1997 Act.
3. Clarification of qualification for reduced rate of excise tax on
certain hard ciders (sec. 6009(c) of the bill, sec. 908 of the
1997 Act, and sec. 5041 of the Code)
Present Law
Distilled spirits are taxed at a rate of $13.50 per proof
gallon; beer is taxed at a rate of $18 per barrel
(approximately 58 cents per gallon); and still wines of 14
percent alcohol or less are taxed at a rate of 1.07 per wine
gallon. The Code defines still wines as wines containing not
more than 0.392 gram of carbon dioxide per hundred milliliters
of wine. Higher rates of tax are applied to wines with greater
alcohol content, to sparkling wines (e.g., champagne), and to
artificially carbonated wines.
Certain small wineries may claim a credit against the
excise tax on wine of 90 cents per wine gallon on the first
100,000 gallons of still wine produced annually (i.e., net tax
rate of 17 cents per wine gallon on wines with an alcohol
content of 14 percent or less). No credit is allowed on
sparkling wines. Certain small breweries pay a reduced tax of
$7.00 per barrel (approximately 22.6 cents per gallon) on the
first 50,000 barrels of beer produced annually.
Hard cider is a wine fermented solely from apples or apple
concentrate and water, containing no other fruit product and
containing at least one-half of one percent and less than 7
percent alcohol by volume. Once fermented, eligible hard cider
may not be altered by the addition of other fruit juices,
flavor, or other ingredients that alter the flavor that results
from the fermentation process. The 1997 Act provided a lower
excise tax rate of 22.6 cents per gallon on hard cider.
Qualifying small producers that produce 250,000 gallons or less
of hard cider and other wines in a calendar year may claim a
credit of 5.6 cents per wine gallon on the first 100,000
gallons of hard cider produced. This credit produces an
effective tax rate of 17 cents per gallon, the same effective
rate as that applied to small producers of still wines having
an alcohol content of 14 percent or less. This credit is phased
out for production in excess of 100,000 gallons but less than
250,000 gallons annually.
Explanation of Provision
The bill clarifies that the 22.6-cents-per-gallon tax rate
applies only to apple cider that otherwise would be a still
wine subject to a tax rate of $1.07 per wine gallon, i.e.,
still wines having an alcohol content of 14 percent or less.
Effective Date
The provision is effective as if included in the 1997 Act.
4. Combined employment tax reporting demonstration project (sec.
6009(f) of the bill, sec. 976 of the 1997 Act, and sec. 6103 of
the Code)
Present Law
Traditionally, Federal tax forms are filed with the Federal
Government and State tax forms are filed with individual
states. This necessitates duplication of items common to both
returns. Some States have recently been working with the IRS to
implement combined State and Federal reporting of certain types
of items on one form as a way of reducing the burdens on
taxpayers. The State of Montana and the IRS have cooperatively
developed a system to combine State and Federal employment tax
reporting on one form. The one form would contain exclusively
Federal data, exclusively State data, and information common to
both: the taxpayer's name, address, TIN, and signature.
The Internal Revenue Code prohibits disclosure of tax
returns and return information, except to the extent
specifically authorized by the Internal Revenue Code (sec.
6103). Unauthorized disclosure is a felony punishable by a fine
not exceeding $5,000 or imprisonment of not more than five
years, or both (sec. 7213). An action for civil damages also
may be brought for unauthorized disclosure (sec. 7431). No tax
information may be furnished by the Internal Revenue Service
(``IRS'') to another agency unless the other agency establishes
procedures satisfactory to the IRS for safeguarding the tax
information it receives (sec. 6103(p)).
Implementation of the combined Montana-Federal employment
tax reporting project had been hindered because the IRS
interprets section 6103 to apply that provision's restrictions
on disclosure to information common to both the State and
Federal portions of the combined form, although these
restrictions would not apply to the State with respect to the
State's use of State-requested information if that information
were supplied separately to both the State and the IRS.
The 1997 Act permits implementation of a demonstration
project to assess the feasibility and desirability of expanding
combined reporting in the future. There are several limitations
on the demonstration project. First, it is limited to the State
of Montana and the IRS. Second, it is limited to employment tax
reporting. Third, it is limited to disclosure of the name,
address, TIN, and signature of the taxpayer, which is
information common to both the Montana and Federal portions of
the combined form. Fourth, it is limited to a period of five
years.
Explanation of Provision
The provision permits Montana to use this information as if
it had collected it separately by eliminating Federal penalties
for disclosure of this information. The provision also corrects
a cross-reference to the provision.
Effective Date
The provision is effective as of the date of enactment of
the 1997 Act (August 5, 1997), and will expire on the date five
years after the date of enactment of the 1997 Act.
5. Election for 1987 partnerships to continue exception from treatment
of publicly traded partnerships as corporations (sec. 6009(d)
of the bill, sec. 964 of the 1997 Act, and sec. 7704 of the
Code)
Present Law
In general
In the case of an electing 1987 partnership that elects to
be subject to a 3.5-percent tax on gross income from the active
conduct of a trade or business, the general rule treating a
publicly traded partnership as a corporation does not apply.
The 3.5-percent tax was intended to approximate the corporate
tax the partnership would pay if it were treated as a
corporation for Federal tax purposes.
Tax on partnership
The 3.5-percent tax is imposed on the electing 1987
partnership under the provision (sec. 7704(g)(3)). The
provision does not specifically make inapplicable, however, the
general rule that a partnership as such is not subject to
income tax, but rather, the partners are liable for the tax in
their separate or individual capacities (sec. 701).
Estimated tax payments
The provision does not specifically make applicable the
requirements for payment of estimated tax that apply generally
to payments of corporate tax.
Explanation of Provisions
Tax on partnership
The technical correction clarifies that the 3.5-percent tax
is paid by the partnership. The general rule of section 701(a)
that a partnership as such is not subject to income tax, but
rather, the partners are liable for the tax in their separate
or individual capacities does not apply to the payment of the
3.5-percent tax by the partnership.
Estimated tax payments
The technical correction provides that the corporate
estimated tax payment rules of section 6655 are applied to the
3.5-percent tax payable by an electing 1987 partnership in the
same manner as if the partnership were a corporation and the
tax were imposed under section 11 (relating to corporate tax
rates). References in section 11 to taxable income are to be
applied for this purpose as if they were references to gross
income of the partnership for the taxable year from the active
conduct of trades and businesses by the partnership.
Effective Date
Tax on partnership
The provision is effective as if enacted with the 1997 Act.
Estimated tax payments
The provision is effective for taxable years beginning
after the date of enactment.
6. Depreciation limitations for electric vehicles (sec. 6009(e) of the
bill, sec. 971 of the 1997 Act, and sec. 280F of the Code)
Present Law
Annual depreciation deductions with respect to passenger
automobiles are limited to specified dollar amounts, indexed
for inflation. Any cost not recovered during the 6-year
recovery period of such vehicles may be recovered during the
years succeeding the recovery period, subject to similar
limitations. The recovery-period limitations are trebled for
vehicles that are propelled primarily by electricity.
Explanation of Provision
The depreciation limitations applicable to post-recovery
periods under section 280F are trebled for vehicles that are
propelled primarily by electricity.
Effective Date
The provision is effective for property placed in service
after August 5, 1997 and before January 1, 2005.
7. Modification of operation of elective carryback of existing net
operating losses of the National Railroad Passenger Corporation
(``Amtrak'') (sec. 6009(g) of the bill and sec. 977 of the 1997
Act)
Present Law
The 1997 Act provides elective procedures that allow Amtrak
to consider the tax attributes of its predecessors (i.e., those
railroads that were relieved of their responsibility to provide
intercity rail passenger service as a result of the Rail
Passenger Service Act of 1970) in the use of Amtrak's net
operating losses. The benefit allowable under these procedures
is limited to the least of: (1) 35 percent of Amtrak's existing
qualified carryovers, (2) the net tax liability for the
carryback period, or (3) $2,323,000,000. One half of the amount
so calculated will be treated as a payment of the tax imposed
by chapter 1 of the Internal Revenue Code of 1986 for Amtrak's
taxable year ending December 31, 1997, and a similar amount for
Amtrak's taxable year ending December 31, 1998.
The availability of the elective procedures is conditioned
on Amtrak (1) agreeing to make payments of one percent of the
amount it receives to each of the non-Amtrak States to offset
certain transportation related expenditures and (2) using the
balance for certain qualified expenses. Non-Amtrak States are
those States that are not receiving Amtrak service at any time
during the period beginning on the date of enactment and ending
on the date of payment.
Explanation of Provision
The provision provides that the term ``non-Amtrak State''
means any State that is not receiving intercity passenger rail
service from Amtrak as of the date of enactment of the 1997 Act
(August 5, 1997). Thus, a State will not lose its status as a
non-Amtrak State with respect to any payment by reason of
acquiring Amtrak service with any payment from Amtrak under the
1997 Act provision.
Effective Date
The provision is effective as if included in section 977 of
the 1997 Act.
I. AMENDMENTS TO TITLE X OF THE 1997 ACT RELATING TO REVENUE-RAISING
PROVISIONS
1. Exception from constructive sales rules for certain debt positions
(sec. 6010(a)(1) of the bill, sec. 1001(a) of the 1997 Act, and
sec. 1259(b)(2) of the Code)
Present Law
A taxpayer is required to recognize gain (but not loss)
upon entering into a constructive sale of an ``appreciated
financial position,'' which generally includes an appreciated
position with respect to any stock, debt instrument or
partnership interest. An exception is provided for positions
with respect to debt instruments that have an unconditionally
payable principal amount, that are not convertible into the
stock of the issuer or a related person, and the interest on
which is either fixed, payable at certain variable rates or
based on certain interest payments on a pool of mortgages.
Explanation of Provision
The provision clarifies that, to qualify for the exception
for positions with respect to debt instruments, the position
would either have to meet the requirements as to unconditional
principal amount, non-convertibility and interest terms or,
alternatively, be a hedge of a position meeting these
requirements. A hedge for purposes of the provision includes
any position that reduces the taxpayer's risk of interest rate
or price changes or currency fluctuations with respect to
another position.
Effective Date
The provision is generally effective for constructive sales
entered into after June 8, 1997.
2. Definition of forward contract under constructive sales rules (sec.
6010(a)(2) of the bill, sec. 1001(a) of the 1997 Act, and sec.
1259(d)(1) of the Code)
Present Law
A constructive sale of an appreciated financial position
generally results when the taxpayer enters into a forward
contact to deliver the same or substantially identical
property. A forward contract for this purpose is defined as a
contract that provides for delivery of a substantially fixed
amount of property at a substantially fixed price.
Explanation of Provision
The provision clarifies that the definition of a forward
contract includes a contract that provides for cash settlement
with respect to a substantially fixed amount of property at a
substantially fixed price.
Effective Date
The provision is generally effective for constructive sales
entered into after June 8, 1997.
3. Treatment of mark-to-market gains of electing traders (sec.
6010(a)(3) of the bill, sec. 1001(b) of the 1997 Act, and sec.
475(f)(1)(D) of the Code)
Present Law
Securities and commodities traders may elect application of
the mark-to-market accounting rules. Gain or loss recognized by
an electing taxpayer under these rules is treated as ordinary
gain or loss.
Under the Self-Employment Contributions Act (``SECA''), a
tax is imposed on an individual's net earnings from self-
employment (``NESE''). Gain or loss from the sale or exchange
of a capital asset is excluded from NESE.
A publicly-traded partnership generally is treated as a
corporation for Federal tax purposes. An exception to this rule
applies if 90 percent or more of the partnership's gross income
consists of passive-type income, which includes gain from the
sale or disposition of a capital asset.
Explanation of Provision
The provision clarifies that gain or loss of a securities
or commodities trader that is treated as ordinary solely by
reason of election of mark-to-market treatment is not treated
as other than gain or loss from a capital asset for purposes of
determining NESE for SECA tax purposes, determining whether the
passive-type income exception to the publicly-traded
partnership rules is met or for purposes of any other Code
provision specified by the Treasury Department in regulations.
Effective Date
The provision applies to taxable years of electing
securities and commodities traders ending after the date of
enactment of the 1997 Act.
4. Special effective date for constructive sale rules (sec. 6010(a)(4)
of the bill, sec. 1001(d) of the 1997 Act, and sec. 1259 of the
Code)
Present Law
The constructive sales rules contain a special effective
date provision for decedents dying after June 8, 1997, if (1) a
constructive sale of an appreciated financial position occurred
before such date, (2) the transaction remains open for not less
than two years, (3) the transactionremains open at any time
during the three years prior to the decedent's death, and (4) the
transaction is not closed within the 30-day period beginning on the
date of enactment of the 1997 Act. If the requirements of the special
effective date provision are met, both the appreciated financial
position and the transaction resulting in the constructive sale are
generally treated as property constituting rights to receive income in
respect of a decedent under section 691. However, gain with respect to
a position in a constructive sale transaction that accrues after the
transaction is closed is not included in income in respect of a
decedent.
Explanation of Provision
The provision clarifies the special effective date rule to
provide that the rule does not apply if the constructive sale
transaction is closed at any time prior to the end of the 30th
day after the date of enactment of the 1997 Act.
Effective Date
The provision is effective for decedents dying after June
8, 1997.
5. Gain recognition for certain extraordinary dividends (sec. 6010(b)
of the bill, sec. 1011 of the 1997 Act, and sec. 1059 of the
Code)
Present Law
A corporate shareholder generally can deduct at least 70
percent of a dividend received from another corporation. This
dividends received deduction is 80 percent if the corporate
shareholder owns at least 20 percent of the distributing
corporation and generally 100 percent if the shareholder owns
at least 80 percent of the distributing corporation.
Section 1059 of the Code requires a corporate shareholder
that receives an ``extraordinary dividend'' to reduce the basis
of the stock with respect to which the dividend was received by
the nontaxed portion of the dividend. Whether a dividend is
``extraordinary'' is determined, among other things, by
reference to the size of the dividend in relation to the
adjusted basis of the shareholder's stock. In addition,
dividends resulting from non pro rata redemptions, partial
liquidations, and certain other redemptions are extraordinary
dividends. Pursuant to a provision of the 1997 Act, gain is
recognized to the extent the reduction in basis of stock
exceeds the basis in the stock with respect to which an
extraordinary dividend is received. Prior to the 1997 Act, the
recognition of such gain generally was deferred until the stock
to which the adjustment related was sold or disposed of.
The consolidated return regulations provide basis
adjustment rules with respect to dividends paid within a
consolidated group of corporations. These rules provide that a
dividend paid from one member of a group to its parent reduces
the parent's basis in the stock of the payor and if such
reduction exceeds the parent's basis, an ``excess loss
account'' is created or increased. Excess loss accounts
generally are not restored to income until the occurrence of
certain specified events (e.g., when the corporation to which
the excess loss account relates leaves the consolidated group).
Legislative history indicates that, except as provided in
regulations, the extraordinary dividend provisions do not apply
to result in a double reduction in basis in the case of
distributions between members of an affiliated group filing
consolidated returns or in the double inclusion of earnings and
profits.
Explanation of Provision
The provision provides the Treasury Department regulatory
authority to coordinate the basis adjustment rules of section
1059 and the consolidated return regulations. It is expected
that these rules generally would provide that, except as
provided in regulations to be issued,72 section 1059
will not cause current gain recognition to the extent that the
consolidated return regulations require the creation or
increase of an excess loss account with respect to a
distribution.
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\72\ Thus, current Treas. reg. sec. 1.1059(e)-1(a) will not result
in gain recognition with respect to distributions within a consolidated
group to the extent such distribution results in the creation or
increase of an excess loss account under the consolidated return
regulations.
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Effective Date
The provision generally is effective for distributions
after May 3, 1995.
6. Treatment of certain corporate distributions (sec. 6010(c) of the
bill, sec. 1012 of the 1997 Act, and secs. 355(e)(3)(A)(iv) and
358(c) of the Code)
Present Law
The 1997 Act (sec. 1012(a)) requires a distributing
corporation (``distributing'') to recognize corporate level
gain on the distribution of stock of a controlled corporation
(``controlled'') under section 355 of the Code if, pursuant to
a plan or series of related transactions, one or more persons
acquire a 50-percent or greater interest (defined as 50 percent
or more of the voting power or value of the stock) of either
the distributing or controlled corporation (Code sec. 355(e)).
Certain transactions are excepted from the definition of
acquisition for this purpose, including, under section
355(e)(3)(A)(iv), the acquisition by a person of stock in a
corporation if shareholders owning directly or indirectly stock
possessing more than 50 percent of the voting power and more
than 50 percent of the value of the stock in distributing or
any controlled corporation before such acquisition own directly
or indirectly stock possessing such vote and value in such
distributing or controlled corporation after such
acquisition.73
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\73\ This exception (as certain other exceptions) does not apply if
the stock held before the acquisition was acquired pursuant to a plan
(or series of related transactions) to acquire a 50-percent or greater
interest in the distributing or a controlled corporation.
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In the case of a 50-percent or more acquisition of either
the distributing corporation or the controlled corporation, the
amount of gain recognized is the amount that the distributing
corporation would have recognized had the stock of the
controlled corporation been sold for fair market value on the
date of the distribution. The Conference Report to the 1997 Act
states that no adjustment to the basis of the stock or assets
of either corporation is allowed by reason of the recognition
of the gain.74
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\74\ The 1997 Act does not limit the otherwise applicable Treasury
regulatory authority under section 336(e) of the Code. Nor does it
limit the otherwise applicable provisions of section 1367 with respect
to the effect on shareholder stock basis of gain recognized by an S
corporation under this provision.
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The 1997 Act (sec. 1012(b)(1)) also provides that, except
as provided in regulations, section 355 shall not apply to the
distribution of stock from one member of an affiliated group of
corporations (as defined in section 1504(a)) to another member
of such group (an intragroup spin-off) if such distribution is
part of such a plan or series of related transactions pursuant
to which one or more persons acquire stock representing a 50-
percent or greater interest in a distributing or controlled
corporation, determined after the application of the rules of
section 355(e).
In addition, the 1997 Act (sec. 1012(b)(2)) provides that
in the case of any distribution of stock of one member of an
affiliated group of corporations to another member under
section 355, the Treasury Department has regulatory authority
under section 358(g) to provide adjustments to the basis of any
stock in a corporation which is a member of such group, to
reflect appropriately the proper treatment of such
distribution.
The 1997 Act (sec. 1012(c)) also modified certain rules for
determining control immediately after a distribution in the
case of certain divisive transactions in which a controlled
corporation is distributed and the transaction meets the
requirements of section 355. In such cases, under section 351
and modified section 368(a)(2)(H) with respect to
reorganizations under section 368(a)(1)(D), those shareholders
receiving stock in the distributed corporation are treated as
in control of the distributed corporation immediately after the
distribution if they hold stock representing a greater than 50
percent interest in the vote and value of stock of the
distributed corporation.
The effective date (Act section 1012(d)(1)) states that the
forgoing provisions of the 1997 Act apply to distributions
after April 16, 1997, pursuant to a plan (or series of related
transactions) which involves an acquisition occurring after
such date (unless certain transition provisions apply).
Explanation of Provision
Acquisition of a 50-percent or greater interest
The bill clarifies that the acquisitions described in Code
section 355(e)(3)(A) are disregarded in determining whether
there has been an acquisition of a 50-percent or greater
interest in a corporation. However, other transactions that are
part of a plan or series of related transactions could result
in an acquisition of a 50-percent or greater interest.
In the case of acquisitions under section 355(e)(3)(A)(iv),
the provision clarifies that the acquisition of stock in the
distributing corporation or any controlled corporation is
disregarded to the extent that the percentage of stock owned
directly or indirectly in such corporation by each person
owning stock in such corporation immediately before the
acquisition does not decrease.
Example: Shareholder A owns 10 percent of the vote and
value of the stock of corporation D (which owns all of
corporation C). There are nine other equal shareholders of D. A
also owns 100 percent of the vote and value of the stock of
unrelated corporation P. D distributes C to all the
shareholders of D. Thereafter, pursuant to a plan or series of
related transactions, D (worth 100x) merges with corporation P
(worth 900x). After the merger, each of the former shareholders
of corporation D owns stock of the merged entity reflecting the
vote and value attributable to that shareholder's respective 10
percent former stock ownership of D. Each of the former
shareholders of D owns 1 percent of the stock of the merged
corporation, except that shareholder A (who owned 100 percent
of corporation P and 10 percent of corporation D before the
merger) now owns 91 percent of the stock of the merged
corporation. In determining whether a 50-percent or greater
interest in D has been acquired, the interest of each of the
continuing shareholders is disregarded only to the extent there
has been no decrease in such shareholder's direct or indirect
ownership. Thus, the 10 percent interest of A, and the 1
percent interest of each of the nine other former shareholders
of D, is not counted. The remaining 81 percent ownership of the
merged corporation, representing a decrease of nine percent in
the interests of each of the nine former shareholders other
than A, is counted in determining the extent of an acquisition.
Therefore, a 50-percent or greater interest in D has been
acquired.
Treasury regulatory authority
The bill also clarifies that the regulatory authority of
the Treasury Department under section 358(c) applies to
distributions after April 16, 1997, without regard to whether a
distribution involves a plan (or series of related
transactions) which involves an acquisition.
As stated in the Conference Report to the 1997 Act, with
respect to the Treasury Department regulatory authority under
section 358(c) as applied to intragroup spin-off transactions
that are not part of a plan or series of related transactions
that involve an acquisition of a 50-percent or greater interest
under new section 355(f), it is expected that any Treasury
regulations will be applied prospectively, except in cases to
prevent abuse.
Section 351(c) and section 368(a)(2)(H) ``control immediately after''
requirement
In general, the 1997 Act modifications to the control
immediately after requirement of Section 351(c) and section
368(a)(2)(H) were intended to minimize certain differences in
the results of a transaction involving a contribution of assets
to controlled corporation prior to asection 355 spin-off that
could occur depending on whether the distributing or controlled
corporation were acquired subsequent to the spin-off.
The bill clarifies that in the case of certain divisive
transactions in which a corporation contributes assets to a
controlled corporation and then distributes the stock of the
controlled corporation in a transaction that meets the
requirements of section 355 (or so much of section 356 as
relates to section 355), solely for purposes of determining the
tax treatment of the transfers of property to the controlled
corporation by the distributing corporation, the fact that the
shareholders of the distributing corporation dispose of part or
all of the distributed stock shall not be taken into account
for purposes of the control immediately after requirement of
section 351(a) or 368(a)(1)(D). For purposes of determining the
tax treatment of transfers of property to the controlled
corporation by parties other than the distributing corporation,
the disposition of part or all of the distributed stock
continues to be taken into account, as under prior law, in
determining whether the control immediately after requirement
is satisfied.
Example 1: Distributing corporation D transfers appreciated
business X to subsidiary C in exchange for 100 percent of C
stock. D distributes its stock of C to D shareholders. As part
of a plan or series of related transactions, C merges into
unrelated acquiring corporation A, and the C shareholders
receive 25 percent of the vote or value of A stock. If the
requirements of section 355 are met with respect to the
distribution, then the control immediately after requirement
will be satisfied solely for purposes of determining the tax
treatment of the transfers of property by D to C. Accordingly,
the business X assets transferred to C and held by A after the
merger will have a carryover basis from D. Section 355(e) will
require D to recognize gain as if the C stock had been sold at
fair market value.
Example 2: Distributing corporation D transfers appreciated
business X to subsidiary C in exchange for 85 percent of C
stock. Unrelated persons transfer appreciated assets to C in
exchange for the remaining 15 percent of C stock. D distributes
all its stock of C to D shareholders. As part of a plan or
series of related transactions, C merges into acquiring
corporation A; and the interests attributable to the D
shareholders' receipt of C stock with respect to their D stock
in the distribution represent 25 percent of the vote and value
of A stock. If the requirements of section 355 are met with
respect to the distribution, then the control immediately after
requirement will be satisfied solely for purposes of
determining the tax treatment of the transfers of property by D
to C. Section 355(e) will require recognition of gain as if the
C stock had been sold for fair market value. The business X
assets transferred to C and held by A after the merger will
have a carryover basis from D. The persons other than D who
transferred assets to C for 15 percent of C stock will
recognize gain on the appreciation in their assets transferred
to C if the control immediately after requirement is not
satisfied after taking into account any post-spin-off
dispositions that would have been taken into account under
prior law.
Example 3: The facts are the same as in example 2, except
that the interests attributable to the D shareholders' receipt
of C stock with respect to their D stock in the distribution
represent 55 percent of the vote and value of A stock in the
merger. If the requirements of section 355 are met with respect
to the distribution, then the control immediately after
requirement will be satisfied solely for purposes of
determining the tax treatment of the transfers by D to C. The
business X assets in C (and in A after the merger) will
therefore have a carryover basis from D. Because the D
shareholders retain more than 50 percent of the stock of A,
section 355(e) will not apply. The persons other than D who
transferred property for the 15 percent of C stock will
recognize gain on the appreciation in their assets transferred
to C if the control immediately after requirement is not
satisfied after taking into account any post-spin-off
dispositions that would have been taken into account under
prior law.
Effective Date
The provision generally is effective for distributions
after April 16, 1997.
7. Certain preferred stock treated as ``boot''--statute of limitations
(sec. 6010(e)(2) of the bill, sec. 1014 of the 1997 Act, and
sec. 354(a) of the Code)
Present law
Under the 1997 Act, certain preferred stock received in
otherwise tax-free transactions is treated as ``other
property.'' Exchanges of stock in certain recapitalizations of
family-owned corporations are excepted from this rule. A
family-owned corporation is defined as any corporation if at
least 50 percent of the total voting power and value of the
stock of such corporation is owned by the same family for five
years preceding the recapitalization. In addition, a
recapitalization does not qualify for the exception if the same
family does not own 50 percent of the total voting power and
value of the stock throughout the three-year period following
the recapitalization.
Explanation of Provision
The bill provides that the statutory period for the
assessment of any deficiency attributable to a corporation
failing to be a family-owned corporation shall not expire
before the expiration of three years after the date the
Secretary of the Treasury is notified by the corporation (in
such manner as the Secretary may prescribe) of such failure,
and such deficiency may be assessed before the expiration of
such three-year period notwithstanding the provisions of any
other law or rule of law which would otherwise prevent such
assessment.
Effective Date
The provision applies to transactions after June 8, 1997.
8. Certain preferred stock treated as ``boot''--treatment of transferor
(sec. 6010(e)(1) of the bill, sec. 1014 of the 1997 Act, and
sec. 351(g) of the Code)
Present Law
The 1997 Act amended section 351 of the Code to provide
that in the case of a person who transfers property to a
controlled corporation and receives nonqualified preferred
stock, section 351(b) will apply to such person. Section 351(b)
provides that if section 351(a) of the Code would apply to an
exchange but for the fact that there is received, in addition
to stock permitted to be received under section 351(a), other
property or money, then gain but no loss to such recipient
shall be recognized. The Conference Report to the 1997 Act
states that if nonqualified preferred stock is received, gain
but not loss shall be recognized.
Explanation of Provision
The bill clarifies that section 351(b) applies to a
transferor who transfers property in a section 351 exchange and
receives nonqualified preferred stock in addition to stock that
is not treated as ``other property'' under that section. Thus,
if a transferor received only nonqualified preferred stock but
the transaction in the aggregate otherwise qualified as a
section 351 exchange, such a transferor would recognize loss
and the basis of the nonqualified preferred stock and of the
property in the hands of the transferee corporation would
reflect the transaction in the same manner as if that
particular transferor had received solely ``other property'' of
any other type. As under the 1997 Act, the nonqualified
preferred stock continues to be treated as stock received by a
transferor for purposes of qualification of a transaction under
section 351(a), unless and until regulations may provide
otherwise.
Effective Date
The provision applies to transactions after June 8, 1997.
9. Application of section 304 to certain international transactions
(sec. 6010(d) of the bill, sec. 1013 of the 1997 Act, and sec.
304 of the Code)
Present Law
Under section 304, if one corporation purchases stock of a
related corporation, the transaction generally is
recharacterized as a redemption. Under section 304(a), as
amended by the 1997 Act, to the extent that a section 304
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 involved in the
transaction 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
redeemed the stock it is treated as having issued. In the case
of a section 304 transaction, both the amount which is a
dividend and the source of such dividend is determined as if
the property were distributed by the acquiring corporation to
the extent of its earnings and profits and then by the issuing
corporation to the extent of its earnings and profits (sec.
304(b)(2)). Section 304(b)(5), as added by the 1997 Act,
provides special rules that apply if the acquiring corporation
in a section 304 transaction is a foreign corporation. Under
section 304(b)(5), the earnings and profits of the acquiring
corporation that are taken into account are limited to the
portion of such earnings and profits that (1) is attributable
to stock of such acquiring corporation held by a corporation or
individual who is the transferor (or a person related thereto)
and who is a U.S. shareholder (within the meaning of section
951(b)) of such corporation and (2) was accumulated during
periods in which such stock was owned by such person while such
acquiring corporation was a controlled foreign corporation. For
purposes of this rule, except as otherwise provided by the
Secretary of the Treasury, the rules of section 1248(d)
(relating to certain exclusions from earnings and profits)
apply. The Secretary is to prescribe regulations as
appropriate, including regulations determining the earnings and
profits that are attributable to particular stock of the
acquiring corporation.
For foreign tax credit purposes, under section 902, a U.S.
corporation that receives a dividend from a foreign corporation
in which it owns at least 10 percent of the voting stock is
treated as if it had paid the foreign income taxes paid by the
foreign corporation which are attributable to such dividend.
The Internal Revenue Service issued rulings providing that a
domestic corporation that is a transferor in a section 304
transaction may compute foreign taxes deemed paid under section
902 on the dividends from both a foreign acquiring corporation
and a foreign issuing corporation. Rev. Rul. 92-86, 1992-2 C.B.
199; Rev. Rul. 91-5, 1991-1 C.B. 114. Both rulings involve
section 304 transactions in which both the domestic transferor
and the foreign acquiring corporation are wholly owned by a
domestic parent corporation.
Explanation of Provision
Under the provision, in the case of a section 304
transaction in which the acquiring corporation or the issuing
corporation is a foreign corporation, the Secretary of the
Treasury is to prescribe regulations providing rules to prevent
the multiple inclusion of an item of income and to provide
appropriate basis adjustments, including rules modifying the
application of sections 959 and 961 in the case of a section
304 transaction. It is expected that such regulations will
provide for an exclusion from income for distributions from
earnings and profits of the acquiring corporation and the
issuing corporation that represent previously taxed income
under subpart F. It further is expected that such regulations
will provide for appropriate adjustments to the basis of stock
held by the corporation treated as receiving the distribution
or by the corporation that had the prior inclusion with respect
to the previously taxed income. No inference is intended
regarding the treatment of previously taxed income in a section
304 transaction under present law. The 1997 Act amendments to
section 304, including the modifications under this provision,
are not intended to change the foreign tax credit results
reached in Rev. Rul. 92-86 and 91-5.
The provision also eliminates the cross-reference to the
rules of section 1248(d) for purposes of determining the
earnings and profits to be taken into account under section
304(b)(5).
Effective Date
The provision generally is effective for distributions or
acquisitions after June 8, 1997.
10. Establish IRS continuous levy and improve debt collection (sec.
6010(f) of the bill, secs. 1024, 1025, and 1026 of the 1997
Act, and secs. 6331 and 6334 of the Code)
Present Law
If any person is liable for any internal revenue tax and
does not pay it within 10 days after notice and demand by the
IRS, the IRS may then collect the tax by levy upon all property
and rights to property belonging to the person, unless there is
an explicit statutory restriction on doing so. A levy is the
seizure of the person's property or rights to property. A levy
on salary and wages is continuous from the date it is first
made until the date it is fully paid or becomes unenforceable.
The 1997 Act provides that a continuous levy is also
applicable to non-means tested recurring Federal payments and
specified wage replacement payments.
Explanation of Provision
The provision clarifies that the IRS must approve the use
of a continuous levy before it may take effect.
Effective Date
The provision is effective for levies issued after the date
of enactment of the 1997 Act (August 5, 1997).
11. Clarification regarding aviation gasoline excise tax (sec. 6010(g)
of the bill, sec. 1031 of the 1997 Act, and sec. 6421 of the
Code)
Present Law
Before enactment of the 1997 Act, aviation gasoline was
subject to a 19.3-cents-per-gallon tax rate, with 15 cents per
gallon being deposited in the Airport and Airway Trust Fund and
4.3 cents per gallon being retained in the General Fund. The
1997 Act extended the 15-cents-per-gallon rate for 10 years,
through September 30, 2007, and expanded deposits to the Trust
Fund to include revenues from the 4.3-cents-per-gallon rate.
The tax does not apply to fuel used in flight segments outside
the United States or to flight segments from the United States
to foreign countries.
Explanation of Provision
The bill clarifies the application of the gasoline tax
refund provisions to aviation gasoline used in flight segments
outside the United States and to flight segments from the
United States to foreign countries.
Effective Date
The provision is effective as if included in the 1997 Act.
12. Clarification of requirement that registered fuel terminals offer
dyed fuel (sec. 6010(h) of the bill, sec. 1032 of the 1997 Act
and sec. 4101 of the Code) 75
Present Law
The 1997 Act provides that fuel terminals are eligible to
register to handle non-tax-paid diesel fuel and kerosene only
if the terminal operator offers both undyed (taxable) and dyed
(nontaxable) fuel.
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\75\ S. 1173, as passed by the Senate, and H.R. 2400, as passed by
the House, would delay the effective date of this requirement for two
years, until July 1, 2000.
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Explanation of Provision
The bill clarifies that the Code requires terminals
eligible to handle non-tax-paid diesel to offer dyed diesel
fuel and terminals eligible to handle non-tax-paid kerosene
(including diesel fuel #1 and kerosene-type aviation fuel) to
offer dyed kerosene. The bill does not require that a terminal
offer for sale kerosene as a condition of receiving diesel fuel
on a non-tax-paid basis. Similarly, the proposal does not
require terminals that sell only kerosene to offer diesel fuel
as a condition of receiving non-tax-paid kerosene.
Effective Date
The provision is effective as if included in the 1997 Act.
13. Clarification of treatment of prepaid telephone cards (sec. 6010(i)
of the bill, sec. 1034 of the 1997 Act, and sec. 4251 of the
Code)
Present Law
A 3-percent excise tax is imposed on amounts paid for local
and toll (long-distance) telephone service and teletypewriter
exchange service. The tax is collected by the provider of the
service from the consumer. In the case of so-called ``prepaid
telephone cards'', the tax is treated as paid when the card is
transferred by any telecommunications carrier to any person who
is not a telecommunications carrier.
A ``prepaid telephone card'' is defined as any card or
other similar arrangement which permits its holder to obtain
communications services and pay for such services in advance.
Explanation of Provision
The bill inserts the word ``any'' prior to ``other similar
arrangement'' to clarify that payment to a telecommunications
carrier from a third party such as a joint venture credit card
company is treated as payment made by the holder of the credit
card to obtain communication services and the tax is treated as
paid in a manner similar to that applied to prepaid telephone
cards. The tax applies to payments if the rights to telephone
service for which payments are made can be used in whole or in
part for telephone service that, if purchased directly, would
be subject to the 3-percent excise tax on telephone service.
Also, the tax applies without regard to whether telephone
service ultimately is provided pursuant to the transferred
rights.
Effective Date
The provision is effective as if included in the 1997 Act.
14. Modify UBIT rules applicable to second-tier subsidiaries (sec.
6010(j) of the bill, sec. 1041 of the 1997 Act, and sec.
512(b)(13) of the Code)
Present Law
In general, interest, rents, royalties and annuities are
excluded from the unrelated business income (``UBI'') of tax-
exempt organizations. However, section 512(b)(13) treats
otherwise excluded rent, royalty, annuity, and interest income
as UBI if such income is received from a taxable or tax-exempt
subsidiary that is controlled by the parent tax-exempt
organization.
Under the provision, interest, rent, annuity, or royalty
payments made by a controlled entity to a tax-exempt
organization are subject to the unrelated business income tax
to the extent the payment reduces the net unrelated income (or
increases any net unrelated loss) of the controlled entity. In
this regard, section 512(b)(13)(B)(i)(I) cross references a
non-existent Code section.
The provision generally applies to taxable years beginning
after the date of enactment. However, the provision does not
apply to payments made during the first two taxable years
beginning on or after the date of enactment if such payments
are made pursuant to a binding written contract in effect as of
June 8, 1997, and at all times thereafter before such payment.
Explanation of Provision
The bill clarifies that rent, royalty, annuity, and
interest income that would otherwise be excluded from UBI is
included in UBI under section 512(b)(13) if such income is
received or accrued from a taxable or tax-exempt subsidiary
that is controlled by the parent tax-exempt organization. The
bill further clarifies that the provision does not apply to any
payment received or accrued during the first two taxable years
beginning on or after the date of enactment if such payment is
received or accrued pursuant to a binding written contract in
effect on June 8, 1997, and at all times thereafter before such
payment (but not pursuant to any contract provision that
permits optional accelerated payments).
Effective Date
The provision is effective as of August 5, 1997, the date
of enactment of the 1997 Act.
15. Application of foreign tax credit holding period rule to RICs (sec.
6010(k) of the bill, sec. 1053 of the 1997 Act, and secs. 853
and 901 of the Code)
Present Law
Section 901(k), as added by the 1997 Act, generally imposes
a holding period requirement for claiming foreign tax credits
with respect to dividends. Under section 901(k), foreign tax
credits with respect to a dividend from a foreign corporation
or a regulated investment company (a ``RIC'') are disallowed if
the shareholder has not held the stock for more than 15 days in
the case of common stock or more than 45 days in the case of
preferred stock. This disallowance applies both to foreign tax
credits for foreign withholding taxes that are paid on the
dividend where the dividend-paying stock is not held for the
required period and to indirect foreign tax credits for taxes
paid by a lower-tier foreign corporation or a RIC where any of
the stock in the required chain of ownership is not held for
the required period. Foreign taxes for which credits are
disallowed under section 901(k) may be deducted.
Under section 853, a RIC may elect to flow through to its
shareholders the foreign tax credits for foreign taxes paid by
the RIC. Under this election, the RIC is not entitled to a
deduction or credit for foreign taxes paid; the shareholders of
an electing RIC are treated as having paid their proportionate
shares of the foreign taxes paid by the RIC. Accordingly,
foreign tax credits are claimed at the shareholder level and
not at the RIC level.
Explanation of Provision
Under the provision, the flow-through election of section
853 does not apply to any foreign taxes paid by the RIC for
which a credit is disallowed under section 901(k) because the
RIC did not satisfy the applicable holding period. Accordingly,
such taxes are deductible at the RIC level. The election of
section 853 applies only to foreign taxes with respect to which
the RIC has satisfied any applicable holding period
requirement.
Effective Date
The provision is effective for dividends paid or accrued
more than 30 days after the date of enactment of the 1997 Act.
16. Clarification of provision expanding the limitations on
deductibility of premiums and interest with respect to life
insurance, endowment and annuity contracts (sec. 6010(o) of the
bill, sec. 1084 of the 1997 Act, and sec. 264 of the Code)
Present Law
Master contracts
The 1997 Act provided limitations on the deductibility of
interest and premiums with respect to life insurance, endowment
and annuity contracts. Under the pro rata interest disallowance
provision added by the Act, an exception is provided for any
policy or contract owned by an entity engaged in a trade or
business, covering an individual who is an employee, officer or
director of the trade or business at the time first covered.
The exception applies to any policy or contract owned by an
entity engaged in a trade or business, which covers one
individual who (at the time first insured under the policy or
contract) is (1) a 20-percent owner of the entity, or (2) an
individual (who is not a 20-percent owner) who is an officer,
director or employee of the trade or business. 76
The provision is silent as to the treatment of coverage of such
an individual under a master contract.
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\76\ The exception also applies in the case of a joint-life policy
or contract under which the sole insureds are a 20-percent owner and
the spouse of the 20-percent owner. A joint-life contract under which
the sole insureds are a 20-percent owner and his or her spouse is the
only type of policy or contract with more than one insured that comes
within the exception.
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Reporting
The provision does not apply to any policy or contract held
by a natural person; however, if a trade or business is
directly or indirectly the beneficiary under any policy or
contract, the policy or contract is treated as held by the
trade or business and not by a natural person. In addition, the
provision includes a reporting requirement. Specifically, the
provision provides that the Treasury Secretary shall require
such reporting from policyholders and issuers as is necessary
to carry out the rule applicable when the trade or business is
directly or indirectly the beneficiary under any policy or
contract held by a natural person. Any report required under
this reporting requirement is treated as a statement referred
to in Code section 6724(d)(1) (relating to information
returns). The provision does not specifically refer to Code
section 6724(d)(2) (relating to payee statements).
Additional covered lives
The 1997 Act provision limiting the deductibility of
certain interest and premiums is effective generally with
respect to contracts issued after June 8, 1997. To the extent
of additional covered lives under a contract after June 8,
1997, the contract is treated as a new contract.
Explanation of Provision
Master contracts
The technical correction clarifies that if coverage for
each insured individual under a master contract is treated as a
separate contract for purposes of sections 817(h), 7702, and
7702A of the Code, then coverage for each such insured
individual is treated as a separate contract, for purposes of
the exception to the pro rata interest disallowance rule for a
policy or contract covering an individual who is a 20-percent
owner, employee, officer or director of the trade or business
at the time first covered. A master contract does not include
any contract if the contract (or any insurance coverage
provided under the contract) is a group life insurance contract
within the meaning of Code section 848(e)(2). No inference is
intended that coverage provided under a master contract, for
each such insured individual, is not treated as a separate
contract for each such individual for other purposes under
present law.
Reporting
The technical correction clarifies that the required
reporting to the Treasury Secretary is an information return
(within meaning of sec. 6724(d)(1)), and any reporting required
to be made to any other person is a payee statement (within the
meaning of sec. 6724(d)(2)). Thus, the $50-per-report penalty
imposed under sections 6722 and 6723 of the Code for failure to
file or provide such an information return or payee statement
apply. It is clarified that the Treasury Secretary may require
reporting by the issuer or policyholder of any relevant
information either by regulations or by any other appropriate
guidance (including but not limited to publication of a form).
Additional covered lives
The technical correction clarifies that the treatment of
additional covered lives under the effective date of the 1997
Act provision applies only with respect to coverage provided
under a master contract, provided that coverage for each
insured individual is treated as a separate contract for
purposes of Code sections 817(h), 7702 and 7702A, and the
master contract or any coverage provided thereunder is not a
group life insurance contract within the meaning of Code
section 848(e)(2).
Effective Date
The provisions are effective as if included in the 1997
Act.
17. Clarification of allocation of basis of properties distributed to a
partner by a partnership (sec. 6010(m) of the bill, sec. 1061
of the 1997 Act, and sec. 732(c) of the Code)
Present Law
Present law, as amended by the 1997 Act, provides rules for
allocating basis to property in the hands of a partner that
receives a distribution from a partnership. Under these rules,
basis is first allocated to unrealized receivables and
inventory items in an amount equal to the partnership's
adjusted basis in each property. If the basis to be allocated
is less than the sum of the adjusted bases of the properties in
the hands of the partnership, then, to the extent a decrease is
required to make the total adjusted bases of the properties
equal the basis to be allocated, the decrease is allocated (as
described below) for adjustments that are decreases. To the
extent of any basis not allocated to inventory and unrealized
receivables under the above rules, basis is allocated to other
distributed properties, first to the extent of each distributed
property's adjusted basis to the partnership. Any remaining
basis adjustment, if an increase, is allocated among properties
with unrealized appreciation in proportion to their respective
amounts of unrealized appreciation (to the extent of each
property's appreciation), and then in proportion to their
respective fair market values. If the remaining basis
adjustment is a decrease, it is allocated among properties with
unrealized depreciation in proportion to their respective
amounts of unrealized depreciation (to the extent of each
property's depreciation), and then in proportion to their
respective adjusted bases (taking into account the adjustments
already made).
For purposes of these rules, ``unrealized receivables'' has
the meaning set forth in section 751(c) (as provided in sec.
732(c)(1)(A)(i)). Section 751(c) provides that the term
``unrealized receivables'' includes certain accrued but
unreported income. In addition, the last two sentences of
section 751(c) provide that for purposes of certain specified
partnership provisions (sections 731, 741 and 751), the term
``unrealized receivables'' includes certain property the sale
of which will give rise to ordinary income (for example,
depreciation recapture under sections 1245 or 1250), but only
to the extent of the amount that would be treated as ordinary
income on a sale of that property at fair market value.
Explanation of Provision
The technical correction clarifies that for purposes of the
allocation rules of section 732(c), ``unrealized receivables''
has the meaning in section 751(c) including the last two
sentences of section 751(c), relating to items of property that
give rise to ordinary income. Thus, in applying the allocation
rules of section 732(c) to property listed in the last two
sentences of section 751(c), such as property giving rise to
potential depreciation recapture, the amount of unrealized
appreciation in any such property does not include any amount
that would be treated as ordinary income if the property were
sold at fair market value, because such amount is treated as a
separate asset for purposes of the basis allocation
rules.77
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\77\ Treasury regulations under section 751(b) provide for a
similar bifurcation of assets among potential ordinary income amounts
and other amounts in applying the definition of ``unrealized
receivables'' for purposes of that section. Treas. Reg. 1.751-1(c)(4).
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For example, assume that a partnership has 3 partners, A, C
and D. The partnership has 6 assets. Three are capital assets
each with adjusted basis equal to fair market value of $20,000.
The other three are depreciable equipment each with adjusted
basis of $5,000 and fair market value of $30,000. Each of the
pieces of equipment would have $25,000 of depreciation
recapture if sold by the partnership for its $30,000 value. A
has a basis in its partnership interest of $60,000. Assume that
one of the capital assets and one of the pieces of equipment is
distributed to A in liquidation of its interest. A is treated
as receiving three assets: (1) depreciation recapture (an
unrealized receivable) with a basis to the partnership of zero
and a value of $25,000; (2) a piece of equipment with a basis
to the partnership of $5,000 and a value of $5,000 (its $30,000
value reduced by the $25,000 of depreciation recapture); and
(3) a capital asset with a basis to the partnership of $20,000
and a value of $20,000.
Under the provision, as clarified by the technical
correction, A's $60,000 basis in its partnership interest is
allocated as follows. First, basis is allocated to the
depreciation recapture, an unrealized receivable, in an amount
equal to the partnership's adjusted basis in it, or zero (sec.
732(c)(1)(A)(i)). Then basis is allocated to the extent of each
of the other distributed properties' adjusted basis to the
partnership, or $5,000 to the equipment (not including the
depreciation recapture), and $20,000 to the capital asset. A's
remaining $35,000 of basis is allocated next among properties
(other than inventory and unrealized receivables) with
unrealized appreciation, in proportion to their respective
amounts of unrealized appreciation (to the extent of each
property's appreciation), but neither of the distributed
properties to which basis may be allocated has unrealized
appreciation. Basis is then allocated then in proportion to the
properties' respective fair market values ($5,000 for the
equipment and $20,000 for the capital asset). Thus, of the
remaining $35,000, $7,000 is allocated to the equipment, so
that its total basis in the partner's hands is $12,000; and
$28,000 is allocated to the capital asset, so that its total
basis in the partner's hands is $48,000.
Effective Date
The provision is effective as if enacted with the 1997 Act.
18. Clarification to the definition of modified adjusted gross income
for purposes of the earned income credit phaseout (sec. 6010(p)
of the bill, sec. 1085(d) of the 1997 Act, and sec. 32(c) of
the Code)
Present Law
The earned income credit (``EIC'') is phased out above
certain income levels. For individuals with earned income (or
modified adjusted gross income (``modified AGI'), if greater)
in excess of the beginning of the phaseout range, the maximum
credit amount is reduced by the phaseout rate multiplied by the
amount of earned income (or modified AGI, if greater) in excess
of the beginning of the phaseout range. For individuals with
earned income (or modified AGI, if greater) in excess of the
end of the phaseout range, no credit is allowed. The definition
of modified AGI used for the phase out of the earned income
credit is the sum of: (1) AGI with certain losses disregarded,
and (2) certain nontaxable amounts not generally included in
AGI. The losses disregarded are: (1) net capital losses (if
greater than zero); (2) net losses from trustsand estates; (3)
net losses from nonbusiness rents and royalties; (4) 75 percent of the
net losses from business, computed separately with respect to sole
proprietorships (other than in farming), sole proprietorships in
farming, and other businesses.78 The nontaxable amounts
included in modified AGI which are generally not included in AGI are:
(1) tax-exempt interest; and (2) nontaxable distributions from
pensions, annuities, and individual retirement arrangements (but only
if not rolled over into similar vehicles during the applicable rollover
period).
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\78\ The 1997 Act increased the amount of net losses from
businesses, computed separately with respect to sole proprietorships
(other than farming), sole proprietorships in farming, and other
businesses disregarded from 50 percent to 75 percent.
---------------------------------------------------------------------------
Explanation of Provision
The bill clarifies that the two nontaxable amounts that are
added to adjusted gross income to compute modified AGI for
purposes of the EIC phaseout are additions to adjusted gross
income and not disregarded losses.
Effective Date
The provision is effective for taxable years beginning
after December 31, 1997.
J. Amendments to Title XI of the 1997 Act Relating to Foreign
Provisions
1. Application of attribution rules under PFIC provisions (sec.
6011(b)(2) of the bill, sec. 1121 of the 1997 Act, and sec.
1298 of the Code)
Present Law
Special attribution rules apply to the extent that the
effect is to treat stock of a passive foreign investment
company (``PFIC'') as owned by a U.S. person. In general, if 50
percent or more in value of the stock of a corporation is owned
(directly or indirectly) by or for any person, such person is
considered as owning a proportionate part of the stock owned
directly or indirectly by or for such corporation, determined
based on the person's proportionate interest in the value of
such corporation's stock. However, this 50-percent limitation
does not apply in the case of a corporation that is a PFIC.
Accordingly, a person that is a shareholder of a PFIC is
considered as owning a proportionate part of the stock owned
directly or indirectly by or for such PFIC, without regard to
whether such shareholder owns at least 50 percent of the PFIC's
stock by value.
A corporation is not treated as a PFIC with respect to a
shareholder during the qualified portion of the shareholder's
holding period for the stock of such corporation. The qualified
portion of the shareholder's holding period generally is the
portion of such period which is after the effective date of the
1997 Act and during which the shareholder is a United States
shareholder (as defined in sec. 951(b)) and the corporation is
a controlled foreign corporation.
If a corporation is not treated as a PFIC with respect to a
shareholder for the qualified portion of such shareholder's
holding period, it is unclear whether the attribution rules
that apply with respect to stock owned by or for such
corporation apply without regard to the requirement that the
shareholder own 50 percent or more of the corporation's stock.
Explanation of Provision
The provision clarifies that the attribution rules apply
without regard to the provision that treats a corporation as a
non-PFIC with respect to a shareholder for the qualified
portion of the shareholder's holding period. Accordingly, stock
owned directly or indirectly by or for a corporation that is
not treated as a PFIC for the qualified portion of the
shareholder's holding period nevertheless will be attributed to
such shareholder, regardless of the shareholder's ownership
percentage of such corporation.
Effective Date
The provision is effective for taxable years of U.S.
persons beginning after December 31, 1997 and taxable years of
foreign corporations ending with or within such taxable years
of U.S. persons.
2. Treatment of PFIC option holders (sec. 6011(b)(1) of the bill, sec.
1121 of the 1997 Act, and secs. 1297 and 1298 of the Code)
Present Law
Under the provisions of subpart F, a controlled foreign
corporation (a ``CFC'') is defined generally as any foreign
corporation if U.S. persons own more than 50 percent of the
corporation's stock (measured by vote or value), taking into
account only those U.S. persons that own at least 10 percent of
the stock (measured by vote only) (sec. 957). Stock ownership
includes not only stock owned directly, but also stock owned
indirectly through a foreign entity or constructively (sec.
958). Pursuant to the constructive ownership rules, a person
that has an option to acquire stock generally is treated as
owning such stock (secs. 958(b) and 318(a)(4)).
The U.S. 10-percent shareholders of a CFC are subject to
current U.S. tax on their pro rata shares of certain income of
the CFC and their pro rata shares of the CFC's earnings
invested in certain U.S. property (sec. 951). For purposes of
determining the U.S. shareholder's includible pro rata share of
the CFC's income and earnings, only stock held directly or
indirectly through a foreign entity (and not stock held
constructively) is taken into account (secs. 951(b) and
958(a)).
A foreign corporation is a passive foreign investment
company (a ``PFIC'') if it satisfies a passive income test or a
passive assets test for the taxable year (sec. 1297). A U.S.
shareholder of a PFIC generally is subject to U.S. tax, plus an
interest charge, on distributions from a PFIC and gain realized
upon a disposition of PFIC stock (sec. 1291). Alternatively,
the U.S. shareholder may elect either to be subject to current
U.S. tax on the shareholder's share of the PFIC's earnings or,
in the case of PFIC stock that is marketable, to mark to market
the PFIC stock (secs. 1293 and 1296). For purposes of the PFIC
provisions, constructive ownership rules apply (sec. 1298(a)).
Under these rules, an option to acquire stock is treated as
stock for purposes of applying the interest charge regime to a
disposition of such option, and the holding period for stock
acquired pursuant to the exercise of an option includes the
holding period for such option (sec. 1298(a)(4) and prop.
Treas. reg. secs. 1.1291-1(d) and (h)(3)).
A corporation that is a CFC is also a PFIC if it meets the
passive income test or the passive assets test. Under section
1297(e), as added by the 1997 Act, a corporation is not treated
as a PFIC with respect to a shareholder during the period after
December 31, 1997 in which the corporation is a CFC and the
shareholder is a U.S. shareholder (within the meaning of
section 951(b)) thereof. Under this rule eliminating the
overlap between the PFIC and CFC provisions, a shareholder that
is subject to the subpart F rules with respect to a corporation
is not also subject to the PFIC rules with respect to such
corporation.
Explanation of Provision
Under the provision, the elimination of the overlap between
the PFIC and the CFC provisions generally does not apply to a
U.S. person with respect to PFIC stock that such person is
treated as owning by reason of an option to acquire such stock.
Accordingly, for example, the PFIC rules continue to apply to a
U.S. person that holds only an option on stock of a corporation
that is a CFC because such person does not own stock of such
corporation directly or indirectly through a foreign entity and
therefore is not subject to the current inclusion rules of
subpart F with respect to such corporation. However, under the
provision, the elimination of the overlap will apply to a U.S.
person that holds an option on stock if such stock is held by a
person that is subject to the current inclusion rules of
subpart F with respect to such stock and is not a tax-exempt
person. Accordingly, an option holder is not subject to the
PFIC rules with respect to an option if the option is on stock
that is held by a non-tax-exempt person that is subject to the
current inclusion rules of subpart F with respect to such
stock.
Effective Date
The provision is effective for taxable years of U.S.
persons beginning after December 31, 1997 and taxable years of
foreign corporations ending with or within such taxable years
of U.S. persons.
3. Application of PFIC mark-to-market rules to RICs (sec. 6011(c)(3) of
the bill, sec. 1122 of the 1997 Act, and sec. 1296 of the Code)
Present Law
Under section 1296, as added by the 1997 Act, a shareholder
of a passive foreign investment company (a ``PFIC'') may make a
mark-to-market election with respect to the stock of the PFIC,
provided that such stock is marketable. Under this election,
the shareholder includes in income each year an amount equal to
the excess, if any, of the fair market value of the PFIC stock
as of the close of the taxable year over the shareholder's
adjusted basis in such stock. The shareholder is allowed a
deduction for the excess, if any, of the shareholder's adjusted
basis in the PFIC stock over its fair market value as of the
close of the taxable year, but only to the extent of any net
mark-to-market gains with respect to such stock included by the
shareholder under section 1296 for prior years.
The mark-to-market election of section 1296 is effective
for taxable years of U.S. persons beginning after December 31,
1997 and taxable years of foreign corporations ending with or
within such taxable years of U.S. persons. Prior to the
enactment of section 1296, a proposed Treasury regulation
provided for a mark-to-market election with respect to PFIC
stock held by certain regulated investment companies (``RICs'')
(prop. Treas. reg. sec. 1.1291-8). Under this mark-to-market
election, gains but not losses were recognized.
Section 1296(j) provides rules applicable in the case of a
shareholder that makes a mark-to-market election under section
1296 later than the beginning of the shareholder's holding
period for the PFIC stock. Special rules apply in the case of a
RIC that makes such a mark-to-market election under section
1296 with respect to PFIC stock that the RIC had previously
marked to market under the proposed Treasury regulation.
Explanation of Provision
Under the provision, for purposes of determining allowable
deductions for any excess of the shareholder's adjusted basis
in PFIC stock over the fair market value of the stock as of the
close of the taxable year, deductions are allowed to the extent
not only of prior mark-to-market inclusions under section 1296
but also of prior mark-to-market inclusions under the proposed
Treasury regulation applicable to a RIC that holds stock in a
PFIC.
Effective Date
The provision is effective for taxable years of U.S.
persons beginning after December 31, 1997 and taxable years of
foreign corporations ending with or within such taxable years
of U.S. persons.
4. Interaction between the PFIC provisions and other mark-to-market
rules (sec. 6011(c)(2) of the bill, sec. 1122 of the 1997 Act,
and secs. 1291 and 1296 of the Code)
Present Law
A U.S. shareholder of a passive foreign investment company
(a ``PFIC'') generally is subject to U.S. tax, plus an interest
charge, on distributions from a PFIC and gain realized upon a
disposition of PFIC stock (sec. 1291). As an alternative to
this interest charge regime, the U.S. shareholder may elect to
be subject to current U.S. tax on the shareholder's share of
the PFIC's earnings (sec. 1293). Section 1296, as added by the
1997 Act, provides another alternative available in the case of
a PFIC the stock of which is marketable; under section 1296, a
U.S. shareholder of a PFIC may make a mark-to-market election
with respect to the stock of the PFIC.
The interest charge regime generally does not apply to
distributions from, and dispositions of stock of, a PFIC for
which the U.S. shareholder has made either a mark-to-market
election under section 1296 or an election to include the
PFIC's earnings in income currently (sec. 1291(d)(1)). However,
special coordination rules provide for limited application of
the interest charge regime in the case of a U.S. shareholder
that makes a mark-to-market election under section 1296 later
than the beginning of the shareholder's holding period for the
PFIC stock (sec. 1296(j)).
Under section 475(a), a dealer in securities is required to
mark to market certain securities held by the dealer. Under
section 475(f), as added by the 1997 Act, a trader in
securities may elect to mark to market securities held in
connection with the person's trade or business as a trader in
securities. Other provisions similarly allow stock to be marked
to market (e.g., sec. 1092(b)(1) and temp. Treas. reg. Sec.
1.1092-4T).
Explanation of Provision
Under the provision, the interest charge regime generally
does not apply to distributions from, and dispositions of stock
of, a PFIC where the U.S. shareholder has marked to market such
stock under section 475 or any other provision (in the same
manner that such regime does not apply where the shareholder
has marked to market such stock under section 1296). In
addition, under the provision, coordination rules like those
provided in section 1296(j) apply in the case of a U.S.
shareholder that marks to market PFIC stock under section 475
or any other provision later than the beginning of the
shareholder's holding period for the PFIC stock.
Effective Date
The provision is effective for taxable years of U.S.
persons beginning after December 31, 1997 and taxable years of
foreign corporations ending with or within such taxable years
of U.S. persons. No inference is intended regarding the
treatment of PFIC stock that was marked to market prior to the
effective date of the provision.
K. Amendments to Title XII of the 1997 Act Relating to Simplification
Provisions
1. Travel expenses of Federal employees participating in a Federal
criminal investigation (sec. 6012(a) of the bill, sec. 1204 of
the 1997 Act, and sec. 162 of the Code)
Present Law
Unreimbursed ordinary and necessary travel expenses paid or
incurred by an individual in connection with temporary
employment away from home (e.g., transportation costs and the
cost of meals and lodging) are generally deductible, subject to
the two-percent floor on miscellaneous itemized deductions.
Travel expenses paid or incurred in connection with indefinite
employment away from home, however, are not deductible. A
taxpayer's employment away from home in a single location is
indefinite rather than temporary if it lasts for one year or
more; thus, no deduction is permitted for travel expenses paid
or incurred in connection with such employment (sec. 162(a)).
If a taxpayer's employment away from home in a single location
lasts for less than one year, whether such employment is
temporary or indefinite is determined on the basis of the facts
and circumstances.
The 1997 Act provided that the one-year limitation with
respect to deductibility of expenses while temporarily away
from home does not include any period during which a Federal
employee is certified by the Attorney General (or the Attorney
General's designee) as traveling on behalf of the Federal
Government in a temporary duty status to investigate or provide
support services to the investigation of a Federal crime. Thus,
expenses for these individuals during these periods are fully
deductible, regardless of the length of the period for which
certification is given (provided that the other requirements
for deductibility are satisfied).
Explanation of Provision
The provision clarifies that prosecuting a Federal crime or
providing support services to the prosecution of a Federal
crime is considered part of investigating a Federal crime.
Effective Date
The provision is effective for amounts paid or incurred
with respect to taxable years ending after the date of
enactment of the 1997 Act.
2. Effective date for provisions relating to electing large
partnerships, partnership returns required on magnetic media,
and treatment of partnership items of individual retirement
arrangements (sec. 6012(d) of the bill and sec. 1226 of the
1997 Act)
Present Law
Rules for simplified flowthrough and simplified audit
procedures for electing large partnerships, as well as a March
15 due date for furnishing information to partners of an
electing large partnership, were added to present law by the
1997 Act. The 1997 Act also added a rule providing that
partnership returns are required on magnetic media, and
modified the treatment of partnership items of individual
retirement arrangements. The 1997 Act statement of managers
provided that these provisions apply to partnership taxable
years beginning after December 31, 1997. The statute provided
that the rules for simplified flowthrough for electing large
partnerships apply to partnership taxable years beginning after
December 31, 1997 (Act sec. 1221(c)), although the statute also
provided that all the provisions apply to partnership taxable
years ending on or after December 31, 1997 (Act sec. 1226).
Explanation of Provision
The technical correction provides that these provisions
apply to partnership taxable years beginning after December 31,
1997.
Effective Date
The provision is effective as if enacted in the 1997 Act.
3. Modification of distribution rules for REITs (sec. 6012(f) of the
bill, sec. 1256 of the 1997 Act, and sec. 857 of the Code)
Present Law
In general, a real estate investment trust (``REIT'') is an
entity that receives most of its income from passive real
estate investments and meets certain other requirements. A REIT
receives conduit treatment (i.e., one level of tax) for income
distributed to its shareholders. A REIT generally must
distribute 95 percent of its earnings (sec. 857(a)(1)). An
entity loses its status as a REIT if it retains non-REIT
earnings and profits (sec. 857(a)(2)). A REIT simplification
provision in the 1997 Act provides that any distribution from a
REIT will be deemed to first come from the earliest earnings
and profits of the entity. As a result, in the case of a REIT
with accumulated REIT earnings and profits that inherits
subsequently earned non-REIT earnings and profits (e.g., by way
of merger with a C corporation), that the entity must
distribute both the accumulated REIT earnings and profits as
well as the inherited non-REIT earnings and profits under the
1997 Act provision in order to retain its REIT status.
Explanation of Provision
The provision amends the simplification provision to
provide that any distribution from a REIT will be deemed to
first come from earnings and profits that were generated when
the entity did not qualify as a REIT. The provision does not
change the requirement that a REIT must distribute 95 percent
of its REIT earnings, or any other requirement.
Effective Date
The provision is effective for taxable years beginning
after August 5, 1997.
L. Amendments to Title XIII of the 1997 Act Relating to Estate, Gift
and Trust Simplification
1. Clarification of treatment of revocable trusts for purposes of the
generation-skipping transfer tax (sec. 6013(a) of the bill,
sec. 1305 of the 1997 Act and secs. 2652 and 2654 of the Code)
Present Law
The 1997 Act provided an irrevocable election to treat a
qualified revocable trust as part of the decedent's estate for
Federal income tax purposes. For this purpose, a qualified
revocable trust is any trust (or portion thereof) which was
treated as owned by the decedent with respect to whom the
election is being made, by reason of a power in the grantor
(i.e., trusts that are treated as owned by the decedent solely
by reason of a power in a nonadverse party would not qualify).
A conforming change was also made to section 2652(b) for
generation-skipping transfer tax purposes.
Explanation of Provision
The provision clarifies that the election to treat a
qualified revocable trust as part of the decedent's estate
would apply for generation-skipping transfer tax purposes only
with respect to the application of section 2654(b) (describing
when a single trust may be treated as two or more trusts). The
election has no other effect for generation-skipping transfer
tax purposes.
Effective Date
The provision applies to decedents dying after the date of
enactment of the 1997 Act.
2. Provision of regulatory authority for simplified reporting of
funeral trusts terminated during the taxable year (sec. 6013(b)
of the bill, sec. 1309 of the 1997 Act and sec. 685(f) of the
Code)
Present Law
The 1997 Act provided an election which allows the trustee
of a qualified pre-need funeral trust to elect special tax
treatment for such a trust, to the extent the trust would
otherwise be treated as a grantor trust. As part of this
provision, the Secretary of the Treasury was granted regulatory
authority to prescribe rules for simplified reporting of all
trusts having a single trustee.
Explanation of Provision
The provision clarifies that a pre-need funeral trust may
continue to qualify for these special rules for the 60-day
period after the decedent's death, even though the trust ceases
to be a grantor trust during that time. In addition, the
provision extends the Secretary's regulatory authority to
include rules providing for the inclusion of trusts terminated
during the year (e.g., in the event of the death of the
beneficiary) in the simplified reporting.
Effective Date
The provision applies to decedents dying after the date of
enactment of the 1997 Act.
M. Amendment to Title XIV of the 1997 Act Relating to Excise Tax
Simplification
1. Clarify that the provision allowing wine imported in bulk to be
transferred to a U.S. winery without payment of tax (sec.
6014(a) of the bill, sec. 1422 of the 1997 Act, and sec. 5364
of the Code)
Present Law
Wine is subject to an excise tax ranging from $1.07 per
gallon to $3.40 per gallon, depending on its alcohol content.
Distilled spirits are subject to excise tax at a rate of $13.50
per proof gallon. A tax credit equal to the difference between
the distilled spirits tax rate and the wine tax rate is allowed
for wine that is blended into distilled spirits products (sec.
5010). The wine excise tax is imposed on removal of the
beverage from a winery, or on importation. The 1997 Act
included a provision allowing wine to be imported in bulk and
transferred to a U.S. winery without payment of tax (generally
until the wine is removed from the winery).
U.S. law defines wine generally as alcohol that is derived
from fruit or fruit residues (``natural wine''). Natural wine
may not be fortified with grain or other non-fruit derived
alcohol if produced in the U.S. Certain other countries allow
wine that is marketed as a natural wine to be fortified with
alcohol from other sources. U.S. law follows the laws of the
country of origin in classifying imported wine.
Explanation of Provision
The provision clarifies that the provision of the 1997 Act
liberalizing rules for bulk importation of wine applies only to
alcohol that would qualify as a natural wine if produced in the
United States.
Effective Date
The provision is effective as if included in the 1997 Act.
N. Amendment to Title XV of the 1997 Act Relating to Pensions and
Employee Benefits
1. Treatment of certain disability payments to public safety employees
(sec. 6015(c) of the bill, sec. 1529 of the 1997 Act, and sec.
104 of the Code)
Present Law
Under present law, certain payments made on behalf of full-
time employees of any police or fire department organized and
operated by a State (or any political subdivision, agency, or
instrumentality thereof) are excludable from income. This
treatment applies to payments made on account of heart disease
or hypertension of the employee and that were received in 1989,
1990, or 1991 pursuant to a State law as amended on May 19,
1992, which irrebuttably presumed that heart disease and
hypertension are work-related illnesses (but only for employees
separating from service before July 1, 1992). Claims for refund
or credit for overpayments resulting from the provision may be
filed up to 1 year after August 5, 1997, without regard to the
otherwise applicable statute of limitations.
Explanation of Provision
In order to address problems taxpayers are encountering
with the IRS in seeking refunds under the present-law
provision, the bill clarifies the scope of the provision.
The bill provides that payments made on account of heart
disease or hypertension of the employee and that were received
in 1989, 1990, or 1991 pursuant to a State law as described
under present law, or received by an individual referred to in
such State law under any other statute, ordinance, labor
agreement, or similar provision as a disability pension payment
or in the nature of a disability pension payment attributable
to employment as a police officer or as a fireman will be
excludable from income.
Effective Date
The provision is effective as if included in the Taxpayer
Relief Act.
O. Amendments to Title XVI of the 1997 Act Relating to Technical
Corrections
1. Application of requirements for SIMPLE IRAs in the case of mergers
and acquisitions (sec. 6016(a)(1) of the bill, sec. 1601(d)(1)
of the 1997 Act, and sec. 408(p)(2) of the Code)
Present Law
If an employer maintains a qualified plan and a SIMPLE IRA
in the same year due to an acquisition, disposition or similar
transaction the SIMPLE IRA is treated as a qualified salary
reduction arrangement for the year of the transaction and the
following calendar year provided rules similar to the special
coverage rules of section 410(b)(6)(C) apply. There is a
similar provision with respect to an employer who, because of
an acquisition, disposition or similar transaction, fails to be
an eligible employer because such employer employs more than
100 employees. In this situation, the employer is treated as an
eligible employer for two years following the transaction
provided rules similar to the coverage rules of section
410(b)(6)(C)(i) apply.
Explanation of Provision
The bill conforms the treatment applicable to SIMPLE IRAs
upon acquisition, disposition or similar transaction for
purposes of (1) the 100 employee limit, (2) the exclusive plan
requirement, and (3) the coverage rules for participation. In
the event of such a transaction, the employer will be treated
as an eligible employer and the arrangement will be treated as
a qualified salary reduction arrangement for the year of the
transaction and the two following years, provided rules similar
to the rules of section 410(b)(6)(C)(i)(II) are satisfied and
the arrangement would satisfy the requirements to be a
qualified salary reduction arrangement after the transaction if
the trade or business that maintained the arrangement prior to
the transaction had remained a separate employer.
Effective Date
The provision is effective as if included in the Small
Business Job Protection Act of 1996.
2. Treatment of Indian tribal governments under section 403(b) (sec.
6016(a)(2) of the bill, sec. 1601(d)(4)(A) of the 1997 Act, and
sec. 403(b) of the Code)
Present Law
Any 403(b) annuity contract purchased in a plan year
beginning before January 1, 1995, by an Indian tribal
government is treated as purchased by an entity permitted to
maintain a tax-sheltered annuity plan. Such contracts may be
rolled over into a section 401(k) plan maintained by the Indian
tribal government in accordance with the rollover rules of
section 403(b)(8). An employee participating in a 403(b)
annuity contract of the Indian tribal government may roll over
amounts from such contract to a section 401(k) plan maintained
by the Indian tribal government whether or not the annuity
contract is terminated.
Explanation of Provision
The bill clarifies that an employee participating in a
403(b)(7) custodial account of the Indian tribal government may
roll over amounts from such account to a section 401(k) plan
maintained by the Indian tribal government.
Effective Date
The provision is effective as if included in the Small
Business Job Protection Act of 1996.
Technical Corrections to Other Tax Legislation
A. Treatment of Adoption Tax Credit Carryovers (sec. 6017 of the bill,
sec. 1807(a) of the Small Business Job Protection Act of 1996, and sec.
23 of the Code)
Present Law
Under present law taxpayers are allowed a maximum
nonrefundable credit against income tax liability of $5,000 per
child for qualified adoption expenses paid or incurred by the
taxpayer. In the case of a special needs adoption, the maximum
credit amount is $6,000 ($5,000 in the case of a foreign
special needs adoption). To the extent the otherwise allowable
credit exceeds the tax liability limitation of section 26
(reduced by other personal credits) the excess is carried
forward as an adoption credit into the next taxable year, up to
a maximum of five taxable years.
The credit is phased out ratably for taxpayers with
modified adjusted gross income (AGI) above $75,000, and is
fully phased out at $115,000 of modified AGI. For these
purposes modified AGI is computed by increasing the taxpayer's
AGI by the amount otherwise excluded from gross income under
Code sections 911, 931, or 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).
Explanation of Provision
The bill clarifies that the AGI phaseout only applies in
the year that the credit is generated and is not reapplied to
further reduce any carryforward amounts.
Effective Date
The provision is effective as if included in the Small
Business Job Protection Act of 1996.
B. Disclosure Requirements for Apostolic Organizations (sec. 6018 of
the bill, sec. 1313 of the Taxpayer Bill of Rights 2, and sec. 6104 of
the Code)
Present Law
Section 501(d) provides tax-exempt status to certain
religious or apostolic associations or corporations, if such
associations or corporations have a common treasury or
community treasury, even if such associations or corporations
engage in business for the common benefit of the members, but
only if the members thereof include (at the time of filing
their returns) in their gross income their entire pro rata
shares, whether distributed or not, of the taxable income of
the association or corporation for such year.79 Any
amount so included in the gross income of a member is treated
as a dividend received. The effect of section 501(d) is to
exempt the religious and apostolic associations or corporations
which conduct communal activities (such as farming) from the
Federal corporate-level income tax and the undistributed-
profits tax, provided that members claim their shares of the
corporation's income on their own individual returns.
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\79\ Under section 501(d), the requirement of a ``common treasury''
or ``community treasury'' is satisfied when all of the income generated
from property owned by the organization is placed into a common fund
that is maintained by such organization and is used for the maintenance
and support of its members, with all members having equal, undivided
interests in this common fund, but no right to claim title to any part
thereof. See Twin Oaks Community, Inc. v. Commissioner, 87 T.C. 1233,
at 1254 (1986). See also Rev. Rul. 78-100, 1978-1 C.B. 162 (sec. 501(d)
entity must be supported by internally operated business activities
rather than merely being supported by wages of members who are engaged
in outside employment).
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Section 6033 generally requires tax-exempt organizations to
file annual information returns, and such information returns
are available for public inspection under sections 6104(b) and
6104(e), except that public disclosure is not required of the
identity of contributors to an organization. Section 501(d)
entities must include with their annual information return
(Form 1065) a Schedule K-1 that identifies the members of the
association or corporation and their ratable portions of net
income and expenses.
Explanation of Provision
The provision amends sections 6104(b) and 6104(e) to
provide that public disclosure is not required of a Schedule K-
1 filed by a religious or apostolic organization described in
section 501(d).
Effective Date
The provision is effective on the date of enactment.
C. Allow Deduction for Unused Employer Social Security Credit (sec.
6019 of the bill, sec. 13443 of the Omnibus Budget Reconciliation Act
of 1993, and sec. 196 of the Code)
Present Law
The general business credit (``GBC'') consists of various
individual tax credits (including the employer social security
credit of Code section 45B) allowed with respect to certain
qualified expenditures and activities. In general, the various
individual tax credits contain provisions that prohibit
``double benefits,'' either by denying deductions in the case
of expenditure-related credits or by requiring income
inclusions in the case of activity-related credits. Unused
credits may be carried back one year and carried forward 20
years. Section 196 allows a deduction to the extent that
certain portions of the GBC expire unused after the end of the
carry forward period. Section 196 does not allow a deduction to
the extent that the portion of the GBC that expires unused
after the end of the carry forward period relates to the
employer social security credit.
Explanation of Provision
The provision allows a deduction to the extent that the
portion of the GBC relating to the employer social security
credit expires unused after the end of the carry forward
period.
Effective Date
The provision is effective as if included in the Omnibus
Budget Reconciliation Act of 1993.
D. Earned Income Credit Qualification Rules (sec. 6020 of the bill,
sec. 11111(a) of the Omnibus Budget Reconciliation Act of 1990, as
amended by sec. 742 of the Uruguay Round Agreements Act and sec. 451(a)
of the Personal Responsibility and Work Opportunity Reconciliation Act
of 1996, and sec. 32 of the Code)
Present Law
In general
In order to claim the earned income credit (``EIC''), an
individual must be an eligible individual. To be an eligible
individual, an individual must include a taxpayer
identification number (``TIN'') for the taxpayer and the
taxpayer's spouse and must either have a qualifying child or
meet other requirements. In order to claim the EIC without a
qualifying child, an individual must not be a dependent and
must be over age 24 and under age 65.
Qualifying child
A qualifying child must meet a relationship test, an age
test, an identification test, and a residence test. Under the
relationship and age tests, an individual is eligible for the
EIC with respect to another person only if that other person:
(1) is a son, daughter, or adopted child (or a descendent of a
son, daughter, or adopted child); a stepson or stepdaughter; or
a foster child of the taxpayer (a foster child is defined as a
person whom the individual cares for as the individual's child;
it is not necessary to have a placement through a foster care
agency); and (2) is under the age of 19 at the close of the
taxable year (or is under the age of 24 at the end of the
taxable year and was a full-time student during the taxable
year), or is permanently and totally disabled. Also, if the
qualifying child is married at the close of the year, the
individual may claim the EIC for that child only if the
individual may also claim that child as a dependent.
To satisfy the identification test, an individual must
include on their tax return the name, age, and ``TIN'' of each
qualifying child.
The residence test requires that a qualifying child must
have the same principal place of abode as the taxpayer for more
than one-half of the taxable year (for the entire taxable year
in the case of a foster child), and that this principal place
of abode must be located in the United States. For purposes of
determining whether a qualifying child meets the residence
test, the principal place of abode shall be treated as in the
United States for any period during which a member of the Armed
Forces is stationed outside the United States while serving on
extended active duty.
Explanation of Provision
The bill clarifies that the identification requirement is a
requirement for claiming the EIC, rather than an element of the
definitions of ``eligible individual'' and ``qualifying
child.''
Effective Date
The provision is effective as if included in the originally
enacted related legislation.
III. BUDGET EFFECTS OF THE BILL
A. Committee Estimates
In compliance with paragraph 11(a) of Rule XXVI of the
Standing Rules of the Senate, the following table is presented
concerning the estimated budget effects of the bill as
reported.
B. Budget Authority and Tax Expenditures
Budget authority
In compliance with section 308(a)(1) of the Budget Act, the
Committee states that three provisions (expansion of authority
to award costs and certain fees at prevailing rate, civil
damages with respect to unauthorized collection actions,
elimination of interest rate differential on overlapping
periods of interest on income tax overpayments and
underpayments, and increase refund interest rate to
individuals) involve outlay effects (budget authority)
totalling $989 million for fiscal years 1998-2007.
Tax expenditures
In compliance with section 308(a)(2) of the Budget Act, the
Committee states that the bill does not involve changes in tax
expenditures.
C. Consultation with Congressional Budget Office
The statement from the Congressional Budget Office has not
been received at the time of filing of this report.
IV. VOTES OF THE COMMITTEE
In compliance with paragraph 7(b) of Rule XXVI of the
Standing Rules of the Senate, the following statements are made
concerning the roll call votes in the Committee's consideration
of H.R. 2676 on March 31, 1998.
Motion to report the bill
The bill (H.R. 2676) was ordered favorably reported, as
amended by the Chairman's amendment in the nature of a
substitute, by a roll call vote of 12 yeas and 0 nays (20-0,
including proxy votes). The vote, with a quorum present, was as
follows:
Yeas.--Senators Roth, Chafee (proxy), Grassley, Hatch
(proxy), D'Amato (proxy), Murkowski (proxy), Nickles, Gramm
(proxy), Lott (proxy), Jeffords (proxy), Mack, Moynihan,
Baucus, Rockefeller, Breaux, Conrad (proxy), Graham, Moseley-
Braun, Bryan, and Kerrey.
Nays.--None.
Votes on other amendments
(1) An amendment by Senator Grassley to add a
representative of the organization that represents a
substantial number of IRS employees to the IRS Oversight board
was approved by a roll call vote of 12 yeas and 8 nays. The
vote was as follows:
Yeas.--Senators Grassley, D'Amato, Jeffords, Moynihan,
Baucus, Rockefeller (proxy), Breaux, Conrad, Graham, Moseley-
Braun, Bryan, and Kerrey.
Nays.--Senators Roth, Chafee, Hatch (proxy), Murkowski,
Nickles, Gramm, Lott, and Mack.
(2) An amendment by Senator Moynihan to include the
Secretary of the Treasury on the IRS Oversight Board was
approved by a roll call vote of 12 yeas and 8 nays. The vote
was as follows:
Yeas.--Senators Chafee, D'Amato, Jeffords, Moynihan,
Baucus, Rockefeller (proxy), Breaux, Conrad, Graham, Moseley-
Braun, Bryan, and Kerrey.
Nays.--Senators Roth, Grassley, Hatch (proxy), Murkowski,
Nickles, Gramm, Lott, and Mack.
(3) An amendment by Senator D'Amato to guarantee coverage
of inpatient hospital care for breast cancer was defeated by a
roll call vote of 8 yeas and 10 nays. (The Chairman ruled this
amendment non-germane.) The vote was as follows:
Yeas.--Senators Grassley, D'Amato, Murkowski, Moynihan,
Breaux, Moseley-Braun, Bryan, and Kerrey.
Nays.--Senators Roth, Chafee, Nickles, Gramm, Lott,
Jeffords, Mack, Baucus, Conrad, and Graham.
(4) An amendment by Senator Kerrey to substitute the
language of the House-passed bill for the Chairman's Mark was
defeated by a roll call vote of 8 yeas and 12 nays. The vote
was as follows:
Yeas.--Senators Moynihan, Baucus, Rockefeller (proxy),
Breaux, Conrad, Moseley-Braun, Bryan, and Kerrey.
Nays.--Senators Roth, Chafee (proxy), Grassley, Hatch,
D'Amato (proxy), Murkowski, Nickles, Gramm, Lott (proxy),
Jeffords (proxy), Mack, and Graham.
(5) An amendment by Senator Grassley to authorize State tax
agencies to participate in the Federal program of refund
offsets was approved by a roll call vote of 14 yeas and 6 nays.
The vote was as follows:
Yeas.--Senators Chafee (proxy), Grassley, Hatch, D'Amato
(proxy), Jeffords (proxy), Moynihan, Baucus, Rockefeller
(proxy), Breaux, Conrad, Graham, Moseley-Braun, Bryan, and
Kerrey.
Nays.--Senators Roth, Murkowski, Nickles, Gramm, Lott
(proxy), and Mack.
(6) An amendment by Senator Conrad to strike the burden of
proof provision of the Chairman's Mark was defeated by a roll
call vote of 5 yeas and 15 nays. The vote was as follows:
Yeas.--Senators Moynihan, Baucus, Rockefeller (proxy),
Conrad, and Graham.
Nays.--Senators Roth, Chafee (proxy), Grassley, Hatch,
D'Amato (proxy), Murkowski (proxy), Nickles, Gramm, Lott
(proxy), Jeffords (proxy), Mack, Breaux, Moseley-Braun, Bryan,
and Kerrey.
(7) An amendment by Senators Graham and Moynihan to
implement a tobacco tax increase of 5 cents per pack of
cigarettes and accelerate a 15-cents-per-pack increase, and
also to reduce the period for collecting taxes from 10 to 6
years, increase the refund claim period from 3 to 6 years, and
to extend such periods to all taxes was defeated on a roll call
vote of 8 yeas and 12 nays. The vote was as follows:
Yeas.--Senators Moynihan, Baucus, Rockefeller, Conrad
(proxy), Graham, Moseley-Braun, Bryan, and Kerrey.
Nays.--Senators Roth, Chafee (proxy), Grassley, Hatch
(proxy), D'Amato (proxy), Murkowski (proxy), Nickles, Gramm
(proxy), Lott (proxy), Jeffords (proxy), Mack, and Breaux.
(8) An amendment by Senator Rockefeller to modify the
privilege of practitioner-client confidentiality provision in
the Chairman's Mark was defeated by a roll call vote of 3 yeas
and 17 nays. The vote was as follows:
Yeas.--Senators Moynihan, Baucus, and Rockefeller.
Nays.--Senators Roth, Chafee (proxy), Grassley, Hatch
(proxy), D'Amato (proxy), Murkowski (proxy), Nickles, Gramm
(proxy), Lott (proxy), Jeffords (proxy), Mack, Breaux, Conrad
(proxy), Graham, Moseley-Braun, Bryan, and Kerrey.
V. REGULATORY IMPACT AND OTHER MATTERS
A. Regulatory Impact
Pursuant to paragraph 11(b) of Rule XXVI of the Standing
Rules of the Senate, the Committee makes the following
statement concerning the regulatory impact that might be
incurred in carrying out the provisions of the bill as
reported.
Impact on individuals and businesses
The bill as reported makes numerous changes designed to
improve the management of the IRS, encourage electronic filing,
protect taxpayer rights, improve Congressional oversight of the
IRS, and provide necessary technical corrections to recent tax
legislation.
Title I of the bill provides for restructuring of the IRS
to improve management accountability and to improve taxpayer
service.
Title II encourages electronic filing of tax and
information returns, and requires a Treasury study of the
feasibility of a return-free system for individuals.
Title III provides for additional protection of taxpayer
rights, including relief for innocent spouses, and revises
certain interest and penalty provisions. Title III also
requires studies of the administration of penalties and
interest and confidentiality of tax return information.
Title IV requires annual IRS reports to the Congressional
tax committees on the sources of complexity in the Federal tax
laws, and for the Joint Committee on Taxation to provide a
``Tax Complexity Analysis'' on tax legislation that has
widespread applicability to individuals or small businesses.
Title V provides revenue offsets to the cost of the other
provisions of the bill: (1) revises the deduction for vacation
and severance pay (overruling Schmidt Baking); (2) modifies the
foreign tax credit carryover rules; (3) clarifies and expands
the mathematical error procedures; (4) freezes the
grandfathered status of stapled REITs; (5) makes certain trade
receivables ineligible for mark-to-market treatment; and (6)
adds vaccines against rotavirus gastroenteritis to the list of
taxable vaccines.
Title VI makes necessary technical corrections to the
Taxpayer Relief Act of 1997 and certain other recent tax
legislation.
Impact on personal privacy and paperwork
The provisions of the bill should not have any adverse
impact on personal privacy. The bill modifies Code section 6103
to allow the tax committees to obtain information from IRS
employees regarding IRS employee and taxpayer abuse.
B. Unfunded Mandates Statement
This information is provided in accordance with section 423
of the Unfunded Mandates Reform Act of 1995 (P.L. 104-4).
The Committee has reviewed the provisions of the bill as
reported. In accordance with the requirements of Public Law
104-4, the Committee has determined that the following
provisions of the bill contain Federal private sector mandates.
Repeal of Schmidt Baking with respect to the employer
deduction for vacation and severance pay (bill sec.
5001);
Modification of the foreign tax credit carryover
rules (bill sec. 5002);
Freezing of grandfathered status of stapled REITs
(bill sec. 5004);
Certain trade receivables made ineligible for mark-
to-market treatment (bill sec. 5005); and
Adding vaccines against rotavirus gastroenteritis to
the list of taxable vaccines (bill sec. 5006).
As indicated in the revenue table (III.A., above), these
provisions are estimated to increase tax revenues by $6,449
million in fiscal years 1998-2002 and $9,330 million in fiscal
years 1998-2007, which are no greater than the aggregate
estimated amounts that the private sector will be required to
pay in order to comply with the Federal private sector mandates
under the bill.
These provisions will not impose a Federal
intergovernmental mandate on State, local, or tribal
governments.
VI. CHANGES IN EXISTING LAW MADE BY THE BILL, AS REPORTED
In the opinion of the Committee, in order to expedite the
business of the Senate, it is necessary to dispense with the
requirements of the Senate of paragraph 12 of Rule XXVI of the
Standing Rules of the Senate (relating to the showing of
changes in existing law made by the bill as reported by the
Committee).