[House Report 108-126]
[From the U.S. Government Publishing Office]
108th Congress
1st Session HOUSE OF REPRESENTATIVES Report
108-126
_______________________________________________________________________
JOBS AND GROWTH TAX RELIEF RECONCILIATION ACT OF 2003
__________
CONFERENCE REPORT
TO ACCOMPANY
H.R. 2
May 22, 2003.--Ordered to be printed
C O N T E N T S
----------
Page
I. Acceleration of Certain Previously Enacted Tax Reductions.......19
A. Accelerate the Increase in the Child Tax Credit
(sec. 101 of the House bill, sec. 106 of the Senate
amendment, and sec. 240 of the Code)............... 19
B. Accelerate Marriage Penalty Relief (secs. 102 and
103 of the House bill, secs. 104 and 105 of the
Senate amendment and secs. 1 and 63 of the Code)... 21
1. Standard deduction marriage penalty relief...... 21
2. Accelerate the expansion of the 15-percent rate
bracket for married couples filing joint
returns........................................ 23
C. Accelerate Reductions in Individual Income Tax Rates
(secs. 101, 102 and 103 of the House bill, secs.
101, 102 and 103 of the Senate amendment, and secs.
1, and 55 of the Code)............................. 25
II. Depreciation and Expensing Provisions..........................30
A. Special Depreciation Allowance for Certain Property
(sec. 201 of the House bill and sec. 168 of the
Code).............................................. 30
B. Increase Section 179 Expensing (sec. 202 of the
House bill, sec. 107 of the Senate amendment, and
sec. 179 of the Code).............................. 34
C. Five-Year Carryback of Net Operating Losses (sec.
203 of the House bill and secs. 172 and 56 of the
Code).............................................. 35
III. Capital Gains and Dividends Provisions..........................37
A. Reduce Individual Capital Gains Rates (sec. 301 of
the House Bill and sec. 1(h) of the Code).......... 37
B. Treatment of Dividend Income of Individuals (sec.
302 of the House bill, sec. 201 of the Senate
amendment, and sec. 1(h) of the Code).............. 39
IV. Corporate Estimated Taxes.......................................43
A. Modification to Corporate Estimated Tax Requirements
(sec. 401 of the House bill)....................... 43
V. Revenue Provisions..............................................44
A. Provisions Designed To Curtail Tax Shelters......... 44
1. Clarification of the economic substance
doctrine (sec. 301 of the Senate amendment and
sec. 7701 of the Code)......................... 44
2. Penalty for failure to disclose reportable
transactions (sec. 302 of the Senate amendment
and sec. 6707A of the Code).................... 49
3. Modifications to the accuracy-related penalties
for listed transactions and reportable
transactions having a significant tax avoidance
purpose (sec. 303 of the Senate amendment and
sec. 6662A of the Code)........................ 52
4. Penalty for understatements from transactions
lacking economic substance (sec. 304 of the
Senate amendment and sec. 6662B of the Code)... 56
5. Modifications to the substantial understatement
penalty (sec. 305 of the Senate amendment and
sec. 6662 of the Code)......................... 58
6. Tax shelter exception to confidentiality
privileges relating to taxpayer communications
(sec. 306 of the Senate amendment and sec. 7525
of the Code)................................... 59
7. Disclosure of reportable transactions by
material advisors (secs. 307 and 308 of the
Senate amendment and secs. 6111 and 6707 of the
Code).......................................... 60
8. Investor lists and modification of penalty for
failure to maintain investor lists (secs. 307
and 309 of the Senate amendment and secs. 6112
and 6708 of the Code).......................... 63
9. Actions to enjoin conduct with respect to tax
shelters and reportable transactions (sec. 310
of the Senate amendment and sec. 7408 of the
Code).......................................... 65
10. Understatement of taxpayer's liability by
income tax return preparer (sec. 311 of the
Senate amendment and sec. 6694 of the Code).... 66
11. Penalty for failure to report interests in
foreign financial accounts (sec. 312 of the
Senate amendment and sec. 5321 of Title 31,
United States Code)............................ 66
12. Frivolous tax returns and submissions (sec. 313
of the Senate amendment and sec. 6702 of the
Code).......................................... 67
13. Penalties on promoters of tax shelters (sec.
314 of the Senate amendment and sec. 6700 of
the Code)...................................... 68
14. Extend statute of limitations for certain
undisclosed transactions (sec. 315 of the
Senate amendment and sec. 6501 of the Code).... 69
15. Deny deduction for interest paid to IRS on
underpayments involving certain tax-motivated
transactions (sec. 316 of the Senate amendment
and sec. 163 of the Code)...................... 70
B. Enron-Related Tax Shelter Related Provisions........ 71
1. Limitation on transfer and importation of
built-in losses (sec. 321 of the Senate
amendment and secs. 362 and 334 of the Code)... 71
2. No reduction of basis under section 734 in
stock held by partnership in corporate partner
(sec. 322 of the Senate amendment and sec. 755
of the Code)................................... 72
3. Repeal of special rules for FASITs (sec. 323 of
the Senate amendment and secs. 860H through
860L of the Code).............................. 74
4. Expanded disallowance of deduction for interest
on convertible debt (sec. 324 of the Senate
amendment and sec. 163 of the Code)............ 77
5. Expanded authority to disallow tax benefits
under section 269 (sec. 325 of the Senate
amendment and sec. 269 of the Code)............ 78
6. Modification of controlled foreign corporation--
passive foreign investment company coordination
rules (sec. 326 of the Senate amendment and
sec. 1297 of the Code)......................... 79
7. Modify treatment of closely-held REITs (sec. 327
of the Senate amendment and sec. 856 of the
Code).......................................... 82
C. Other Corporate Governance Provisions............... 83
1. Affirmation of consolidated return regulation
authority (sec. 331 of the Senate amendment and
sec. 1502 of the Code)......................... 83
2. Chief Executive Officer required to sign
corporate income tax returns (sec. 332 of the
Senate amendment and sec. 6062 of the Code).... 87
3. Denial of deduction for certain fines,
penalties, and other amounts (sec. 333 of the
Senate amendment and sec. 162 of the Code)..... 88
4. Denial of deduction for punitive damages (sec.
334 of the Senate amendment and sec. 162 of the
Code).......................................... 90
5. Criminal tax fraud (sec. 335 of the Senate
amendment and secs. 7201, 7203, and 7206 of the
Code).......................................... 90
6. Executive compensation reforms (sec. 336, 337
and 338 of the Senate amendment and sec. 83 and
new sec. 409A of the Code)..................... 92
7. Increase in withholding from supplemental wage
payments in excess of $1 million (sec. 339 of
the Senate amendment and sec. 13273 of the
Revenue Reconciliation Act of 1993)............ 98
D. International Provisions............................ 99
1. Impose mark-to-market on individuals who
expatriate (sec. 340 of the Senate amendment
and secs. 102, 877, 2107, 2501, 7701 and 6039G
of the Code)................................... 99
2. Provisions to discourage corporate expatriation
(secs. 341-343 of the Senate amendment and
secs. 845(a) and 275(a) and new secs. 7874 and
5000A of the Code)............................. 110
3. Doubling of certain penalties, fines, and
interest on underpayments related to certain
offshore financial arrangements (sec. 344 of
the Senate amendment).......................... 121
4. Effectively connected income to include certain
foreign source income (sec. 345 of the Senate
amendment and sec. 864 of the Code)............ 124
5. Determination of basis amounts paid from foreign
pension plans (sec. 346 of the Senate amendment
and sec. 72 of the Code)....................... 127
6. Recapture of overall foreign losses on sale of
controlled foreign corporation stock (sec. 347
of the Senate amendment and sec. 904 of the
Code).......................................... 128
7. Prevention of mismatching of interest and
original issue discount deductions and income
inclusions in transactions with related foreign
persons (sec. 348 of the Senate amendment and
secs. 163 and 267 of the Code)................. 130
8. Sale of gasoline and diesel fuel at duty-free
sales enterprises (sec. 349 of the Senate
amendment)..................................... 131
9. Repeal of earned income exclusion for citizens
or residents living abroad (sec. 350 of the
Senate amendment and sec. 911 of the Code)..... 132
E. Other Revenue Provisions............................ 133
1. Extension of IRS user fees (sec. 351 of the
Senate amendment and new sec. 7529 of the Code) 133
2. Add vaccines against hepatitis A to the list of
taxable vaccines (sec. 352 of the Senate
amendment and sec. 4132 of the Code)........... 133
3. Disallowance of certain partnership loss
transfers (sec. 353 of the Senate amendment and
secs. 704, 734, and 743 of the Code)........... 134
4. Treatment of stripped bonds to apply to
stripped interests in bond and preferred stock
funds (sec. 354 of the Senate amendment and
secs. 305 and 1286 of the Code)................ 137
5. Reporting of taxable mergers and acquisitions
(sec. 355 of the Senate amendment and new sec.
6043A of the Code)............................. 140
6 Minimum holding period for foreign tax credit
with respect to withholding taxes on income
other than dividends (sec. 356 of the Senate
amendment and sec. 901 of the Code)............ 141
7. Qualified tax collection contracts (sec. 357 of
the Senate amendment and new sec. 6306 of the
Code).......................................... 142
8. Extension of customs user fees (sec. 358 of the
Senate amendment).............................. 144
9. Modify qualification rules for tax-exempt
property and casualty insurance companies (sec.
359 of the Senate amendment and secs. 501 and
831 of the Code)............................... 145
10. Authorize IRS to enter into installment
agreements that provide for partial payment
(sec. 360 of the Senate amendment and sec. 6159
of the Code)................................... 146
11. Extend intangible amortization provisions to
sports franchises (sec. 361 of the Senate
amendment and sec. 197 of the Code)............ 147
12. Deposits made to suspend the running of
interest on potential underpayments (sec. 362
of the Senate amendment and new sec. 6603 of
the Code)...................................... 148
13. Clarification of rules for payment of estimated
tax for certain deemed asset sales (sec. 363 of
the Senate amendment and sec. 338 of the Code). 151
14. Limit deduction for charitable contributions of
patents and similar property (sec. 364 of the
Senate amendment and sec. 170 of the Code)..... 152
15. Extension of provision permitting qualified
transfers of excess pension assets to retiree
health accounts (sec. 365 of the Senate
amendment, sec. 420 of the Code, and secs. 101,
403, and 408 of ERISA)......................... 153
16. Proration rules for life insurance business of
property and casualty insurance companies (sec.
366 of the Senate amendment and sec. 832 of the
Code).......................................... 155
17. Modify treatment of transfers to creditors in
divisive reorganizations (sec. 367 of the
Senate amendment and secs. 357 and 361 of the
Code).......................................... 157
18. Taxation of minor children (sec. 368 of the
Senate amendment and sec. 1 of the Code)....... 158
19. Provide consistent amortization period for
intangibles (sec. 369 of the Senate amendment
and secs. 195, 248, and 709 of the Code)....... 161
20. Clarify definition of nonqualified preferred
stock (sec. 370 of the Senate amendment and
sec. 351 of the Code).......................... 162
21. Establish specific class lives for utility
grading costs (sec. 371 of the Senate amendment
and sec. 168 of the Code)...................... 163
22. Prohibition on nonrecognition of gain through
complete liquidation of holding company (sec.
372 of the Senate amendment and secs. 331 and
332 of the Code)............................... 164
23. Lease term to include certain service contracts
(sec. 373 of the Senate amendment and sec. 168
of the Code)................................... 166
24. Exclusion of like-kind exchange property from
nonrecognition treatment on the sale or
exchange of a principal residence (sec. 374 of
the Senate amendment and sec. 121 of the Code). 167
F. Other Provisions.................................... 167
1. Temporary State and local fiscal relief (sec.
381 of the Senate amendment)................... 167
2. Review of State agency blindness and disability
determinations (sec. 382 of the Senate
amendment)..................................... 168
3. Prohibition on use of SCHIP funds to provide
coverage for childless adults (sec. 383 of the
Senate amendment).............................. 169
4. Increase Medicaid payments to states with
extremely low disproportionate share hospitals
(sec. 384 of the Senate amendment)............. 169
VI. Small Business and Agricultural Provisions.....................170
A. Small Business Provisions........................... 170
1. Exclusion of certain indebtedness of small
business investment companies from acquisition
indebtedness (sec. 401 of the bill and sec. 514
of the Code)................................... 170
2. Repeal of occupational taxes relating to
distilled spirits, wine, and beer (sec. 402 of
the Senate amendment and secs. 5081, 5091,
5111, 5121, 5131, and 5276 of the Code)........ 171
3. Custom gunsmiths (sec. 403 of the Senate
amendment and sec. 4182 of the Code)........... 172
4. Simplification of excise tax imposed on bows and
arrows (sec. 404 of the Senate amendment and
sec. 4161 of the Code)......................... 172
B. Agricultural Provisions............................. 173
1. Capital gains treatment to apply to outright
sales of timber by landowner (sec. 411 of the
Senate Amendment and sec. 631 of the Code)..... 173
2. Special rules for livestock sold on account of
weather-related conditions (sec. 412 of the
Senate amendment and secs. 1033 and 451 of the
Code).......................................... 174
3. Exclusion from gross income for amounts paid
under National Health Service Corps loan
repayment program (sec. 413 of the Senate
amendment and sec. 108 of the Code)............ 175
4. Payment of dividends on stock of cooperatives
without reducing patronage dividends (sec. 414
of the Senate amendment and sec. 1388 of the
Code).......................................... 176
VII. Simplification and Other Provisions............................177
A. Establish Uniform Definition of a Qualifying Child
(secs. 501 through 508 of the Senate amendment and
secs. 2, 21, 24, 32, 151, and 152 of the Code)..... 177
B. Other Simplification Provisions..................... 187
1. Consolidation of life insurance and nonlife
companies (sec. 511 of the Senate amendment and
sec. 1504 of the Code)......................... 187
2. Suspension of reduction of deductions for mutual
life insurance companies and of policyholder
surplus accounts of life insurance companies
(sec. 512 of the Senate amendment and secs. 809
and 815 of the Code)........................... 188
3. Section 355 ``active business test'' applied to
chains of affiliated corporations (sec. 513 of
the Senate amendment and sec. 355 of the Code). 191
C. Other Provisions.................................... 192
1. Civil rights tax relief (sec. 521 of the Senate
amendment and sec. 62 of the Code)............. 192
2. Increase section 382 limitation for certain
corporations in bankruptcy (sec. 522 of the
Senate amendment and sec. 382 of the Code)..... 194
3. Increase in historic rehabilitation credit for
residential housing for the elderly (sec. 523
of the Senate amendment and sec. 47 of the
Code).......................................... 195
4. Modification of application of income forecast
method of depreciation (sec. 524 of the Senate
amendment and sec. 167 of the Code)............ 196
5. Additional advance refunding of certain
governmental bonds (sec. 525 of the Senate
amendment and sec. 149 of the Code)............ 198
6. Exclusion of income derived from certain wagers
on horse races from gross income of nonresident
alien individuals (sec. 526 of the Senate
amendment and sec. 872(b) of the Code)......... 199
7. Federal reimbursement of emergency health
services furnished to undocumented aliens (sec.
527 of the Senate amendment)................... 201
8. Treatment of premiums for mortgage insurance
(sec. 528 of the Senate amendment and sec. 163
of the Code)................................... 201
9. Sense of the Senate on repealing the 1993 tax
hike on Social Security Benefits (sec. 529 of
the Senate Amendment).......................... 202
10. Flat tax (sec. 530 of the Senate amendment).... 203
11. Temporary rate reduction for certain dividends
received from controlled foreign corporations
(sec. 531 of the Senate amendment and new sec.
965 of the Code)............................... 203
12. Repeal of ten-percent rehabilitation tax credit
(sec. 531 of the Senate amendment and section
47 of the Code)................................ 205
13. Income inclusion for certain delinquent child
support (sec. 532 of the Senate amendment and
sec. 166 of the Code).......................... 206
14. Sense of the Senate regarding the low-income
housing tax credit (sec. 533 of the Senate
amendment)..................................... 207
15. Expensing of investment in broadband equipment
(sec. 534 of the Senate amendment and new sec.
191 of the Code)............................... 207
16. Income tax credit for cost of carrying tax-paid
distilled spirits in wholesale inventories and
in control State bailment warehouses (sec. 535
of the Senate amendment and new sec. 5011 of
the Code)...................................... 209
17. Contribution in aid of construction (sec. 536
of the Senate amendment and sec. 118 of the
Code).......................................... 210
18. Travel expenses for spouses (sec. 537 of the
Senate amendment and sec. 274 of the Code)..... 211
19. Certain sightseeing flights exempt from taxes
on air transportation (sec. 538 of the Senate
amendment and sec. 4281 of the Code)........... 212
20. Required coverage for reconstructive surgery
following mastectomies (sec. 539 of the Senate
amendment and new sec. 9813 of the Code)....... 212
21. Renewal community modifications (secs. 540 and
541 of the Senate amendment and secs. 1400E and
1400H of the Code)............................. 215
22. Combat zone expansions (secs. 542 and 543 of
the Senate amendment and sec. 112 of the Code). 217
23. Ratable income inclusion for citrus canker tree
payments (sec. 544 of the Senate amendment and
sec. 451 and 1033 of the Code)................. 217
24. Exclusion of certain punitive damage awards
(sec. 545 of the Senate amendment and sec. 104
of the Code)................................... 219
25. Repeal of pre-1997 tax on certain imported
recycled halons (sec. 546 of the Senate
amendment and sec. 4682 of the Code)........... 219
26. Modification of involuntary conversion rules
for businesses affected by the September 11,
2001 terrorist attacks (sec. 547 of the Senate
amendment and sec. 1400L of the Code).......... 220
D. Medicare Provisions (secs. 561-576 of the Senate
amendment)......................................... 221
E. Provisions Relating to S Corporations (secs. 581-594
of the Senate amendment and sections 1361-1379 of
the Code).......................................... 225
1. Shareholders of an S corporation................ 225
2. Termination of election and additions to tax due
to passive investment income................... 226
3. Treatment of S corporation shareholders......... 226
4. Provisions relating to banks.................... 228
5. Qualified subchapter S subsidiaries............. 230
6. Elimination of all earnings and profits
attributable to pre-1983 years................. 231
VIII.Blue Ribbon Commission on Comprehensive Tax Reform (Secs. 601-607
of the Senate Amendment).......................................231
IX. REIT Provisions................................................233
A. REIT Modification Provisions (secs. 701-707 of the
Senate amendment and secs. 856 and 857 of the Code) 233
B. REIT Savings Provisions (sec. 711 of the Senate
amendment and secs. 856, 857 and 860 of the Code).. 242
X. Extension of Certain Expiring Provisions.......................244
A. Tax on Failure To Comply with Mental Health Parity
Requirements (sec. 801 of the Senate amendment and
sec. 9812 of the Code)............................. 244
B. Extend Alternative Minimum Tax Relief for
Individuals (sec. 802 of the Senate amendment and
sec. 26 of the Code)............................... 245
C. Extension of Electricity Production Credit for
Electricity Produced from Certain Renewable
Resources (sec. 803 of the Senate amendment and
sec. 45 of the Code................................ 246
D. Extend the Work Opportunity Tax Credit (sec. 804 of
the Senate amendment and sec. 51 of the Code)...... 247
E. Extend the Welfare-To-Work Tax Credit (sec. 805 of
the Senate amendment and sec. 51A of the Code)..... 248
F. Taxable Income Limit on Percentage Depletion for Oil
and Natural Gas Produced from Marginal Properties
(sec. 806 of the Senate amendment and sec. 613A of
the Code).......................................... 249
G. Qualified Zone Academy Bonds (sec. 807 of the Senate
amendment and sec. 1397E of the Code).............. 250
H. Cover Over of Tax on Distilled Spirits (sec. 808 of
the Senate amendment and sec. 7652(e) of the Code). 252
I. Extend Deduction for Corporate Donations of Computer
Technology (sec. 809 of the Senate amendment and
sec. 170 of the Code).............................. 252
J. Extension of Credit for Electric Vehicles (sec. 810
of the Senate amendment and sec. 30 of the Code)... 254
K. Extension of Deduction for Clean-Fuel Vehicles and
Clean-Fuel Vehicle Refueling Property (sec. 811 of
the Senate amendment and sec. 179A of the Code).... 254
L. Adjusted Gross Income Determined by Taking into
Account Certain Expenses of Elementary and
Secondary School Teachers (sec. 812 of the Senate
amendment and sec. 62 of the Code)................. 255
M. Extend Archer Medical Savings Accounts (``MSAs'')
(sec. 813 of the Senate amendment and sec. 220 of
the Code).......................................... 256
N. Extension of Expensing of Brownfield Remediation
Expenses (sec. 814 of the Senate amendment and sec.
198 of the Code)................................... 258
XI. Improving Tax Equity for Military Personnel....................259
A. Exclusion of Gain on Sale of a Principal Residence
by a Member of the Uniformed Services or the
Foreign Service (sec. 901 of the Senate amendment
and sec. 121 of the Code).......................... 259
B. Exclusion from Gross Income of Certain Death
Gratuity Payments (sec. 902 of the Senate amendment
and sec. 134 of the Code).......................... 260
C. Exclusion for Amounts Received Under Department of
Defense Homeowners Assistance Program (sec. 903 of
the Senate amendment and sec. 132 of the Code)..... 261
D. Expansion of Combat Zone Filing Rules to Contingency
Operations (sec. 94 of the Senate amendment and
sec. 7508 of the Code)............................. 262
E. Modification of Membership Requirement for Exemption
from Tax for Certain Veterans' Organizations (sec.
905 of the Senate amendment and sec. 501 of the
Code).............................................. 264
F. Clarification of Treatment of Certain Dependent Care
Assistance Programs Provided to Members of the
Uniformed Services of the United States (sec. 906
of the Senate amendment and sec. 134 of the Code).. 265
G. Treatment of Service Academy Appointments as
Scholarships for Purposes of Qualified Tuition
Programs and Coverdell Education Savings Accounts
(sec. 907 of the Senate amendment and secs. 529 and
530 of the Code)................................... 266
H. Suspension of Tax-Exempt Status of Designated
Terrorist Organizations (sec. 908 of the Senate
amendment and sec. 501 of the Code)................ 267
I. Above-the-Line Deduction for Overnight Travel
Expenses of National Guard and Reserve Members
(sec. 909 of the Senate amendment and sec. 162 of
the Code).......................................... 269
J. Extension of Certain Tax Relief Provisions to
Astronauts (sec. 910 of the Senate amendment and
secs. 101, 692, and 2201 of the Code).............. 270
XII. Sunset Provision...............................................273
A. Termination of Certain Provisions (sec. 1001 of the
Senate amendment).................................. 273
XIII.Tax Complexity Analysis........................................274
108th Congress Report
HOUSE OF REPRESENTATIVES
1st Session 108-126
======================================================================
JOBS AND GROWTH TAX RELIEF
RECONCILIATION ACT OF 2003
_______
May 22, 2003.--Ordered to be printed
_______
Mr. Thomas, from the committee on conference, submitted the following
CONFERENCE REPORT
[To accompany H.R. 2]
The committee of conference on the disagreeing votes of
the two Houses on the amendment of the Senate to the bill (H.R.
2), to provide for reconciliation pursuant to section 201 of
the concurrent resolution on the budget for fiscal year 2004,
having met, after full and free conference, have agreed to
recommend and do recommend to their respective Houses as
follows:
That the House recede from its disagreement to the
amendment of the Senate and agree to the same with an amendment
as follows:
In lieu of the matter proposed to be inserted by the
Senate amendment, insert the following:
SECTION 1. SHORT TITLE; REFERENCES; TABLE OF CONTENTS.
(a) Short Title.--This Act may be cited as the ``Jobs and
Growth Tax Relief Reconciliation Act of 2003''.
(b) Amendment of 1986 Code.--Except as otherwise expressly
provided, whenever in this Act an amendment or repeal is
expressed in terms of an amendment to, or repeal of, a section
or other provision, the reference shall be considered to be
made to a section or other provision of the Internal Revenue
Code of 1986.
(c) Table of Contents.--The table of contents of this Act
is as follows:
Sec. 1. Short title; references; table of contents.
TITLE I--ACCELERATION OF CERTAIN PREVIOUSLY ENACTED TAX REDUCTIONS
Sec. 101. Acceleration of increase in child tax credit.
Sec. 102. Acceleration of 15-percent individual income tax rate bracket
expansion for married taxpayers filing joint returns.
Sec. 103. Acceleration of increase in standard deduction for married
taxpayers filing joint returns.
Sec. 104. Acceleration of 10-percent individual income tax rate bracket
expansion.
Sec. 105. Acceleration of reduction in individual income tax rates.
Sec. 106. Minimum tax relief to individuals.
Sec. 107. Application of EGTRRA sunset to this title.
TITLE II--GROWTH INCENTIVES FOR BUSINESS
Sec. 201. Increase and extension of bonus depreciation.
Sec. 202. Increased expensing for small business.
TITLE III--REDUCTION IN TAXES ON DIVIDENDS AND CAPITAL GAINS
Sec. 301. Reduction in capital gains rates for individuals; repeal of 5-
year holding period requirement.
Sec. 302. Dividends of individuals taxed at capital gain rates.
Sec. 303. Sunset of title.
TITLE IV--TEMPORARY STATE FISCAL RELIEF
Sec. 401. Temporary State fiscal relief.
TITLE V--CORPORATE ESTIMATED TAX PAYMENTS FOR 2003
Sec. 501. Time for payment of corporate estimated taxes.
TITLE I--ACCELERATION OF CERTAIN PREVIOUSLY ENACTED TAX REDUCTIONS
SEC. 101. ACCELERATION OF INCREASE IN CHILD TAX CREDIT.
(a) In General.--The item relating to calendar years 2001
through 2004 in the table contained in paragraph (2) of section
24(a) (relating to per child amount) is amended to read as
follows:
``2003 or 2004............................................ $1,000''.
(b) Advance Payment of Portion of Increased Credit in
2003.--
(1) In general.--Subchapter B of chapter 65
(relating to abatements, credits, and refunds) is
amended by inserting after section 6428 the following
new section:
``SEC. 6429. ADVANCE PAYMENT OF PORTION OF INCREASED CHILD CREDIT FOR
2003.
``(a) In General.--Each taxpayer who was allowed a credit
under section 24 on the return for the taxpayer's first taxable
year beginning in 2002 shall be treated as having made a
payment against the tax imposed by chapter 1 for such taxable
year in an amount equal to the child tax credit refund amount
(if any) for such taxable year.
``(b) Child Tax Credit Refund Amount.--For purposes of this
section, the child tax credit refund amount is the amount by
which the aggregate credits allowed under part IV of subchapter
A of chapter 1 for such first taxable year would have been
increased if--
``(1) the per child amount under section 24(a)(2)
for such year were $1,000,
``(2) only qualifying children (as defined in
section 24(c)) of the taxpayer for such year who had
not attained age 17 as of December 31, 2003, were taken
into account, and
``(3) section 24(d)(1)(B)(ii) did not apply.
``(c) Timing of Payments.--In the case of any overpayment
attributable to this section, the Secretary shall, subject to
the provisions of this title, refund or credit such overpayment
as rapidly as possible and, to the extent practicable, before
October 1, 2003. No refund or credit shall be made or allowed
under this section after December 31, 2003.
``(d) Coordination With Child Tax Credit.--
``(1) In general.--The amount of credit which would
(but for this subsection and section 26) be allowed
under section 24 for the taxpayer's first taxable year
beginning in 2003 shall be reduced (but not below zero)
by the payments made to the taxpayer under this
section. Any failure to so reduce the credit shall be
treated as arising out of a mathematical or clerical
error and assessed according to section 6213(b)(1).
``(2) Joint returns.--In the case of a payment
under this section with respect to a joint return, half
of such payment shall be treated as having been made to
each individual filing such return.
``(e) No Interest.--No interest shall be allowed on any
overpayment attributable to this section.''.
(2) Clerical amendment.--The table of sections for
subchapter B of chapter 65 is amended by adding at the
end the following new item:
``Sec. 6429. Advance payment of portion of increased child
credit for 2003.''.
(c) Effective Dates.--
(1) In general.--Except as provided in paragraph
(2), the amendments made by this section shall apply to
taxable years beginning after December 31, 2002.
(2) Subsection (b).--The amendments made by
subsection (b) shall take effect on the date of the
enactment of this Act.
SEC. 102. ACCELERATION OF 15-PERCENT INDIVIDUAL INCOME TAX RATE BRACKET
EXPANSION FOR MARRIED TAXPAYERS FILING JOINT
RETURNS.
(a) In General.--The table contained in subparagraph (B) of
section 1(f )(8) (relating to applicable percentage) is amended
by inserting before the item relating to 2005 the following new
item:
``2003 and 2004................................... 200''.
(b) Conforming Amendments.--
(1) Section 1(f)(8)(A) is amended by striking
``2004'' and inserting ``2002''.
(2) Section 302(c) of the Economic Growth and Tax
Relief Reconciliation Act of 2001 is amended by
striking ``2004'' and inserting ``2002''.
(c) Effective Date.--The amendments made by this section
shall apply to taxable years beginning after December 31, 2002.
SEC. 103. ACCELERATION OF INCREASE IN STANDARD DEDUCTION FOR MARRIED
TAXPAYERS FILING JOINT RETURNS.
(a) In General.--The table contained in paragraph (7) of
section 63(c) (relating to applicable percentage) is amended by
inserting before the item relating to 2005 the following new
item:
``2003 and 2004................................... 200''.
(b) Conforming Amendment.--Section 301(d) of the Economic
Growth and Tax Relief Reconciliation Act of 2001 is amended by
striking ``2004'' and inserting ``2002''.
(c) Effective Date.--The amendments made by this section
shall apply to taxable years beginning after December 31, 2002.
SEC. 104. ACCELERATION OF 10-PERCENT INDIVIDUAL INCOME TAX RATE BRACKET
EXPANSION.
(a) In General.--Clause (i) of section 1(i)(1)(B) (relating
to the initial bracket amount) is amended by striking
``($12,000 in the case of taxable years beginning before
January 1, 2008)'' and inserting ``($12,000 in the case of
taxable years beginning after December 31, 2004, and before
January 1, 2008)''.
(b) Inflation Adjustment.--Subparagraph (C) of section
1(i)(1) is amended to read as follows:
``(C) Inflation adjustment.--In prescribing
the tables under subsection (f) which apply
with respect to taxable years beginning in
calendar years after 2000--
``(i) except as provided in clause
(ii), the Secretary shall make no
adjustment to the initial bracket
amounts for any taxable year beginning
before January 1, 2009,
``(ii) there shall be an adjustment
under subsection (f) of such amounts
which shall apply only to taxable years
beginning in 2004, and such adjustment
shall be determined under subsection
(f)(3) by substituting `2002' for
`1992' in subparagraph (B) thereof,
``(iii) the cost-of-living
adjustment used in making adjustments
to the initial bracket amounts for any
taxable year beginning after December
31, 2008, shall be determined under
subsection (f)(3) by substituting
`2007' for `1992' in subparagraph (B)
thereof, and
``(iv) the adjustments under
clauses (ii) and (iii) shall not apply
to the amount referred to in
subparagraph (B)(iii).
If any amount after adjustment under the
preceding sentence is not a multiple of $50,
such amount shall be rounded to the next lowest
multiple of $50.''.
(c) Effective Date.--
(1) In general.--The amendments made by this
section shall apply to taxable years beginning after
December 31, 2002.
(2) Tables for 2003.--The Secretary of the Treasury
shall modify each table which has been prescribed under
section 1(f) of the Internal Revenue Code of 1986 for
taxable years beginning in 2003 and which relates to
the amendment made by subsection (a) to reflect such
amendment.
SEC. 105. ACCELERATION OF REDUCTION IN INDIVIDUAL INCOME TAX RATES.
(a) In General.--The table contained in paragraph (2) of
section 1(i) (relating to reductions in rates after June 30,
2001) is amended to read as follows:
------------------------------------------------------------------------
The corresponding percentages shall
be substituted for the following
``In the case of taxable years percentages:
beginning during calendar year: -------------------------------------
28% 31% 36% 39.6%
------------------------------------------------------------------------
2001.............................. 27.5% 30.5% 35.5% 39.1%
2002.............................. 27.0% 30.0% 35.0% 38.6%
2003 and thereafter............... 25.0% 28.0% 33.0% 35.0%''.
------------------------------------------------------------------------
(b) Effective Date.--The amendment made by this section
shall apply to taxable years beginning after December 31, 2002.
SEC. 106. MINIMUM TAX RELIEF TO INDIVIDUALS.
(a) In General.--
(1) Subparagraph (A) of section 55(d)(1) is amended
by striking ``$49,000 in the case of taxable years
beginning in 2001, 2002, 2003, and 2004'' and inserting
``$58,000 in the case of taxable years beginning in
2003 and 2004''.
(2) Subparagraph (B) of section 55(d)(1) is amended
by striking ``$35,750 in the case of taxable years
beginning in 2001, 2002, 2003, and 2004'' and inserting
``$40,250 in the case of taxable years beginning in
2003 and 2004''.
(b) Effective Date.--The amendments made by subsection (a)
shall apply to taxable years beginning after December 31, 2002.
SEC. 107. APPLICATION OF EGTRRA SUNSET TO THIS TITLE.
Each amendment made by this title shall be subject to title
IX of the Economic Growth and Tax Relief Reconciliation Act of
2001 to the same extent and in the same manner as the provision
of such Act to which such amendment relates.
TITLE II--GROWTH INCENTIVES FOR BUSINESS
SEC. 201. INCREASE AND EXTENSION OF BONUS DEPRECIATION.
(a) In General.--Section 168(k) (relating to special
allowance for certain property acquired after September 10,
2001, and before September 11, 2004) is amended by adding at
the end the following new paragraph:
``(4) 50-percent bonus depreciation for certain
property.--
``(A) In general.--In the case of 50-
percent bonus depreciation property--
``(i) paragraph (1)(A) shall be
applied by substituting `50 percent'
for `30 percent', and
``(ii) except as provided in
paragraph (2)(C), such property shall
be treated as qualified property for
purposes of this subsection.
``(B) 50-percent bonus depreciation
property.--For purposes of this subsection, the
term `50-percent bonus depreciation property'
means property described in paragraph
(2)(A)(i)--
``(i) the original use of which
commences with the taxpayer after May
5, 2003,
``(ii) which is acquired by the
taxpayer after May 5, 2003, and before
January 1, 2005, but only if no written
binding contract for the acquisition
was in effect before May 6, 2003, and
``(iii) which is placed in service
by the taxpayer before January 1, 2005,
or, in the case of property described
in paragraph (2)(B) (as modified by
subparagraph (C) of this paragraph),
before January 1, 2006.
``(C) Special rules.--Rules similar to the
rules of subparagraphs (B) and (D) of paragraph
(2) shall apply for purposes of this paragraph;
except that references to September 10, 2001,
shall be treated as references to May 5, 2003.
``(D) Automobiles.--Paragraph (2)(E) shall
be applied by substituting `$7,650' for
`$4,600' in the case of 50-percent bonus
depreciation property.
``(E) Election of 30-percent bonus.--If a
taxpayer makes an election under this
subparagraph with respect to any class of
property for any taxable year, subparagraph
(A)(i) shall not apply to all property in such
class placed in service during such taxable
year.''.
(b) Extension of Certain Dates for 30-Percent Bonus
Depreciation Property.--
(1) Portion of basis taken into account.--
(A) Subparagraphs (B)(ii) and (D)(i) of
section 168(k)(2) are each amended by striking
``September 11, 2004'' each place it appears in
the text and inserting ``January 1, 2005''.
(B) Clause (ii) of section 168(k)(2)(B) is
amended by striking ``pre-september 11, 2004''
in the heading and inserting ``pre-january 1,
2005''.
(2) Acquisition date.--Clause (iii) of section
168(k)(2)(A) is amended by striking ``September 11,
2004'' each place it appears and inserting ``January 1,
2005''.
(3) Election.--Clause (iii) of section 168(k)(2)(C)
is amended by adding at the end the following: ``The
preceding sentence shall be applied separately with
respect to property treated as qualified property by
paragraph (4) and other qualified property.''.
(c) Conforming Amendments.--
(1) The subsection heading for section 168(k) is
amended by striking ``September 11, 2004'' and
inserting ``January 1, 2005''.
(2) The heading for clause (i) of section
1400L(b)(2)(C) is amended by striking ``30-percent
additional allowance property'' and inserting ``Bonus
depreciation property under section 168(k)''.
(d) Effective Date.--The amendments made by this section
shall apply to taxable years ending after May 5, 2003.
SEC. 202. INCREASED EXPENSING FOR SMALL BUSINESS.
(a) In General.--Paragraph (1) of section 179(b) (relating
to dollar limitation) is amended to read as follows:
``(1) Dollar limitation.--The aggregate cost which
may be taken into account under subsection (a) for any
taxable year shall not exceed $25,000 ($100,000 in the
case of taxable years beginning after 2002 and before
2006).''.
(b) Increase in Qualifying Investment at Which Phaseout
Begins.--Paragraph (2) of section 179(b) (relating to reduction
in limitation) is amended by inserting ``($400,000 in the case
of taxable years beginning after 2002 and before 2006)'' after
``$200,000''.
(c) Off-the-Shelf Computer Software.--Paragraph (1) of
section 179(d) (defining section 179 property) is amended to
read as follows:
``(1) Section 179 property.--For purposes of this
section, the term `section 179 property' means
property--
``(A) which is--
``(i) tangible property (to which
section 168 applies), or
``(ii) computer software (as
defined in section 197(e)(3)(B)) which
is described in section
197(e)(3)(A)(i), to which section 167
applies, and which is placed in service
in a taxable year beginning after 2002
and before 2006,
``(B) which is section 1245 property (as
defined in section 1245(a)(3)), and
``(C) which is acquired by purchase for use
in the active conduct of a trade or business.
Such term shall not include any property described in
section 50(b) and shall not include air conditioning or
heating units.''.
(d) Adjustment of Dollar Limit and Phaseout Threshold for
Inflation.--Subsection (b) of section 179 (relating to
limitations) is amended by adding at the end the following new
paragraph:
``(5) Inflation adjustments.--
``(A) In general.--In the case of any
taxable year beginning in a calendar year after
2003 and before 2006, the $100,000 and $400,000
amounts in paragraphs (1) and (2)shall each be
increased by an amount equal to--
``(i) such dollar amount,
multiplied by
``(ii) the cost-of-living
adjustment determined under section
1(f)(3) for the calendar year in which
the taxable year begins, by
substituting `calendar year 2002' for
`calendar year 1992' in subparagraph
(B) thereof.
``(B) Rounding.--
``(i) Dollar limitation.--If the
amount in paragraph (1) as increased
under subparagraph (A) is not a
multiple of $1,000, such amount shall
be rounded to the nearest multiple of
$1,000.
``(ii) Phaseout amount.--If the
amount in paragraph (2) as increased
under subparagraph (A) is not a
multiple of $10,000, such amount shall
be rounded to the nearest multiple of
$10,000.''.
(e) Revocation of Election.--Paragraph (2) of section
179(c) (relating to election irrevocable) is amended by adding
at the end the following new sentence: ``Any such election or
specification with respect to any taxable year beginning after
2002 and before 2006 may be revoked by the taxpayer with
respect to any property, and such revocation, once made, shall
be irrevocable.''.
(f) Effective Date.--The amendments made by this section
shall apply to taxable years beginning after December 31, 2002.
TITLE III--REDUCTION IN TAXES ON DIVIDENDS AND CAPITAL GAINS
SEC. 301. REDUCTION IN CAPITAL GAINS RATES FOR INDIVIDUALS; REPEAL OF
5-YEAR HOLDING PERIOD REQUIREMENT.
(a) In General.--
(1) Sections 1(h)(1)(B) and 55(b)(3)(B) are each
amended by striking ``10 percent'' and inserting ``5
percent (0 percent in the case of taxable years
beginning after 2007)''.
(2) The following sections are each amended by
striking ``20 percent'' and inserting ``15 percent'':
(A) Section 1(h)(1)(C).
(B) Section 55(b)(3)(C).
(C) Section 1445(e)(1).
(D) The second sentence of section
7518(g)(6)(A).
(E) The second sentence of section
607(h)(6)(A) of the Merchant Marine Act, 1936.
(b) Conforming Amendments.--
(1) Section 1(h) is amended--
(A) by striking paragraphs (2) and (9),
(B) by redesignating paragraphs (3) through
(8) as paragraphs (2) through (7),
respectively, and
(C) by redesignating paragraphs (10), (11),
and (12) as paragraphs (8), (9), and (10),
respectively.
(2) Paragraph (3) of section 55(b) is amended by
striking ``In the case of taxable years beginning after
December 31, 2000, rules similar to the rules of
section 1(h)(2) shall apply for purposes of
subparagraphs (B) and (C).''.
(3) Paragraph (7) of section 57(a) is amended--
(A) by striking ``42 percent'' the first
place it appears and inserting ``7 percent'',
and
(B) by striking the last sentence.
(c) Transitional Rules for Taxable Years Which Include May
6, 2003.--For purposes of applying section 1(h) of the Internal
Revenue Code of 1986 in the case of a taxable year which
includes May 6, 2003--
(1) The amount of tax determined under subparagraph
(B) of section 1(h)(1) of such Code shall be the sum
of--
(A) 5 percent of the lesser of--
(i) the net capital gain determined
by taking into account only gain or
loss properly taken into account for
the portion of the taxable year on or
after May 6, 2003 (determined without
regard to collectibles gain or loss,
gain described in section 1(h)(6)(A)(i)
of such Code, and section 1202 gain),
or
(ii) the amount on which a tax is
determined under such subparagraph
(without regard to this subsection),
(B) 8 percent of the lesser of--
(i) the qualified 5-year gain (as
defined in section 1(h)(9) of the
Internal Revenue Code of 1986, as in
effect on the day before the date of
the enactment of this Act) properly
taken into account for the portion of
the taxable year before May 6, 2003, or
(ii) the excess (if any) of--
(I) the amount on which a
tax is determined under such
subparagraph (without regard to
this subsection), over
(II) the amount on which a
tax is determined under
subparagraph (A), plus
(C) 10 percent of the excess (if any) of--
(i) the amount on which a tax is
determined under such subparagraph
(without regard to this subsection),
over
(ii) the sum of the amounts on
which a tax is determined under
subparagraphs (A) and (B).
(2) The amount of tax determined under subparagraph
(C) of section (1)(h)(1) of such Code shall be the sum
of--
(A) 15 percent of the lesser of--
(i) the excess (if any) of the
amount of net capital gain determined
under subparagraph (A)(i) of paragraph
(1) of this subsection over the amount
on which a tax is determined under
subparagraph (A) of paragraph (1) of
this subsection, or
(ii) the amount on which a tax is
determined under such subparagraph (C)
(without regard to this subsection),
plus
(B) 20 percent of the excess (if any) of--
(i) the amount on which a tax is
determined under such subparagraph (C)
(without regard to this subsection),
over
(ii) the amount on which a tax is
determined under subparagraph (A) of
this paragraph.
(3) For purposes of applying section 55(b)(3) of
such Code, rules similar to the rules of paragraphs (1)
and (2) of this subsection shall apply.
(4) In applying this subsection with respect to any
pass-thru entity, the determination of when gains and
losses are properly taken into account shall be made at
the entity level.
(5) For purposes of applying section 1(h)(11) of
such Code, as added by section 302 of this Act, to this
subsection, dividends which are qualified dividend
income shall be treated as gain properly taken into
account for the portion of the taxable year on or after
May 6, 2003.
(6) Terms used in this subsection which are also
used in section 1(h) of such Code shall have the
respective meanings that such terms have in such
section.
(d) Effective Dates.--
(1) In general.--Except as otherwise provided by
this subsection, the amendments made by this section
shall apply to taxable years ending on or after May 6,
2003.
(2) Withholding.--The amendment made by subsection
(a)(2)(C) shall apply to amounts paid after the date of
the enactment of this Act.
(3) Small business stock.--The amendments made by
subsection (b)(3) shall apply to dispositions on or
after May 6, 2003.
SEC. 302. DIVIDENDS OF INDIVIDUALS TAXED AT CAPITAL GAIN RATES.
(a) In General.--Section 1(h) (relating to maximum capital
gains rate), as amended by section 301, is amended by adding at
the end the following new paragraph:
``(11) Dividends taxed as net capital gain.--
``(A) In general.--For purposes of this
subsection, the term `net capital gain' means
net capital gain (determined without regard to
this paragraph) increased by qualified dividend
income.
``(B) Qualified dividend income.--For
purposes of this paragraph--
``(i) In general.--The term
`qualified dividend income' means
dividends received during the taxable
year from--
``(I) domestic
corporations, and
``(II) qualified foreign
corporations.
``(ii) Certain dividends
excluded.--Such term shall not
include--
``(I) any dividend from a
corporation which for the
taxable year of the corporation
in which the distribution is
made, or the preceding taxable
year, is a corporation exempt
from tax under section 501 or
521,
``(II) any amount allowed
as a deduction under section
591 (relating to deduction for
dividends paid by mutual
savings banks, etc.), and
``(III) any dividend
described in section 404(k).
``(iii) Coordination with section
246(c).--Such term shall not include
any dividend on any share of stock--
``(I) with respect to which
the holding period requirements
of section 246(c) are not met
(determined by substituting in
section 246(c)(1) `60 days' for
`45 days' each place it appears
and by substituting `120-day
period' for `90-day period'),
or
``(II) to the extent that
the taxpayer is under an
obligation (whether pursuant to
a short sale or otherwise) to
make related payments with
respect to positions in
substantially similar or
related property.
``(C) Qualified foreign corporations.--
``(i) In general.--Except as
otherwise provided in this paragraph,
the term `qualified foreign
corporation' means any foreign
corporation if--
``(I) such corporation is
incorporated in a possession of
the United States, or
``(II) such corporation is
eligible for benefits of a
comprehensive income tax treaty
with the United States which
the Secretary determines is
satisfactory for purposes of
this paragraph and which
includes an exchange of
information program.
``(ii) Dividends on stock readily
tradable on united states securities
market.--A foreign corporation not
otherwise treated as a qualified
foreign corporation under clause (i)
shall be so treated with respect to any
dividend paid by such corporation if
the stock with respect to which such
dividend is paid is readily tradable on
an established securities market in the
United States.
``(iii) Exclusion of dividends of
certain foreign corporations.--Such
term shall not include any foreign
corporation which for the taxable year
of the corporation in which the
dividend was paid, or the preceding
taxable year, is a foreign personal
holding company (as defined in section
552), a foreign investment company (as
defined in section 1246(b)), or a
passive foreign investment company (as
defined in section 1297).
``(iv) Coordination with foreign
tax credit limitation.--Rules similar
to the rules of section 904(b)(2)(B)
shall apply with respect to the
dividend rate differential under this
paragraph.
``(D) Special rules.--
``(i) Amounts taken into account as
investment income.--Qualified dividend
income shall not include any amount
which the taxpayer takes into account
as investment income under section
163(d)(4)(B).
``(ii) Extraordinary dividends.--If
an individual receives, with respect to
any share of stock, qualified dividend
income from 1 or more dividends which
are extraordinary dividends (within the
meaning of section 1059(c)), any loss
on the sale or exchange of such share
shall, to the extent of such dividends,
be treated as long-term capital loss.
``(iii) Treatment of dividends from
regulated investment companies and real
estate investment trusts.--A dividend
received from a regulated investment
company or a real estate investment
trust shall be subject to the
limitations prescribed in sections 854
and 857.''.
(b) Exclusion of Dividends From Investment Income.--
Subparagraph (B) of section 163(d)(4) (defining net investment
income) is amended by adding at the end the following flush
sentence:
``Such term shall include qualified dividend
income (as defined in section 1(h)(11)(B)) only
to the extent the taxpayer elects to treat such
income as investment income for purposes of
this subsection.''.
(c) Treatment of Dividends From Regulated Investment
Companies.--
(1) Subsection (a) of section 854 (relating to
dividends received from regulated investment companies)
is amended by inserting ``section 1(h)(11) (relating to
maximum rate of tax on dividends) and'' after ``For
purposes of''.
(2) Paragraph (1) of section 854(b) (relating to
other dividends) is amended by redesignating
subparagraph (B) as subparagraph (C) and by inserting
after subparagraph (A) the following new subparagraph:
``(B) Maximum rate under section 1(h).--
``(i) In general.--If the aggregate
dividends received by a regulated
investment company during any taxable
year are less than 95 percent of its
gross income, then, in computing the
maximum rate under section 1(h)(11),
rules similar to the rules of
subparagraph (A) shall apply.
``(ii) Gross income.--For purposes
of clause (i), in the case of 1 or more
sales or other dispositions of stock or
securities, the term `gross income'
includes only the excess of--
``(I) the net short-term
capital gain from such sales or
dispositions, over
``(II) the net long-term
capital loss from such sales or
dispositions.
``(iii) Dividends from real estate
investment trusts.--For purposes of
clause (i)--
``(I) paragraph (3)(B)(ii)
shall not apply, and
``(II) in the case of a
distribution from a trust
described in such paragraph,
the amount of such distribution
which is a dividend shall be
subject to the limitations
under section 857(c).
``(iv) Dividends from qualified
foreign corporations.--For purposes of
clause (i), dividends received from
qualified foreign corporations (as
defined in section 1(h)(11)) shall also
be taken into account in computing
aggregate dividends received.''.
(3) Subparagraph (C) of section 854(b)(1), as
redesignated by paragraph (2), is amended by striking
``subparagraph (A)'' and inserting ``subparagraph (A)
or (B)''.
(4) Paragraph (2) of section 854(b) is amended by
inserting ``the maximum rate under section 1(h)(11)
and'' after ``for purposes of''.
(5) Subsection (b) of section 854 is amended by
adding at the end the following new paragraph:
``(5) Coordination with section 1(h)(11).--For
purposes of paragraph (1)(B), an amount shall be
treated as a dividend only if the amount is qualified
dividend income (within the meaning of section
1(h)(11)(B)).''.
(d) Treatment of Dividends Received From Real Estate
Investment Trusts.--Section 857(c) (relating to restrictions
applicable to dividends received from real estate investment
trusts) is amended to read as follows:
``(c) Restrictions Applicable to Dividends Received From
Real Estate Investment Trusts.--
``(1) Section 243.--For purposes of section 243
(relating to deductions for dividends received by
corporations), a dividend received from a real estate
investment trust which meets the requirements of this
part shall not be considered a dividend.
``(2) Section 1(h)(11).--For purposes of section
1(h)(11) (relating to maximum rate of tax on
dividends)--
``(A) rules similar to the rules of
subparagraphs (B) and (C) of section 854(b)(1)
shall apply to dividends received from a real
estate investment trust which meets the
requirements of this part, and
``(B) for purposes of such rules, such a
trust shall be treated as receiving qualified
dividend income during any taxable year in an
amount equal to the sum of--
``(i) the excess of real estate
investment trust taxable income
computed under section 857(b)(2) for
the preceding taxable year over the tax
payable by the trust under section
857(b)(1) for such preceding taxable
year, and
``(ii) the excess of the income
subject to tax by reason of the
application of the regulations under
section 337(d) for the preceding
taxable year over the tax payable by
the trust on such income for such
preceding taxable year.''.
(e) Conforming Amendments.--
(1) Paragraph (3) of section 1(h), as redesignated
by section 301, is amended to read as follows:
``(3) Adjusted net capital gain.--For purposes of
this subsection, the term `adjusted net capital gain'
means the sum of--
``(A) net capital gain (determined without
regard to paragraph (11)) reduced (but not
below zero) by the sum of--
``(i) unrecaptured section 1250
gain, and
``(ii) 28-percent rate gain, plus
``(B) qualified dividend income (as defined
in paragraph (11)).''.
(2) Subsection (f) of section 301 is amended adding
at the end the following new paragraph:
``(4) For taxation of dividends received by
individuals at capital gain rates, see section
1(h)(11).''.
(3) Paragraph (1) of section 306(a) is amended by
adding at the end the following new subparagraph:
``(D) Treatment as dividend.--For purposes
of section 1(h)(11) and such other provisions
as the Secretary may specify, any amount
treated as ordinary income under this paragraph
shall be treated as a dividend received from
the corporation.''.
(4)(A) Subpart C of part II of subchapter C of
chapter 1 (relating to collapsible corporations) is
repealed.
(B)(i) Section 338(h) is amended by striking
paragraph (14).
(ii) Sections 467(c)(5)(C), 1255(b)(2), and 1257(d)
are each amended by striking ``, 341(e)(12),''.
(iii) The table of subparts for part II of
subchapter C of chapter 1 is amended by striking the
item related to subpart C.
(5) Section 531 is amended by striking ``equal to''
and all that follows and inserting ``equal to 15
percent of the accumulated taxable income.''.
(6) Section 541 is amended by striking ``equal to''
and all that follows and inserting ``equal to 15
percent of the undistributed personal holding company
income.''.
(7) Section 584(c) is amended by adding at the end
the following new flush sentence:
``The proportionate share of each participant in the amount of
dividends received by the common trust fund and to which
section 1(h)(11) applies shall be considered for purposes of
such paragraph as having been received by such participant.''.
(8) Paragraph (5) of section 702(a) is amended to
read as follows:
``(5) dividends with respect to which section
1(h)(11) or part VIII of subchapter B applies,''.
(f) Effective Date.--
(1) In general.--Except as provided in paragraph
(2), the amendments made by this section shall apply to
taxable years beginning after December 31, 2002.
(2) Regulated investment companies and real estate
investment trusts.--In the case of a regulated
investment company or a real estate investment trust,
the amendments made by this section shall apply to
taxable years ending after December 31, 2002; except
that dividends received by such a company or trust on
or before such date shall not be treated as qualified
dividend income (as defined in section 1(h)(11)(B) of
the Internal Revenue Code of 1986, as added by this
Act).
SEC. 303. SUNSET OF TITLE.
All provisions of, and amendments made by, this title shall
not apply to taxable years beginning after December 31, 2008,
and the Internal Revenue Code of 1986 shall be applied and
administered to such years as if such provisions and amendments
had never been enacted.
TITLE IV--TEMPORARY STATE FISCAL RELIEF
SEC. 401. TEMPORARY STATE FISCAL RELIEF.
(a) $10,000,000,000 for a Temporary Increase of the
Medicaid FMAP.--
(1) Permitting maintenance of fiscal year 2002 fmap
for last 2 calendar quarters of fiscal year 2003.--
Subject to paragraph (5), if the FMAP determined
without regard to this subsection for a State for
fiscal year 2003 is less than the FMAP as so determined
for fiscal year 2002, the FMAP for the State for fiscal
year 2002 shall be substituted for the State's FMAP for
the third and fourth calendar quarters of fiscal year
2003, before the application of this subsection.
(2) Permitting maintenance of fiscal year 2003 fmap
for first 3 quarters of fiscal year 2004.--Subject to
paragraph (5), if the FMAP determined without regard to
this subsection for a State for fiscal year 2004 is
less than the FMAP as so determined for fiscal year
2003, the FMAP for the State for fiscal year 2003 shall
be substituted for the State's FMAP for the first,
second, and third calendar quarters of fiscal year
2004, before the application of this subsection.
(3) General 2.95 percentage points increase for
last 2 calendar quarters of fiscal year 2003 and first
3 calendar quarters of fiscal year 2004.--Subject to
paragraphs (5), (6), and (7), for each State for the
third and fourth calendar quarters of fiscal year 2003
and for the first, second, and third calendar quarters
of fiscal year 2004, the FMAP (taking into account the
application of paragraphs (1) and (2)) shall be
increased by 2.95 percentage points.
(4) Increase in cap on medicaid payments to
territories.--Subject to paragraphs (6) and (7), with
respect to the third and fourth calendar quarters of
fiscal year 2003 and the first, second, and third
calendar quarters of fiscal year 2004, the amounts
otherwise determined for Puerto Rico, the Virgin
Islands, Guam, the Northern Mariana Islands, and
American Samoa under subsections (f) and (g) of section
1108 of the Social Security Act (42 U.S.C. 1308) shall
each be increased by an amount equal to 5.90 percent of
such amounts.
(5) Scope of application.--The increases in the
FMAP for a State under this subsection shall apply only
for purposes of title XIX of the Social Security Act
and shall not apply with respect to--
(A) disproportionate share hospital
payments described in section 1923 of such Act
(42 U.S.C. 1396r-4);
(B) payments under title IV or XXI of such
Act (42 U.S.C. 601 et seq. and 1397aa et seq.);
or
(C) any payments under XIX of such Act that
are based on the enhanced FMAP described in
section 2105(b) of such Act (42 U.S.C.
1397ee(b)).
(6) State eligibility.--
(A) In general.--Subject to subparagraph
(B), a State is eligible for an increase in its
FMAP under paragraph (3) or an increase in a
cap amount under paragraph (4) only if the
eligibility under its State plan under title
XIX of the Social Security Act (including any
waiver under such title or under section 1115
of such Act (42 U.S.C. 1315)) is no more
restrictive than the eligibility under such
plan (or waiver) as in effect on September 2,
2003.
(B) State reinstatement of eligibility
permitted.--A State that has restricted
eligibility under its State plan under title
XIX of the Social Security Act (including any
waiver under such title or under section 1115
of such Act (42 U.S.C. 1315)) after September
2, 2003, is eligible for an increase in its
FMAP under paragraph (3) or an increase in a
cap amount under paragraph (4) in the first
calendar quarter (and subsequent calendar
quarters) in which the State has reinstated
eligibility that is no more restrictive than
the eligibility under such plan (or waiver) as
in effect on September 2, 2003.
(C) Rule of construction.--Nothing in
subparagraph (A) or (B) shall be construed as
affecting a State's flexibility with respect to
benefits offered under the State medicaid
program under title XIX of the Social Security
Act (42 U.S.C. 1396 et seq.) (including any
waiver under such title or under section 1115
of such Act (42 U.S.C. 1315)).
(7) Requirement for certain states.--In the case of
a State that requires political subdivisions within the
State to contribute toward the non-Federal share of
expenditures under the State medicaid plan required
under section 1902(a)(2) of the Social Security Act (42
U.S.C. 1396a(a)(2)), the State shall not require that
such political subdivisions pay a greater percentage of
the non-Federal share of such expenditures for the
third and fourth calendar quarters of fiscal year 2003
and the first, second and third calendar quarters of
fiscal year 2004, than the percentage that was required
by the State under such plan on April 1, 2003, prior to
application of this subsection.
(8) Definitions.--In this subsection:
(A) FMAP.--The term ``FMAP'' means the
Federal medical assistance percentage, as
defined in section 1905(b) of the Social
Security Act (42 U.S.C. 1396d(b)).
(B) State.--The term ``State'' has the
meaning given such term for purposes of title
XIX of the Social Security Act (42 U.S.C. 1396
et seq.).
(9) Repeal.--Effective as of October 1, 2004, this
subsection is repealed.
(b) $10,000,000,000 To Assist States in Providing
Government Services.--The Social Security Act (42 U.S.C. 301 et
seq.) is amended by inserting after title V the following:
``TITLE VI--TEMPORARY STATE FISCAL RELIEF
``SEC. 601. TEMPORARY STATE FISCAL RELIEF.
``(a) Appropriation.--There is authorized to be
appropriated and is appropriated for making payments to States
under this section, $5,000,000,000 for each of fiscal years
2003 and 2004.
``(b) Payments.--
``(1) Fiscal year 2003.--From the amount
appropriated under subsection (a) for fiscal year 2003,
the Secretary of the Treasury shall, not later than the
later of the date that is 45 days after the date of
enactment of this Act or the date that a State provides
the certification required by subsection (e) for fiscal
year 2003, pay each State the amount determined for the
State for fiscal year 2003 under subsection (c).
``(2) Fiscal year 2004.--From the amount
appropriated under subsection (a) for fiscal year 2004,
the Secretary of the Treasury shall, not later than the
later of October 1, 2003, or the date that a State
provides the certification required by subsection (e)
for fiscal year 2004, pay each State the amount
determined for the State for fiscal year 2004 under
subsection (c).
``(c) Payments Based on Population.--
``(1) In general.--Subject to paragraph (2), the
amount appropriated under subsection (a) for each of
fiscal years 2003 and 2004 shall be used to pay each
State an amount equal to the relative population
proportion amount described in paragraph (3) for such
fiscal year.
``(2) Minimum payment.--
``(A) In general.--No State shall receive a
payment under this section for a fiscal year
that is less than--
``(i) in the case of 1 of the 50
States or the District of Columbia, \1/
2\ of 1 percent of the amount
appropriated for such fiscal year under
subsection (a); and
``(ii) in the case of the
Commonwealth of Puerto Rico, the United
States Virgin Islands, Guam, the
Commonwealth of the Northern Mariana
Islands, or American Samoa, \1/10\ of 1
percent of the amount appropriated for
such fiscal year under subsection (a).
``(B) Pro rata adjustments.--The Secretary
of the Treasury shall adjust on a pro rata
basis the amount of the payments to States
determined under this section without regard to
this subparagraph to the extent necessary to
comply with the requirements of subparagraph
(A).
``(3) Relative population proportion amount.--The
relative population proportion amount described in this
paragraph is the product of--
``(A) the amount described in subsection
(a) for a fiscal year; and
``(B) the relative State population
proportion (as defined in paragraph (4)).
``(4) Relative state population proportion
defined.--For purposes of paragraph (3)(B), the term
``relative State population proportion'' means, with
respect to a State, the amount equal to the quotient
of--
``(A) the population of the State (as
reported in the most recent decennial census);
and
``(B) the total population of all States
(as reported in the most recent decennial
census).
``(d) Use of Payment.--
``(1) In general.--Subject to paragraph (2), a
State shall use the funds provided under a payment made
under this section for a fiscal year to--
``(A) provide essential government
services; or
``(B) cover the costs to the State of
complying with any Federal intergovernmental
mandate (as defined in section 421(5) of the
Congressional Budget Act of 1974) to the extent
that the mandate applies to the State, and the
Federal Government has not provided funds to
cover the costs.
``(2) Limitation.--A State may only use funds
provided under a payment made under this section for
types of expenditures permitted under the most recently
approved budget for the State.
``(e) Certification.--In order to receive a payment under
this section for a fiscal year, the State shall provide the
Secretary of the Treasury with a certification that the State's
proposed uses of the funds are consistent with subsection (d).
``(f) Definition of State.--In this section, the term
`State' means the 50 States, the District of Columbia, the
Commonwealth of Puerto Rico, the United States Virgin Islands,
Guam, the Commonwealth of the Northern Mariana Islands, and
American Samoa.
``(g) Repeal.--Effective as of October 1, 2004, this title
is repealed.''.
TITLE V--CORPORATE ESTIMATED TAX PAYMENTS FOR 2003
SEC. 501. TIME FOR PAYMENT OF CORPORATE ESTIMATED TAXES.
Notwithstanding section 6655 of the Internal Revenue Code
of 1986, 25 percent of the amount of any required installment
of corporate estimated tax which is otherwise due in September
2003 shall not be due until October 1, 2003.
And the Senate agree to the same.
William M. Thomas,
Tom DeLay,
Managers on the Part of the House.
Chuck Grassley,
Orrin Hatch,
Don Nickles,
Trent Lott,
Managers on the Part of the Senate.
JOINT EXPLANATORY STATEMENT OF THE COMMITTEE OF CONFERENCE
The managers on the part of the House and the Senate at
the conference on the disagreeing votes of the two Houses on
the amendment of the Senate to the bill (H.R. 2), to provide
for reconciliation pursuant to section 201 of the concurrent
resolution on the budget for fiscal year 2004, submit the
following joint statement to the House and the Senate in
explanation of the effect of the action agreed upon by the
managers and recommended in the accompanying conference report:
The Senate amendment struck all of the House bill after
the enacting clause and inserted a substitute text.
The House recedes from its disagreement to the amendment
of the Senate with an amendment that is a substitute for the
House bill and the Senate amendment. The differences between
the House bill, the Senate amendment, and the substitute agreed
to in conference are noted below, except for clerical
corrections, conforming changes made necessary by agreements
reached by the conferees, and minor drafting an clarifying
changes.
I. Acceleration of Certain Previously Enacted Tax Reductions
A. Accelerate the Increase in the Child Tax Credit (Sec. 101 of the
House Bill, Sec. 106 of the Senate Amendment, and Sec. 24 of the Code)
PRESENT LAW
In general
For 2003, an individual may claim a $600 tax credit for
each qualifying child under the age of 17. In general, a
qualifying child is an individual for whom the taxpayer can
claim a dependency exemption and who is the taxpayer's son or
daughter (or descendent of either), stepson or stepdaughter (or
descendent of either), or eligible foster child.
The child tax credit is scheduled to increase to $1,000,
phased-in over several years.
Table 1, below, shows the scheduled increases of the
child tax credit as provided under the Economic Growth and Tax
Relief Reconciliation Act of 2001 (``EGTRRA'').
TABLE 1.--SCHEDULED INCREASE OF THE CHILD TAX CREDIT
------------------------------------------------------------------------
Credit amount per
Taxable year child
------------------------------------------------------------------------
2003-2004............................................ $600
2005-2008............................................ 700
2009................................................. 800
2010\1\.............................................. 1,000
------------------------------------------------------------------------
\1\ The credit reverts to $500 in taxable years beginning after December
31, 2010, under the sunset provision of EGTRRA.
The child tax credit is phased-out for individuals with
income over certain thresholds. Specifically, the otherwise
allowable child tax credit is reduced by $50 for each $1,000
(or fraction thereof) of modified adjusted gross income over
$75,000 for single individuals or heads of households, $110,000
for married individuals filing joint returns, and $55,000 for
married individuals filing separate returns.\1\ The length of
the phase-out range depends on the number of qualifying
children. For example, the phase-out range for a single
individual with one qualifying child is between $75,000 and
$87,000 of modified adjusted gross income. The phase-out range
for a single individual with two qualifying children is between
$75,000 and $99,000.
---------------------------------------------------------------------------
\1\ Modified adjusted gross income is the taxpayer's total gross
income plus certain amounts excluded from gross income (i.e., excluded
income of: U.S. citizens or residents living abroad (sec. 911),
residents of Guam, American Samoa, and the Northern Mariana Islands
(sec. 931), and residents of Puerto Rico (sec. 933)).
---------------------------------------------------------------------------
The amount of the tax credit and the phase-out ranges are
not adjusted annually for inflation.
Refundability
For 2003, the child credit is refundable to the extent of
10 percent of the taxpayer's earned income in excess of
$10,500.\2\ The percentage is increased to 15 percent for
taxable years 2005 and thereafter. Families with three or more
children are allowed a refundable credit for the amount by
which the taxpayer's social security taxes exceed the
taxpayer's earned income credit, if that amount is greater than
the refundable credit based on the taxpayer's earned income in
excess of $10,500 (for 2003). The refundable portion of the
child credit does not constitute income and is not treated as
resources for purposes of determining eligibility or the amount
or nature of benefits or assistance under any Federal program
or any State or local program financed with Federal funds. For
taxable years beginning after December 31, 2010, the sunset
provision of EGTRRA applies to the rules allowing refundable
child credits.
---------------------------------------------------------------------------
\2\ The $10,500 amount is indexed for inflation.
---------------------------------------------------------------------------
Alternative minimum tax liability
The child credit is allowed against the individual's
regular income tax and alternative minimum tax. For taxable
years beginning after December 31, 2010, the sunset provision
of EGTRRA applies to the rules allowing the child credit
against the alternative minimum tax.
HOUSE BILL
Under the House bill, the amount of the child credit is
increased to $1,000 for 2003 through 2005.\3\ After 2005, the
child credit will revert to the levels provided under present
law. For 2003, the increased amount of the child credit will be
paid in advance beginning in July, 2003, on the basis of
information on each taxpayer's 2002 return filed in 2003. Such
payments will be made in a manner similar to the advance
payment checks issued by the Treasury in 2001 to reflect the
creation of the 10-percent regular income tax rate bracket.
---------------------------------------------------------------------------
\3\ The increase in refundability to 15 percent of the taxpayer's
earned income, scheduled for calendar years 2005 and thereafter, is not
accelerated under the provision.
---------------------------------------------------------------------------
Effective date.--The House bill provision is effective
for taxable years beginning after December 31, 2002, and before
January 1, 2006.
SENATE AMENDMENT
The amount of the child credit is increased to $1,000 for
2003 and thereafter. For 2003, the increased amount of the
child credit will be paid in advance beginning in July 2003 on
the basis of information on each taxpayer's 2002 return filed
in 2003. Advance payments will bemade in a similar manner to
the advance payment checks issued by the Treasury in 2001 to reflect
the creation of the 10-percent regular income tax rate bracket. The
increase in the refundable portion of the credit from 10 percent to 15
percent of the taxpayer's earned income in excess of the threshold
amount is accelerated to 2003 from 2005.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
Under the conference agreement, the amount of the child
credit is increased to $1,000 for 2003 and 2004.\4\ After 2004,
the child credit will revert to the levels provided under
present law. For 2003, the increased amount of the child credit
will be paid in advance beginning in July, 2003, on the basis
of information on each taxpayer's 2002 return filed in 2003.
The IRS is not expected to issue advance payment checks to an
individual who did not claim the child credit for 2002. Such
payments will be made in a manner similar to the advance
payment checks issued by the Treasury in 2001 to reflect the
creation of the 10-percent regular income tax rate bracket.
---------------------------------------------------------------------------
\4\ The increase in refundability to 15 percent of the taxpayer's
earned income, scheduled for calendar years 2005 and thereafter, is not
accelerated under the provision.
---------------------------------------------------------------------------
Effective date.--The conference agreement provision is
effective for taxable years beginning after December 31, 2002,
and before January 1, 2005.
B. Accelerate Marriage Penalty Relief (Secs. 102 and 103 of the House
Bill, Secs. 104 and 105 of the Senate Amendment and Secs. 1 and 63 of
the Code)
1. Standard deduction marriage penalty relief
PRESENT LAW
Marriage penalty
A married couple generally is treated as one tax unit
that must pay tax on the couple's total taxable income.
Although married couples may elect to file separate returns,
the rate schedules and other provisions are structured so that
filing separate returns usually results in a higher tax than
filing a joint return. Other rate schedules apply to single
persons and to single heads of households.
A ``marriage penalty'' exists when the combined tax
liability of a married couple filing a joint return is greater
than the sum of the tax liabilities of each individual computed
as if they were not married. A ``marriage bonus'' exists when
the combined tax liability of a married couple filing a joint
return is less than the sum of the tax liabilities of each
individual computed as if they were not married.
Basic standard deduction
Taxpayers who do not itemize deductions may choose the
basic standard deduction (and additional standard deductions,
if applicable),\5\ which is subtracted from adjusted gross
income (``AGI'') in arriving at taxable income. The size of the
basic standard deduction varies according to filing status and
is adjusted annually for inflation.\6\ For 2003, the basic
standard deduction for married couples filing a joint return is
167 percent of the basic standard deduction for single filers.
(Alternatively, the basic standard deduction amount for single
filers is 60 percent of the basic standard deduction amount for
married couples filing joint returns.) Thus, two unmarried
individuals have standard deductions whose sum exceeds the
standard deduction for a married couple filing a joint return.
---------------------------------------------------------------------------
\5\ Additional standard deductions are allowed with respect to any
individual who is elderly (age 65 or over) or blind.
\6\ For 2003, the basic standard deduction amounts are: (1) $4,750
for unmarried individuals; (2) $7,950 for married individuals filing a
joint return; (3) $7,000 for heads of households; and (4) $3,975 for
married individuals filing separately.
---------------------------------------------------------------------------
EGTRRA increased the basic standard deduction for a
married couple filing a joint return to twice the basic
standard deduction for an unmarried individual filing a single
return.\7\ The increase in the standard deduction for married
taxpayers filing a joint return is scheduled to be phased-in
over five years beginning in 2005 and will be fully phased-in
for 2009 and thereafter. Table 2, below, shows the standard
deduction for married couples filing a joint return as a
percentage of the standard deduction for single individuals
during the phase-in period.
---------------------------------------------------------------------------
\7\ The basic standard deduction for a married taxpayer filing
separately will continue to equal one-half of the basic standard
deduction for a married couple filing jointly; thus, the basic standard
deduction for unmarried individuals filing a single return and for
married couples filing separately will be the same after the phase-in
period.
TABLE 2.--SCHEDULED PHASE-IN OF INCREASE OF THE BASIC STANDARD DEDUCTION
FOR MARRIED COUPLES FILING JOINT RETURNS
------------------------------------------------------------------------
Standard deduction for
married couples filing joint
Taxable year returns as percentage of
standard deduction for
unmarried individual returns
------------------------------------------------------------------------
2005..................................... 174
2006..................................... 184
2007..................................... 187
2008..................................... 190
2009 and 2010\1\......................... 200
------------------------------------------------------------------------
\1\ The basic standard deduction increases are repealed for taxable
years beginning after December 31, 2010, under the sunset provision of
EGTRRA.
HOUSE BILL
The House bill accelerates the increase in the basic
standard deduction amount for joint returns to twice the basic
standard deduction amount for single returns effective for
2003, 2004, and 2005. For taxable years beginning after 2005,
the applicable percentages will revert to those allowed under
present law, as described above.
Effective date.--The House bill provision is effective
for taxable years beginning after December 31, 2002, and before
January 1, 2006.
SENATE AMENDMENT
The Senate amendment increases in the basic standard
deduction amount for joint returns to 195 percent of the basic
standard deduction amount for single returns effective for
2003. The Senate amendment also increases in the basic standard
deduction amount for joint returns to twice the basic standard
deduction amount for single returns effective for 2004. For
taxable years beginning after 2004, the applicable percentages
will revert to those allowed under present law, as described
above.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002
and before January 1, 2005.
CONFERENCE AGREEMENT
The conference agreement increases the basic standard
deduction amount for joint returns to twice the basic standard
deduction amount for single returns effective for 2003 and
2004. For taxable years beginning after 2004, the applicable
percentages will revert to those allowed under present law, as
described above.
Effective date.--The conference agreement provision is
effective for taxable years beginning after December 31, 2002,
and before January 1, 2005.
2. Accelerate the expansion of the 15-percent rate bracket for married
couples filing joint returns
PRESENT LAW
In general
Under the Federal individual income tax system, an
individual who is a citizen or resident of the United States
generally is subject to tax on worldwide taxable income.
Taxable income is total gross income less certain exclusions,
exemptions, and deductions. An individual may claim either a
standard deduction or itemized deductions.
An individual's income tax liability is determined by
computing his or her regular income tax liability and, if
applicable, alternative minimum tax liability.
Regular income tax liability
Regular income tax liability is determined by applying
the regular income tax rate schedules (or tax tables) to the
individual's taxable income and then is reduced by any
applicable tax credits. The regular income tax rate schedules
are divided into several ranges of income, known as income
brackets, and the marginal tax rate increases as the
individual's income increases. The income bracket amounts are
adjusted annually for inflation. Separate rate schedules apply
based on filing status: single individuals (other than heads of
households and surviving spouses), heads of households, married
individuals filing joint returns (including surviving spouses),
married individuals filing separate returns, and estates and
trusts. Lower rates may apply to capital gains.
In general, the bracket breakpoints for single
individuals are approximately 60 percent of the rate bracket
breakpoints for married couples filing joint returns.\8\ The
rate bracket breakpoints for married individuals filing
separate returns are exactly one-half of the rate brackets for
married individuals filing joint returns. A separate,
compressed rate schedule applies to estates and trusts.
---------------------------------------------------------------------------
\8\ Under present law, the rate bracket breakpoint for the 38.6
percent marginal tax rate is the same for single individuals and
married couples filing joint returns.
---------------------------------------------------------------------------
15-percent regular income tax rate bracket
EGTRRA increased the size of the 15-percent regular
income tax rate bracket for a married couple filing a joint
return to twice the size of the corresponding rate bracket for
a single individual filing a single return. The increase is
phased-in over four years, beginning in 2005. Therefore, this
provision is fully effective (i.e., the size of the 15-percent
regular income tax rate bracket for a married couple filing a
joint return is twice the size of the 15-percent regular income
tax rate bracket for an unmarried individual filing a single
return) for taxable years beginning after December 31, 2007.
Table 3, below, shows the increase in the size of the 15-
percent bracket during the phase-in period.
TABLE 3.--SCHEDULED INCREASE IN SIZE OF THE 15-PERCENT RATE BRACKET FOR
MARRIED COUPLES FILING JOINT RETURNS
------------------------------------------------------------------------
End point of 15-percent rate
bracket for married couples
filing joint returns as
Taxable year percentage of end point of 15-
percent rate bracket for
unmarried individuals
------------------------------------------------------------------------
2005..................................... 180
2006..................................... 187
2007..................................... 193
2008 through 2010 \1\.................... 200
------------------------------------------------------------------------
\1\ The increases in the 15-percent rate bracket for married couples
filing a joint return are repealed for taxable years beginning after
December 31, 2010, under the sunset of EGTRRA.
HOUSE BILL
The House bill accelerates the increase of the size of
the 15-percent regular income tax rate bracket for joint
returns to twice the width of the 15-percent regular income tax
rate bracket for single returns for taxable years beginning in
2003, 2004, and 2005. For taxable years beginning after 2005,
the applicable percentages will revert to those allowed under
present law, as described above.
Effective date.--The House bill provision is effective
for taxable years beginning after December 31, 2002, and before
January 1, 2006.
SENATE AMENDMENT
The Senate amendment increases in the size of the 15-
percent regular income tax rate bracket for joint returns to
195 percent of the size of the 15-percent regular income tax
rate bracket for single returns effective for 2003. The Senate
amendment also increases in the size of the 15-percent regular
income tax rate bracket for joint returns to twice the size of
the 15-percent regular income tax rate bracket for single
returns effective for 2004. For taxable years beginningafter
2004, the applicable percentages will revert to those allowed under
present law, as described above.
Effective date.--The provision is effective for taxable
years beginning after December 31, 2002 and before January 1,
2005.
CONFERENCE AGREEMENT
The conference agreement increases the size of the 15-
percent regular income tax rate bracket for joint returns to
twice the width of the 15-percent regular income tax rate
bracket for single returns for taxable years beginning in 2003
and 2004. For taxable years beginning after 2004, the
applicable percentages will revert to those allowed under
present law, as described above.
Effective date.--The conference agreement provision is
effective for taxable years beginning after December 31, 2002,
and before January 1, 2005.
C. Accelerate Reductions in Individual Income Tax Rates (Secs. 101, 102
and 103 of the House Bill, Secs. 101, 102 and 103 of the Senate
Amendment, and Secs. 1 and 55 of the Code)
PRESENT LAW
In general
Under the Federal individual income tax system, an
individual who is a citizen or a resident of the United States
generally is subject to tax on worldwide taxable income.
Taxable income is total gross income less certain exclusions,
exemptions, and deductions. An individual may claim either a
standard deduction or itemized deductions.
An individual's income tax liability is determined by
computing his or her regular income tax liability and, if
applicable, alternative minimum tax liability.
Regular income tax liability
Regular income tax liability is determined by applying
the regular income tax rate schedules (or tax tables) to the
individual's taxable income. This tax liability is then reduced
by any applicable tax credits. The regular income tax rate
schedules are divided into several ranges of income, known as
income brackets, and the marginal tax rate increases as the
individual's income increases. The income bracket amounts are
adjusted annually for inflation. Separate rate schedules apply
based on filing status: single individuals (other than heads of
households and surviving spouses), heads of households, married
individuals filing joint returns (including surviving spouses),
married individuals filing separate returns, and estates and
trusts. Lower rates may apply to capital gains.
For 2003, the regular income tax rate schedules for
individuals are shown in Table 4, below. The rate bracket
breakpoints for married individuals filing separate returns are
exactly one-half of the rate brackets for married individuals
filing joint returns. A separate, compressed rate schedule
applies to estates and trusts.
TABLE 4.--INDIVIDUAL REGULAR INCOME TAX RATES FOR 2003
Then regular income
If taxable income is over: But not over: tax equals:
Single Individuals
$0.............................. $6,000 10% of taxable
income.
$6,000.......................... $28,400 $600, plus 15% of
the amount over
$6,000.
$28,400......................... $68,800 $3,960.00, plus 27%
of the amount over
$28,400.
$68,800......................... $143,500 $14,868.00, plus
30% of the amount
over $68,800.
$143,500........................ $311,950 $37,278.00, plus
35% of the amount
over $143,500.
Over 311,950.................... ................. $96,235.50, plus
38.6% of the
amount over
$311,950.
Head of Households
$0.............................. $10,000 10% of taxable
income.
$10,000......................... $38,050 $1,000, plus 15% of
the amount over
$10,000.
$38,050......................... $98,250 $5,207.50, plus 27%
of the amount over
$38,050.
$98,250......................... $159,100 $21,461.50, plus
30% of the amount
over $98,250.
$159,100........................ $311,950 $39,716.50, plus
35% of the amount
over $159,100.
Over 311,950.................... ................. $93,214, plus 38.6%
of the amount over
$311,950.
Married Individuals Filing Joint Returns
$0.............................. $12,000 10% of taxable
income.
$12,000......................... $47,450 $1,200, plus 15% of
the amount over
$12,000.
$47,450......................... $114,650 $6,517.50, plus 27%
of the amount over
$47,450.
$114,650........................ $174,700 $24,661.50, plus
30% of the amount
over $114,650.
$174,700........................ $311,950 $42,676.50, plus
35% of the amount
over $174,700.
Over 311,950.................... ................. $90,714, plus 38.6%
of the amount over
$311,950.
Ten-percent regular income tax rate
Under present law, the 10-percent rate applies to the
first $6,000 of taxable income for single individuals, $10,000
of taxable income for heads of households, and $12,000 for
married couples filing joint returns. Effective beginning in
2008, the $6,000 amount will increase to $7,000 and the $12,000
amount will increase to $14,000.
The taxable income levels for the 10-percent rate bracket
will be adjusted annually for inflation for taxable years
beginning after December 31, 2008. The bracket for single
individuals and married individuals filing separately is one-
half for joint returns (after adjustment of that bracket for
inflation).
The 10-percent rate bracket will expire for taxable years
beginning after December 31, 2010, under the sunset provision
of the Economic Growth and Tax Relief Reconciliation Act of
2001 (``EGTRRA'').
Reduction of other regular income tax rates
Prior to EGTRRA, the regular income tax rates were 15
percent, 28 percent, 31 percent, 36 percent, and 39.6
percent.\9\ EGTRRA added the 10-percent regular income tax
rate, described above, and retained the 15-percent regular
income tax rate. Also, the 15-percent regular income tax
bracket was modified to begin at the end of the 10-percent
regular income tax bracket. EGTRRA also made other changes to
the 15-percent regular income tax bracket.\10\
---------------------------------------------------------------------------
\9\ The regular income tax rates will revert to these percentages
for taxable years beginning after December 31, 2010, under the sunset
of EGTRRA.
\10\ See the discussion of the provision regarding marriage penalty
relief in the 15-percent regular income tax bracket, above.
---------------------------------------------------------------------------
Also, under EGTRRA, the 28 percent, 31 percent, 36
percent, and 39.6 percent rates are phased down over six years
to 25 percent, 28 percent, 33 percent, and 35 percent,
effective after June 30, 2001. The taxable income levels for
the rates above the 15-percent rate in all taxable years are
the same as the taxable income levels that apply under the
prior-law rates.
Table 5, below, shows the schedule of regular income tax
rate reductions.
TABLE 5.--SCHEDULED REGULAR INCOME TAX RATE REDUCTIONS
----------------------------------------------------------------------------------------------------------------
28% rate 31% rate 36% rate 39.6% rate
Taxable year reduced to: reduced to: reduced to: reduced to:
----------------------------------------------------------------------------------------------------------------
2001\1\-2003................................................ 27% 30% 35% 38.6%
2004-2005................................................... 26% 29% 34% 37.6%
2006 thru 2010\2\........................................... 25% 28% 33% 35.0%
----------------------------------------------------------------------------------------------------------------
\1\ Effective July 1, 2001.
\2\ The reduction in the regular income tax rates are repealed for taxable years beginning after December 31,
2010, under the sunset provision of EGTRRA.
Alternative minimum tax
The alternative minimum tax is the amount by which the
tentative minimum tax exceeds the regular income tax. An
individual's tentative minimum tax is an amount equal to (1) 26
percent of the first $175,000 ($87,500 in the case of a married
individual filing a separate return) of alternative minimum
taxable income (``AMTI'') in excess of a phased-out exemption
amount and (2) 28 percent of the remaining AMTI. The maximum
tax rates on net capital gain used in computing the tentative
minimum tax are the same as under the regular tax. AMTI is the
individual's taxable income adjusted to take account of
specified preferences and adjustments. The exemption amounts
are: (1) $49,000 ($45,000 in taxable years beginning after
2004) in the case of married individuals filing a joint return
and surviving spouses; (2) $35,750 ($33,750 in taxable years
beginning after 2004) in the case of other unmarried
individuals; (3) $24,500 ($22,500 in taxable years beginning
after 2004) in the case of married individuals filing a
separate return; and (4) $22,500 in the case of an estate or
trust. The exemption amounts are phased out by an amount equal
to 25 percent of the amount by which the individual's AMTI
exceeds (1) $150,000 in the case of married individuals filing
a joint return and surviving spouses, (2) $112,500 in the case
of other unmarried individuals, and (3) $75,000 in the case of
married individuals filing separate returns or an estate or a
trust. These amounts are not indexed for inflation.
HOUSE BILL
Ten-percent regular income tax rate
The House bill accelerates the increase in the taxable
income levels for the 10-percent rate bracket now scheduled for
2008 to be effective in 2003, 2004, and 2005. Specifically, for
2003, 2004, and 2005, the proposal increases the taxable income
level for the 10-percent regular income tax rate brackets for
unmarried individuals from $6,000 to $7,000 and for married
individuals filing jointly from $12,000 to $14,000. The taxable
income levels for the 10-percent regular income tax rate
bracket will be adjusted annually for inflation for taxable
years beginning after December 31, 2003.
For taxable years beginning after December 31, 2005, the
taxable income levels for the 10-percent rate bracket will
revert to the levels allowed under present law. Therefore, for
2006 and 2007, the levels will revert to $6,000 for unmarried
individuals and $12,000 for married individuals filing jointly.
In 2008, the taxable income levels for the 10-percent regular
income tax rate brackets will be $7,000 for unmarried
individuals and $14,000 for married individuals filing jointly.
The taxable income levels for the 10-percent rate bracket will
be adjusted annually for inflation for taxable years beginning
after December 31, 2008.
Reduction of other regular income tax rates
The House bill accelerates the reductions in the regular
income tax rates in excess of the 15-percent regular income tax
rate that are scheduled for 2004 and 2006. Therefore, for 2003
and thereafter, the regular income tax rates in excess of 15
percent under the bill are 25 percent, 28 percent, 33 percent,
and 35 percent.
Alternative minimum tax exemption amounts
The House bill increases the AMT exemption amount for
married taxpayers filing a joint return and surviving spouses
to $64,000, and for unmarried taxpayers to $43,250, for taxable
years beginning in 2003, 2004, and 2005.
Effective date
The House bill provision is effective for taxable years
beginning after December 31, 2002 and before January 1, 2006.
SENATE AMENDMENT
Ten-percent regular income tax rate
The Senate amendment accelerates the scheduled increase
in the taxable income levels for the 10-percent rate bracket.
Specifically, beginning in 2003, the Senate amendment increases
the taxable income level for the 10-percent regular income tax
rate brackets for single individuals from $6,000 to $7,000 and
for married individuals filing jointly from $12,000 to $14,000.
The taxable income levels for the 10-percent regular income tax
rate bracket will be adjusted annually for inflation for
taxable years beginning after December 31, 2003.
Reduction of other regular income tax rates
The Senate amendment accelerates the reductions in the
regular income tax rates in excess of the 15-percent regular
income tax rate that are scheduled for 2004 and 2006.
Therefore, for 2003 and thereafter, the regular income tax
rates in excess of 15 percent under the bill are 25 percent, 28
percent, 33 percent, and 35 percent.
Alternative minimum tax exemption amounts
The Senate amendment increases the AMT exemption amount
for married taxpayers filing a joint return and surviving
spouses to $60,500, and for unmarried taxpayers to $41,500, for
taxable years beginning in 2003, 2004 and 2005.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002
and before January 1, 2006.
CONFERENCE AGREEMENT
Ten-percent regular income tax rate
The conference agreement accelerates the increase in the
taxable income levels for the 10-percent rate bracket now
scheduled for 2008 to be effective in 2003 and 2004.
Specifically, for 2003 and 2004, the conference agreement
increases the taxable income level for the 10-percent regular
income tax rate brackets for unmarried individuals from $6,000
to $7,000 and for married individuals filing jointly from
$12,000 to $14,000. The taxable income levels for the 10-
percent regular income tax rate bracket will be adjusted
annually for inflation for taxable years beginning after
December 31, 2003.
For taxable years beginning after December 31, 2004, the
taxable income levels for the 10-percent rate bracket will
revert to the levels allowed under present law. Therefore, for
2005, 2006, and 2007, the levels will revert to $6,000 for
unmarried individuals and $12,000 for married individuals
filing jointly. In 2008, the taxable income levels for the 10-
percent regular income tax rate brackets will be $7,000 for
unmarried individuals and $14,000 for married individuals
filing jointly. The taxable income levels for the 10-percent
rate bracket will be adjusted annually for inflation for
taxable years beginning after December 31, 2008.
Reduction of other regular income tax rates
The conference agreement follows the House bill and the
Senate amendment.
Alternative minimum tax exemption amounts
The conference agreement increases the AMT exemption
amount for married taxpayers filing a joint return and
surviving spouses to $58,000, and for unmarried taxpayers to
$40,250 for taxable years beginning in 2003 and 2004.
Effective date
The conference agreement generally is effective for
taxable years beginning after December 31, 2002. The conferees
recognize that withholding at statutorily mandated rates (such
as pursuant to backup withholding under section 3406) has
already occurred. The conferees intend that taxpayers who have
been overwithheld as a consequence of this obtain a refund of
this overwithholding through the normal process of filing an
income tax return, and not through the payor. In addition, the
conferees anticipate that the Treasury will provide a brief,
reasonable period of transition for payors to implement these
changes in these statutorily mandated withholding rates.
II. Depreciation and Expensing Provisions
A. Special Depreciation Allowance for Certain Property (Sec. 201 of the
House Bill and Sec. 168 of the Code)
PRESENT LAW
In general
A taxpayer is allowed to recover, through annual
depreciation deductions, the cost of certain property used in a
trade or business or for the production of income. The amount
of the depreciation deduction allowed with respect to tangible
property for a taxable year is determined under the modified
accelerated cost recovery system (``MACRS''). Under MACRS,
different types of property generally are assigned applicable
recovery periods and depreciation methods. The recovery periods
applicable to most tangible personal property (generally
tangible property other than residential rental property and
nonresidential real property) range from 3 to 25 years. The
depreciation methods generally applicable to tangible personal
property are the 200-percent and 150-percent declining balance
methods, switching to the straight-line method for the taxable
year in which the depreciation deduction would be maximized.
Section 280F limits the annual depreciation deductions
with respect to passenger automobiles to specified dollar
amounts, indexed for inflation.
Section 167(f)(1) provides that capitalized computer
software costs, other than computer software to which section
197 applies, are recovered ratably over 36 months.
In lieu of depreciation, a taxpayer with a sufficiently
small amount of annual investment generally may elect to deduct
up to $25,000 of the cost of qualifying property placed in
service for the taxable year (sec. 179). In general, qualifying
property is defined as depreciable tangible personal property
that is purchased for use in the active conduct of a trade or
business.
Additional first year depreciation deduction
The Job Creation and Worker Assistance Act of 2002 \11\
(``JCWAA'') allows an additional first-year depreciation
deduction equal to 30 percent of the adjusted basis of
qualified property.\12\ The amount of the additional first-year
depreciation deduction is not affected by a short taxable year.
The additional first-year depreciation deduction is allowed for
both regular tax and alternative minimum tax purposes for the
taxable year in which the property is placed in service.\13\
The basis of the property and the depreciation allowances in
the year of purchase and later years are appropriately adjusted
to reflect the additional first-year depreciation deduction. In
addition, there are no adjustments to the allowable amount of
depreciation for purposes of computing a taxpayer's alternative
minimum taxable income with respect to property to which the
provision applies. A taxpayer is allowed to elect out of the
additional first-year depreciation for any class of property
for any taxable year.
---------------------------------------------------------------------------
\11\ Pub. Law No. 107-147, sec. 101 (2002).
\12\ The additional first-year depreciation deduction is subject to
the general rules regarding whether an item is deductible under section
162 or subject to capitalization under section 263 or section 263A.
\13\ However, the additional first-year depreciation deduction is
not allowed for purposes of computing earnings and profits.
---------------------------------------------------------------------------
In order for property to qualify for the additional
first-year depreciation deduction it must meet all of the
following requirements. First, the property must be property
(1) to which MACRS applies with an applicable recovery period
of 20 years or less, (2) water utility property (as defined in
section 168(e)(5)), (3) computer software other than computer
software covered by section 197, or (4) qualified leasehold
improvement property (as defined in section 168(k)(3)).\14\
Second, the original use \15\ of the property must commence
with the taxpayer on or after September 11, 2001.\16\ Third,
the taxpayer must purchase the property within the applicable
time period. Finally, the property must be placed in service
before January 1, 2005. An extension of the placed in service
date of one year (i.e., to January 1, 2006) is provided for
certain property with a recovery period of ten years or longer
and certain transportation property.\17\ Transportation
property is defined as tangible personal property used in the
trade or business of transporting persons or property.
---------------------------------------------------------------------------
\14\ A special rule precludes the additional first-year
depreciation deduction for any property that is required to be
depreciated under the alternative depreciation system of MACRS.
\15\ The term ``original use'' means the first use to which the
property is put, whether or not such use corresponds to the use of such
property by the taxpayer.
If in the normal course of its business a taxpayer sells fractional
interests in property to unrelated third parties, then the original use
of such property begins with the first user of each fractional interest
(i.e., each fractional owner is considered the original user of its
proportionate share of the property).
\16\ A special rule applies in the case of certain leased property.
In the case of any property that is originally placed in service by a
person and that is sold to the taxpayer and leased back to such person
by the taxpayer within three months after the date that the property
was placed in service, the property would be treated as originally
placed in service by the taxpayer not earlier than the date that the
property is used under the leaseback.
If property is originally placed in service by a lessor (including
by operation of section 168(k)(2)(D)(i)), such property is sold within
three months after the date that the property was placed in service,
and the user of such property does not change, then the property is
treated as originally placed in service by the taxpayer not earlier
than the date of such sale. A technical correction may be needed so the
statute reflects this intent.
\17\ In order for property to qualify for the extended placed in
service date, the property is required to have a production period
exceeding two years or an estimated production period exceeding one
year and a cost exceeding $1 million.
---------------------------------------------------------------------------
The applicable time period for acquired property is (1)
after September 10, 2001 and before September 11, 2004, but
only if no binding written contract for the acquisition is in
effect before September 11, 2001, or (2) pursuant to a binding
written contract which was entered into after September 10,
2001, and before September 11, 2004.\18\ With respect to
property that is manufactured, constructed, or produced by the
taxpayer for use by the taxpayer, the taxpayer must begin the
manufacture, construction, or production of the property after
September 10, 2001, and before September 11, 2004. Property
that is manufactured, constructed, or produced for the taxpayer
by another person under a contract that is entered into prior
to the manufacture, construction, or production of the property
is considered to be manufactured, constructed, or produced by
the taxpayer. For property eligible for the extended placed in
service date, a special rule limits the amount of costs
eligible for the additional first year depreciation. With
respect to such property, only the portion of the basis that is
properly attributable to the costs incurred before September
11, 2004 (``progress expenditures'') is eligible for the
additional first-year depreciation.\19\
---------------------------------------------------------------------------
\18\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to September 11, 2001.
\19\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to sec. 46(d)(3) as in
effect prior to the Tax Reform Act of 1986 shall apply.
---------------------------------------------------------------------------
Property does not qualify for the additional first-year
depreciation deduction when the user of such property (or a
related party) would not have been eligible for the additional
first-year depreciation deduction if the user (or a related
party) were treated as the owner.\20\ For example, if a
taxpayer sells to a related party property that was under
construction prior to September 11, 2001, the property does not
qualify for the additional first-year depreciation deduction.
Similarly, if a taxpayer sells to a related party property that
was subject to a binding written contract prior to September
11, 2001, the property does not qualify for the additional
first-year depreciation deduction. As a further example, if a
taxpayer (the lessee) sells property in a sale-leaseback
arrangement, and the property otherwise would not have
qualified for the additional first-year depreciation deduction
if it were owned by the taxpayer-lessee, then the lessor is not
entitled to the additional first-year depreciation deduction.
---------------------------------------------------------------------------
\20\ A technical correction may be needed so that the statute
reflects this intent.
---------------------------------------------------------------------------
The limitation on the amount of depreciation deductions
allowed with respect to certain passenger automobiles (sec.
280F) is increased in the first year by $4,600 for automobiles
that qualify (and do not elect out of the increased first year
deduction). The $4,600 increase is not indexed for inflation.
HOUSE BILL
The House bill provides an additional first-year
depreciation deduction equal to 50 percent of the adjusted
basis of qualified property.\21\ Qualified property is defined
in the same manner as for purposes of the 30-percent additional
first-year depreciation deduction provided by the JCWAA except
that the applicable time period for acquisition (or self
construction) of the property is modified. In addition,
property must be placed in service before January 1, 2006 to
qualify.\22\ Property for which the 50-percent additional first
year depreciation deduction is claimed is not eligible for the
30-percent additional first year depreciation deduction.
---------------------------------------------------------------------------
\21\ A taxpayer is permitted to elect out of the 50 percent
additional first-year depreciation deduction for any class of property
for any taxable year.
\22\ An extension of the placed in service date of one year (i.e.,
January 1, 2007) is provided for certain property with a recovery
period of ten years or longer and certain transportation property as
defined for purposes of the JCWAA.
---------------------------------------------------------------------------
Under the House bill, in order to qualify the property
must be acquired after May 5, 2003 and before January 1, 2006,
and no binding written contract for the acquisition is in
effect before May 6, 2003.\23\ With respect to property that is
manufactured, constructed, or produced by the taxpayer for use
by the taxpayer, the taxpayer must begin the manufacture,
construction, or production of the property after May 5, 2003.
For property eligible for the extended placed in service date
(i.e., certain property with a recovery period of ten years or
longer and certain transportation property), a special rule
limits the amount of costs eligible for the additional first
year depreciation. With respect to such property, only progress
expenditures properly attributable to the costs incurred before
January 1, 2006 shall be eligible for the additional first year
depreciation.\24\
---------------------------------------------------------------------------
\23\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to May 6, 2003. However,
no additional first-year depreciation is permitted on any such
component. No inference is intended as to the proper treatment of
components placed in service under the 30% additional first-year
depreciation provided by the JCWAA.
\24\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to sec. 46(d)(3) as in
effect prior to the Tax Reform Act of 1986 shall apply.
---------------------------------------------------------------------------
The Committee wishes to clarify that the adjusted basis
of qualified property acquired by a taxpayer in a like kind
exchange or an involuntary conversion is eligible for the
additional first year depreciation deduction.
The House bill also increases the limitation on the
amount of depreciation deductions allowed with respect to
certain passenger automobiles (sec. 280F of the Code) in the
first year by $9,200 (in lieu of the $4,600 provided under the
JCWAA) for automobiles that qualify (and do not elect out of
the increased first year deduction). The $9,200 increase is not
indexed for inflation.
For property eligible for the present law 30-percent
additional first year depreciation, the House bill extends the
date of the placed in service requirement to property placed in
service prior to January 1, 2006 (from January 1, 2005). Thus,
property otherwise qualifying for the 30-percent additional
first year depreciation deduction will now qualify if placed in
service prior to January 1, 2006. The House bill also extends
the placed in service date requirement for certain property
with a recovery period of ten years or longer and certain
transportation property to property placed in service prior to
January 1, 2007 (instead of January 1, 2006). In addition,
progress expenditures eligible for the 30-percent additional
first year depreciation is extended to include costs incurred
prior to January 1, 2006 (instead of September 11, 2004).
Effective date.--The House bill applies to property
placed in service after May 5, 2003.
SENATE AMENDMENT
No provision.
CONFERENCE AGREEMENT
The conference agreement follows the House bill provision
with the following modifications. The conference agreement
terminates the provision one year earlier than under the House
bill provision. Thus, all references to January 1, 2007, and
January 1, 2006, are modified to January 1, 2006, and January
1, 2005, respectively. In addition, the conference agreement
provides that the increase on the amount of depreciation
deductions allowed with respect to certain passenger
automobiles (sec. 280F of the Code) in the first year is $7,650
for automobiles that qualify. The $7,650 increase is not
indexed for inflation.
Effective date.--The conference agreement applies to
taxable years ending after May 5, 2003.
B. Increase Section 179 Expensing (Sec. 202 of the House Bill, Sec. 107
of the Senate Amendment, and Sec. 179 of the Code)
PRESENT LAW
Present law provides that, in lieu of depreciation, a
taxpayer with a sufficiently small amount of annual investment
may elect to deduct up to $25,000 (for taxable years beginning
in 2003 and thereafter) of the cost of qualifying property
placed in service for the taxable year (sec. 179).\25\ In
general, qualifying property is defined as depreciable tangible
personal property that is purchased for use in the active
conduct of a trade or business. The $25,000 amount is reduced
(but not below zero) by the amount by which the cost of
qualifying property placed in service during the taxable year
exceeds $200,000. An election to expense these items generally
is made on the taxpayer's original return for the taxable year
to which the election relates, and may be revoked only with the
consent of the Commissioner.\26\ In general, taxpayers may not
elect to expense off-the-shelf computer software.\27\
---------------------------------------------------------------------------
\25\ Additional section 179 incentives are provided with respect to
a qualified property used by a business in the New York Liberty Zone
(sec. 1400(f)) or an empowerment zone (sec. 1397A).
\26\ Section 179(c)(2). A taxpayer may make the election on the
original return (whether or not the return is timely), or on an amended
return filed by the due date (including extensions) for filing the
return for the tax year the property was placed in service. If the
taxpayer timely filed an original return without making the election,
the taxpayer may still make the election by filing an amended return
within six months of the due date of the return (excluding extensions).
Treas. Reg. sec. 1.179-5.
\27\ Section 179(d)(1) requires that property be tangible to be
eligible for expensing; in general, computer software is intangible
property.
---------------------------------------------------------------------------
The amount eligible to be expensed for a taxable year may
not exceed the taxable income for a taxable year that is
derived from the active conduct of a trade or business
(determined without regard to this provision). Any amount that
is not allowed as a deduction because of the taxable income
limitation may be carried forward to succeeding taxable years
(subject to similar limitations). No general business credit
under section 38 is allowed with respect to any amount for
which a deduction is allowed under section 179.
HOUSE BILL
The House bill provision provides that the maximum dollar
amount that may be deducted under section 179 is increased to
$100,000 for property placed in service in taxable years
beginning in 2003, 2004, 2005, 2006, and 2007. In addition, the
$200,000 amount is increased to $400,000 for property placed in
service in taxable years beginning in 2003, 2004, 2005, 2006
and 2007. The dollar limitations are indexed annually for
inflation for taxable years beginning after 2003 and before
2008. The provision also includes off-the-shelf computer
software placed in service in a taxable year beginning in 2003,
2004, 2005, 2006, or 2007, as qualifying property. With respect
to a taxable year beginning after 2002 and before 2008, the
provision permits taxpayers to make or revoke expensing
elections on amended returns without the consent of the
Commissioner.
Effective date.--The provision is effective for taxable
years beginning after December 31, 2002.
SENATE AMENDMENT
The Senate amendment is the same as the House bill.
CONFERENCE AGREEMENT
The conference agreement follows the House bill and the
Senate amendment, with modifications. The conference agreement
provides that the increase in the dollar limitations, as well
as the provision relating to off-the-shelf computer software,
apply for property placed in service in taxable years beginning
in 2003, 2004, and 2005. The conference agreement provides that
the dollar limitations are indexed annually for inflation for
taxable years beginning after 2003 and before 2006. With
respect to a taxable year beginning after 2002 and before 2006,
the conference agreement permits taxpayers to make or revoke
expensing elections on amended returns without the consent of
the Commissioner.
Effective date.--Same as the House bill and the Senate
amendment.
C. Five-Year Carryback of Net Operating Losses (Sec. 203 of the House
Bill and Secs. 172 and 56 of the Code)
PRESENT LAW
A net operating loss (``NOL'') is, generally, the amount
by which a taxpayer's allowable deductions exceed the
taxpayer's gross income. A carryback of an NOL generally
results in the refund of Federal income tax for the carryback
year. A carryforward of an NOL reduces Federal income tax for
the carryforward year.
In general, an NOL may be carried back two years and
carried forward 20 years to offset taxable income in such
years.\28\ Different rules apply with respect to NOLs arising
in certain circumstances. For example, a three-year carryback
applies with respect to NOLs (1) arising from casualty or theft
losses of individuals, or (2) attributable to Presidentially
declared disasters for taxpayers engaged in a farming business
or a small business. A five-year carryback period applies to
NOLs from a farming loss (regardless of whether the loss was
incurred in a Presidentially declared disaster area). Special
rules also apply to real estate investment trusts (no
carryback), specified liability losses (10-year carryback), and
excess interest losses (no carryback to any year preceding a
corporate equity reduction transaction).
---------------------------------------------------------------------------
\28\ Sec. 172.
---------------------------------------------------------------------------
The alternative minimum tax rules provide that a
taxpayer's NOL deduction cannot reduce the taxpayer's
alternative minimum taxable income (``AMTI'') by more than 90
percent of the AMTI (determined without regard to the NOL
deduction).
Section 202 of the Job Creation and Worker Assistance Act
of 2002 \29\ (``JCWAA'') provided a temporary extension of the
general NOL carryback period to five years (from two years) for
NOLs arising in taxable years ending in 2001 and 2002. In
addition, the five-year carryback period applies to NOLs from
these years that qualify under present law for a three-year
carryback period (i.e., NOLs arising from casualty or theft
losses of individuals or attributable to certain Presidentially
declared disaster areas).
---------------------------------------------------------------------------
\29\ Pub. L. No. 107-147.
---------------------------------------------------------------------------
A taxpayer can elect to forgo the five-year carryback
period. The election to forgo the five-year carryback period is
made in the manner prescribed by the Secretary of the Treasury
and must be made by the due date of the return (including
extensions) for the year of the loss. The election is
irrevocable. If a taxpayer elects to forgo the five-year
carryback period, then the losses are subject to the rules that
otherwise would apply under section 172 absent the
provision.\30\
---------------------------------------------------------------------------
\30\ Because JCWAA was enacted after some taxpayers had filed tax
returns for years affected by the provision, a technical correction is
needed to provide for a period of time in which prior decisions
regarding the NOL carryback may be reviewed. Similarly, a technical
correction is needed to modify the carryback adjustment procedures of
sec. 6411 for NOLs arising in 2001 and 2002. These issues were
addressed in a letter dated April 15, 2002, sent by the Chairmen and
Ranking Members of the House Ways and Means Committee and Senate
Finance Committee, as well as in guidance issued by the IRS pursuant to
the Congressional letter (Rev. Proc. 2002-40, 2002-23 I.R.B. 1096, June
10, 2002).
---------------------------------------------------------------------------
JCWAA also provided that an NOL deduction attributable to
NOL carrybacks arising in taxable years ending in 2001 and
2002, as well as NOL carryforwards to these taxable years, may
offset 100 percent of a taxpayer's AMTI.\31\
---------------------------------------------------------------------------
\31\ Section 172(b)(2) should be appropriately applied in computing
AMTI to take proper account of the order that the NOL carryovers and
carrybacks are used as a result of this provision. See section
56(d)(1)(B)(ii).
---------------------------------------------------------------------------
HOUSE BILL
The provision extends the provisions of the five-year
carryback of NOLs enacted in JCWAA to NOLs arising in taxable
years ending in 2003, 2004, and 2005.\32\
---------------------------------------------------------------------------
\32\ Because certain taxpayers may have already filed tax returns
(or in the process of filing tax returns) for taxable years ending in
2003, the proposal contains special rules to provide until November 1,
2003 in which prior decisions regarding the NOL carryback may be
reviewed by taxpayers.
---------------------------------------------------------------------------
The provision also allows an NOL deduction attributable
to NOL carrybacks arising in taxable years ending in 2003,
2004, and 2005, as well as NOL carryforwards to these taxable
years, to offset 100 percent of a taxpayer's AMTI.
Effective date.--The five-year carryback provision is
effective for net operating losses generated in taxable years
ending in 2003, 2004 and 2005. The provision relating to AMTI
is effective for NOL carrybacks arising in, and NOL
carryforwards to, taxable years ending in 2003, 2004 and 2005.
SENATE AMENDMENT
No provision.
CONFERENCE AGREEMENT
The conference agreement does not include the House bill
provision.
III. Capital Gains and Dividends Provisions
A. Reduce Individual Capital Gains Rates (Sec. 301 of the House Bill
and Sec. 1(h) of the Code)
PRESENT LAW
In general, gain or loss reflected in the value of an
asset is not recognized for income tax purposes until a
taxpayer disposes of the asset. On the sale or exchange of a
capital asset, any gain generally is included in income. Any
net capital gain of an individual is taxed at maximum rates
lower than the rates applicable to ordinary income. Net capital
gain is the excess of the net long-term capital gain for the
taxable year over the net short-term capital loss for the year.
Gain or loss is treated as long-term if the asset is held for
more than one year.
Capital losses generally are deductible in full against
capital gains. In addition, individual taxpayers may deduct
capital losses against up to $3,000 of ordinary income in each
year. Any remaining unused capital losses may be carried
forward indefinitely to another taxable year.
A capital asset generally means any property except (1)
inventory, stock in trade, or property held primarily for sale
to customers in the ordinary course of the taxpayer's trade or
business, (2) depreciable or real property used in the
taxpayer's trade or business, (3) specified literary or
artistic property, (4) business accounts or notes receivable,
(5) certain U.S. publications, (6) certain commodity derivative
financial instruments, (7) hedging transactions, and (8)
business supplies. In addition, the net gain from the
disposition of certain property used in the taxpayer's trade or
business is treated as long-term capital gain. Gain from the
disposition of depreciable personal property is not treated as
capital gain to the extent of all previous depreciation
allowances. Gain from the disposition of depreciable real
property is generally not treated as capital gain to the extent
of the depreciation allowances in excess of the allowances that
would have been available under the straight-line method of
depreciation.
The maximum rate of tax on the adjusted net capital gain
of an individual is 20 percent. In addition, any adjusted net
capital gain which otherwise would be taxed at a 15-percent
rate is taxed at a 10-percent rate. These rates apply for
purposes of both the regular tax and the alternative minimum
tax.
The ``adjusted net capital gain'' of an individual is the
net capital gain reduced (but not below zero) by the sum of the
28-percent rate gain and the unrecaptured section 1250 gain.
The net capital gain is reduced by the amount of gain that the
individual treats as investment income for purposes of
determining the investment interest limitation under section
163(d).
The term ``28-percent rate gain'' means the amount of net
gain attributable to long-term capital gains and losses from
the sale or exchange of collectibles (as defined in section
408(m) without regard to paragraph (3) thereof), an amount of
gain equal to the amount of gain excluded from gross income
under section 1202 (relating to certain small business
stock),\33\ the net short-term capital loss for the taxable
year, and any long-term capital loss carryover to the taxable
year.
---------------------------------------------------------------------------
\33\ This results in a maximum effective regular tax rate on
qualified gain from small business stock of 14 percent.
---------------------------------------------------------------------------
``Unrecaptured section 1250 gain'' means any long-term
capital gain from the sale or exchange of section 1250 property
(i.e., depreciable real estate) held more than one year to the
extent of the gain that would have been treated as ordinary
income if section 1250 applied to all depreciation, reduced by
the net loss (if any) attributable to the items taken into
account in computing 28-percent rate gain. The amount of
unrecaptured section 1250 gain (before the reduction for the
net loss) attributable to the disposition of property to which
section 1231 applies shall not exceed the net section 1231 gain
for the year.
The unrecaptured section 1250 gain is taxed at a maximum
rate of 25 percent, and the 28-percent rate gain is taxed at a
maximum rate of 28 percent. Any amount of unrecaptured section
1250 gain or 28-percent rate gain otherwise taxed at a 15-
percent rate is taxed at the 15-percent rate.
Any gain from the sale or exchange of property held more
than five years that would otherwise be taxed at the 10-percent
rate is taxed at an 8-percent rate. Any gain from the sale or
exchange of property held more than five years and the holding
period for which begins after December 31, 2000, which would
otherwise be taxed at a 20-percent rate is taxed at an 18-
percent rate.
HOUSE BILL
The House bill reduces the 10- and 20 percent rates on
the adjusted net capital gain to five and 15 percent,
respectively. These lower rates apply to both the regular tax
and the alternative minimum tax. The lower rates apply to
assets held more than one year.
Effective date.--The provision applies to taxable years
ending on or after May 6, 2003, and beginning before January 1,
2013. For taxable years that include May 6, 2003, the lower
rates apply to amounts properly taken into account for the
portion of the year on or after that date. This generally has
the effect of applying the lower rates to capital assets sold
or exchanged (and installment payments received) on or after
May 6, 2003. In the case of gain and loss taken into account by
a pass-through entity, the date taken into account by the
entity is the appropriate date for applying this rule.
SENATE AMENDMENT
No provision.
CONFERENCE AGREEMENT
The conference agreement follows the House bill, except
that the 5-percent tax rate is reduced to zero percent for
taxable years beginning after December 31, 2007.
Effective date.--The effective date is the same as the
House bill, except that the provision does not apply to taxable
years beginning after December 31, 2008.
B. Treatment of Dividend Income of Individuals (Sec. 302 of the House
Bill, Sec. 201 of the Senate Amendment, and Sec. 1(h) of the Code)
PRESENT LAW
Under present law, dividends received by an individual
are included in gross income and taxed as ordinary income at
rates up to 38.6 percent.\34\
---------------------------------------------------------------------------
\34\ Section 105 of the bill reduces the maximum rate to 35
percent.
---------------------------------------------------------------------------
The rate of tax on the net capital gain of an individual
generally is 20 percent (10 percent \35\ with respect to income
which would otherwise be taxed at the 10- or 15-percent
rate).\36\ Net capital gain means net gain from the sale or
exchange of capital assets held for more than one year in
excess of net loss from the sale or exchange of capital assets
held not more than one year.
---------------------------------------------------------------------------
\35\ An eight percent rate applies to property held more than five
years.
\36\ Section 301 of the bill reduces the capital gain rates to five
percent (zero percent for taxable years beginning after 2007) and 15
percent, respectively.
---------------------------------------------------------------------------
HOUSE BILL
Under the House bill, dividends received by an individual
shareholder from domestic corporations are taxed at the same
rates that apply to net capital gain. This treatment applies
for purposes of both the regular tax and the alternative
minimum tax. Thus, under the provision, dividends will be taxed
at rates of five and 15 percent.\37\
---------------------------------------------------------------------------
\37\ Payments in lieu of dividends are not eligible for the
exclusion. See sections 6042(a) and 6045(d) relating to statements
required to be furnished by brokers regarding these payments.
---------------------------------------------------------------------------
If a shareholder does not hold a share of stock for more
than 45 days during the 90-day period beginning 45 days before
the ex-dividend date (as measured under section 246(c)),\38\
dividends received on the stock are not eligible for the
reduced rates. Also, the reduced rates are not available for
dividends to the extent that the taxpayer is obligated to make
related payments with respect to positions in substantially
similar or related property.
---------------------------------------------------------------------------
\38\ In the case of preferred stock, the periods are doubled.
---------------------------------------------------------------------------
If an individual receives an extraordinary dividend
(within the meaning of section 1059(c)) eligible for the
reduced rates with respect to any share of stock, any loss on
the sale of the stock is treated as a long-term capital loss to
the extent of the dividend.
A dividend is treated as investment income for purposes
of determining the amount of deductible investment interest
only if the taxpayer elects to treat the dividend as not
eligible for the reduced rates.
The amount of dividends qualifying for reduced rates that
may be paid by a regulated investment company (``RIC'') or real
estate investment trust (``REIT''), for any taxable year that
the aggregate qualifying dividends received by the RIC or REIT
are less than 95 percent of its gross income (as specially
computed), may not exceed the amount of the aggregate
qualifying dividends received by the company or trust.
The reduced rates do not apply to dividends received from
an organization that was exempt from tax under section 501 or
was a tax-exempt farmers' cooperative in either the taxable
year of the distribution or the preceding taxable year;
dividends received from a mutual savings bank that received a
deduction under section 591; or deductible dividends paid on
employer securities.
The tax rate for the accumulated earnings tax (sec. 531)
and the personal holding company tax (sec. 541) is reduced to
15 percent.
Amounts treated as ordinary income on the disposition of
certain preferred stock (sec. 306) are treated as dividends for
purposes of applying the reduced rates.
The collapsible corporation rules (sec. 341) are
repealed.
Effective date.--The provision is effective for taxable
years beginning after December 31, 2002, and beginning before
January 1, 2013.
SENATE AMENDMENT
Under the Senate amendment, an individual may exclude
from gross income dividends received with respect to stock of a
domestic corporation, and stock of a foreign corporation that
is regularly tradable on an established securities market.
For taxable years beginning in 2003, 50 percent of the
dividend may be excluded from income. For taxable years
beginning after 2006, the exclusion no longer applies.
If a shareholder does not hold a share of stock for more
than 45 days during the 90-day period beginning 45 days before
the ex-dividend date (as measured under section 246(c)),\39\
dividends received on the stock are not eligible for the
exclusion. Also, the exclusion is not available for dividends
to the extent that the taxpayer is obligated to make related
payments with respect to positions in substantially similar or
related property.
---------------------------------------------------------------------------
\39\ In the case of preferred stock, the periods are doubled.
---------------------------------------------------------------------------
If an individual receives an extraordinary dividend
(within the meaning of section 1059(c)) eligible for the
exclusion with respect to any share of stock, the basis of the
share is reduced by the amount of the dividend excludable from
income.
A dividend is treated as investment income for purposes
of determining the amount of deductible investment interest
only if the taxpayer elects to treat the dividend as not
eligible for the exclusion.
The amount of dividends qualifying for the exclusion that
may be paid by a RIC or REIT, for any taxable year that the
aggregate qualifying dividends received by the company or trust
are less than 95 percent of its gross income (as specially
computed), may not exceed the amount of such aggregate
dividends received by the company or trust.
The exclusion does not apply to dividends received from
an organization that was exempt from tax under section 501 or
was a tax-exempt farmers' cooperative in either the taxable
year of the distribution or the preceding taxable year;
dividends received from a mutual savings bank that received a
deduction under section 591; deductible dividends paid on
employer securities; or dividends received from a foreign
corporation that was a foreign investment company (as defined
in section 1246(b)), a passive foreign investment company (as
defined in section 1297), or a foreign personal holding company
(as defined in section 552) in either the taxable year of the
distribution or the preceding taxable year.
In the case of a nonresident alien, the exclusion applies
only for purposes of determining the taxes imposed pursuant to
sections 871(b) and 877.
No foreign tax credit, or deduction with respect to taxes
paid, is allowable with respect to dividends excluded under
this provision.
Dividends excluded under the proposal are included in
modified adjusted gross income for purposes of the provisions
of the Code determining the amount of any income inclusion,
exclusion, deduction or credit based on the amount of that
income.\40\ Also in determining eligibility for the earned
income credit, any dividends excluded from gross income under
this provision are included in disqualified income for purposes
of the determining whether the individual has excessive
investment income.
---------------------------------------------------------------------------
\40\ These provisions include sections 86, 135, 137, 219, 221, 222,
408A, 469, 530, and the nonrefundable personal credits.
---------------------------------------------------------------------------
The tax rate for the accumulated earnings tax (sec. 531)
and the personal holding company tax (sec. 541) is the taxable
percent (i.e., 100 percent less the excludable percentage
applicable to dividends received in the taxable year) of the
highest individual tax rate.
Amounts treated as ordinary income on the disposition of
certain preferred stock (sec. 306) are treated as dividends for
purposes of the exclusion.
The collapsible corporation rules (sec. 341) are
repealed.
Effective date.--The provision is effective for taxable
years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement follows the House bill taxing
dividends at the same rates as net capital gain with the
following modifications:
The 45-day holding period requirement is increased to 60
days during the 120-day period beginning 60 days before the ex-
dividend date.
Qualified dividend income includes otherwise qualified
dividends received from qualified foreign corporations. The
term ``qualified foreign corporation'' includes a foreign
corporation that is eligible for the benefits of a
comprehensive income tax treaty with the United States which
the Treasury Department determines to be satisfactory for
purposes of this provision, and which includes an exchange of
information program. The conferees do not believe that the
current income tax treaty between the United States and
Barbados is satisfactory for this purpose because that treaty
may operate to provide benefits that are intended for the
purpose of mitigating or eliminating double taxation to
corporations that are not at risk of double taxation. The
conferees intend that, until the Treasury Department issues
guidance regarding the determination of treaties as
satisfactory for this purpose, a foreign corporation will be
considered to be a qualified foreign corporation if it is
eligible for the benefits of a comprehensive income tax treaty
with the United States that includes an exchange of information
program other than the current U.S.-Barbados income tax treaty.
The conferees further intend that a company will be eligible
for benefits of a comprehensive income tax treaty within the
meaning of this provision if it would qualify for the benefits
of the treaty with respect to substantially all of its income
in the taxable year in which the dividend is paid.
In addition, a foreign corporation is treated as a
qualified foreign corporation with respect to any dividend paid
by the corporation with respect to stock that is readily
tradable on an established securities market in the United
States.\41\
---------------------------------------------------------------------------
\41\ For this purpose, a share shall be treated as so traded if an
American Depository Receipt (ADR) backed by such share is so traded.
---------------------------------------------------------------------------
Dividends received from a foreign corporation that was a
foreign investment company (as defined in section 1246(b)), a
passive foreign investment company (as defined in section
1297), or a foreign personal holding company (as defined in
section 552) in either the taxable year of the distribution or
the preceding taxable year are not qualified dividends.
Special rules apply in determining a taxpayer's foreign
tax credit limitation under section 904 in the case of
qualified dividend income. For these purposes, rules similar to
the rules of section 904(b)(2)(B) concerning adjustments to the
foreign tax credit limitation to reflect any capital gain rate
differential will apply to any qualified dividend income.
Additionally, it is anticipated that regulations promulgated
under this provision will coordinate the operation of the rules
applicable to qualified dividend income and capital gain.
In the case of a REIT, an amount equal to the excess of
the income subject to the taxes imposed by section 857(b)(1)
and the regulations prescribed under section 337(d) for the
preceding taxable year over the amount of these taxes for the
preceding taxable year is treated as qualified dividend income.
In the case of brokers and dealers who engage in
securities lending transactions, short sales, or other similar
transactions on behalf of their customers in the normal course
of their trade or business, the conferees intend that the IRS
will exercise its authority under section 6724(a) to waive
penalties where dealers and brokers attempt in good faith to
comply with the information reporting requirements under
sections 6042 and 6045, but are unable to reasonably comply
because of the period necessary to conform their information
reporting systems to the retroactive rate reductions on
qualified dividends provided by the conference agreement. In
addition, the conferees expect that individual taxpayers who
receive payments in lieu of dividends from these transactions
may treat the payments as dividend income to the extent that
the payments are reported to them as dividend income on their
Forms 1099-DIV received for calendar year 2003, unless they
know or have reason to know that the payments are in fact
payments in lieu of dividends rather than actual dividends. The
conferees expect that the Treasury Department will issue
guidance as rapidly as possible on information reporting with
respect to payments in lieu of dividends made to individuals.
The conference agreement provides that the amendment to
section 306 treating certain ordinary income as a dividend for
purposes of the rate computation under section 1(h) may also
apply to such other provisions as the Secretary may provide,
including provisions at the corporate level.
Effective date.--The conference agreement applies to
taxable years beginning after December 31, 2002, and beginning
before January 1, 2009.
IV. Corporate Estimated Taxes
A. Modification to Corporate Estimated Tax Requirements (Sec. 401 of
the House Bill)
PRESENT LAW
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability (section
6655). For a corporation whose taxable year is a calendar year,
these estimated tax payments must be made by April 15, June 15,
September 15, and December 15.
HOUSE BILL
With respect to corporate estimated tax payments due on
September 15, 2003, 52 percent is required to be paid by
October 1, 2003.
Effective date.--The provision is effective on the date
of enactment.
SENATE AMENDMENT
No provision.
CONFERENCE AGREEMENT
With respect to corporate estimated tax payments due on
September 15, 2003, 25 percent is required to be paid by
October 1, 2003.
Effective date.--The provision is effective on the date
of enactment.
V. Revenue Provisions
A. Provisions Designed To Curtail Tax Shelters
1. Clarification of the economic substance doctrine (sec. 301 of the
Senate amendment and sec. 7701 of the Code)
PRESENT LAW
In general
The Code provides specific rules regarding the
computation of taxable income, including the amount, timing,
source, and character of items of income, gain, loss and
deduction. These rules are designed to provide for the
computation of taxable income in a manner that provides for a
degree of specificity to both taxpayers and the government.
Taxpayers generally may plan their transactions in reliance on
these rules to determine the federal income tax consequences
arising from the transactions.
In addition to the statutory provisions, courts have
developed several doctrines that can be applied to deny the tax
benefits of tax motivated transactions, notwithstanding that
the transaction may satisfy the literal requirements of a
specific tax provision. The common-law doctrines are not
entirely distinguishable, and their application to a given set
of facts is often blurred by the courts and the IRS. Although
these doctrines serve an important role in the administration
of the tax system, invocation of these doctrines can be seen as
at odds with an objective, ``rule-based'' system of taxation.
Nonetheless, courts have applied the doctrines to deny tax
benefits arising from certain transactions.\42\
---------------------------------------------------------------------------
\42\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d 231 (3d
Cir. 1998), aff'g 73 T.C.M. (CCH) 2189 (1997), cert. denied 526 U.S.
1017 (1999).
---------------------------------------------------------------------------
A common-law doctrine applied with increasing frequency
is the ``economic substance'' doctrine. In general, this
doctrine denies tax benefits arising from transactions that do
not result in a meaningful change to the taxpayer's economic
position other than a purported reduction in federal income
tax.\43\
---------------------------------------------------------------------------
\43\ Closely related doctrines also applied by the courts
(sometimes interchangeable with the economic substance doctrine)
include the ``sham transaction doctrine'' and the ``business purpose
doctrine''. See, e.g., Knetsch v. United States, 364 U.S. 361 (1960)
(denying interest deductions on a ``sham transaction'' whose only
purpose was to create the deductions).
---------------------------------------------------------------------------
Economic substance doctrine
Courts generally deny claimed tax benefits if the
transaction that gives rise to those benefits lacks economic
substance independent of tax considerations--notwithstanding
that the purported activity actually occurred. The tax court
has described the doctrine as follows:
The tax law * * * requires that the intended
transactions have economic substance separate and
distinct from economic benefit achieved solely by tax
reduction. The doctrine of economic substance becomes
applicable, and a judicial remedy is warranted, where a
taxpayer seeks to claim tax benefits, unintended by
Congress, by means of transactions that serve no
economic purpose other than tax savings.\44\
---------------------------------------------------------------------------
\44\ ACM Partnership v. Commissioner, 73 T.C.M. at 2215.
---------------------------------------------------------------------------
Business purpose doctrine
Another common law doctrine that overlays and is often
considered together with (if not part and parcel of) the
economic substance doctrine is the business purpose doctrine.
The business purpose test is a subjective inquiry into the
motives of the taxpayer--that is, whether the taxpayer intended
the transaction to serve some useful non-tax purpose. In making
this determination, some courts have bifurcated a transaction
in which independent activities with non-tax objectives have
been combined with an unrelated item having only tax-avoidance
objectives in order to disallow the tax benefits of the overall
transaction.\45\
---------------------------------------------------------------------------
\45\ ACM Partnership v. Commissioner, 157 F.3d at 256 n.48.
---------------------------------------------------------------------------
Application by the courts
Elements of the doctrine
There is a lack of uniformity regarding the proper
application of the economic substance doctrine. Some courts
apply a conjunctive test that requires a taxpayer to establish
the presence of both economic substance (i.e., the objective
component) and business purpose (i.e., the subjective
component) in order for the transaction to sustain court
scrutiny.\46\ A narrower approach used by some courts is to
invoke the economic substance doctrine only after a
determination that the transaction lacks both a business
purpose and economic substance (i.e., the existence of either a
business purpose or economic substance would be sufficient to
respect the transaction).\47\ A third approach regards economic
substance and business purpose as ``simply more precise factors
to consider'' in determining whether a transaction has any
practical economic effects other than the creation of tax
benefits.\48\
---------------------------------------------------------------------------
\46\ See, e.g., Pasternak v. Commissioner, 990 F.2d 893, 898 (6th
Cir. 1993) (``The threshold question is whether the transaction has
economic substance. If the answer is yes, the question becomes whether
the taxpayer was motivated by profit to participate in the
transaction.'')
\47\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d 89,
91-92 (4th Cir. 1985) (``To treat a transaction as a sham, the court
must find that the taxpayer was motivated by no business purposes other
than obtaining tax benefits in entering the transaction, and, second,
that the transaction has no economic substance because no reasonable
possibility of a profit exists.''); IES Industries v. United States,
253 F.3d 350, 358 (8th Cir. 2001) (``In determining whether a
transaction is a sham for tax purposes [under the Eighth Circuit test],
a transaction will be characterized as a sham if it is not motivated by
any economic purpose out of tax considerations (the business purpose
test), and if it is without economic substance because no real
potential for profit exists'' (the economic substance test).'') As
noted earlier, the economic substance doctrine and the sham transaction
doctrine are similar and sometimes are applied interchangeably. For a
more detailed discussion of the sham transaction doctrine, see, e.g.,
Joint Committee on Taxation, Study of Present-Law Penalty and Interest
Provisions as Required by Section 3801 of the Internal Revenue Service
Restructuring and Reform Act of 1998 (including Provisions Relating to
Corporate Tax Shelters) (JCS-3-99) at 182.
\48\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d at 247;
James v. Commissioner, 899 F.2d 905, 908 (10th Cir. 1995); Sacks v.
Commissioner, 69 F.3d 982, 985 (9th Cir. 1995) (``Instead, the
consideration of business purpose and economic substance are simply
more precise factors to consider * * * . We have repeatedly and
carefully noted that this formulation cannot be used as a `rigid two-
step analysis'.'').
---------------------------------------------------------------------------
Profit potential
There also is a lack of uniformity regarding the
necessity and level of profit potential necessary to establish
economic substance. Since the time of Gregory, several courts
have denied tax benefits on the grounds that the subject
transactions lacked profit potential.\49\ In addition, some
courts have applied the economic substance doctrine to disallow
tax benefits in transactions in which a taxpayer was exposed to
risk and the transaction had a profit potential, but the court
concluded that the economic risks and profit potential were
insignificant when compared to the tax benefits.\50\ Under this
analysis, the taxpayer's profit potential must be more than
nominal. Conversely, other courts view the application of the
economic substance doctrine as requiring an objective
determination of whether a ``reasonable possibility of profit''
from the transaction existed apart from the tax benefits.\51\
In these cases, in assessing whether a reasonable possibility
of profit exists, it is sufficient if there is a nominal amount
of pre-tax profit as measured against expected net tax
benefits.
---------------------------------------------------------------------------
\49\ See, e.g., Knetsch, 364 U.S. at 361; Goldstein v.
Commissioner, 364 F.2d 734 (2d Cir. 1966) (holding that an
unprofitable, leveraged acquisition of Treasury bills, and accompanying
prepaid interest deduction, lacked economic substance); Ginsburg v.
Commissioner, 35 T.C.M. (CCH) 860 (1976) (holding that a leveraged
cattle-breeding program lacked economic substance).
\50\ See, e.g., Goldstein v. Commissioner, 364 F.2d at 739-40
(disallowing deduction even though taxpayer had a possibility of small
gain or loss by owning Treasury bills); Sheldon v. Commissioner, 94
T.C. 738, 768 (1990) (stating, ``potential for gain * * * is
infinitesimally nominal and vastly insignificant when considered in
comparison with the claimed deductions'').
\51\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d at 94
(the economic substance inquiry requires an objective determination of
whether a reasonable possibility of profit from the transaction existed
apart from tax benefits); Compaq Computer Corp. v. Commissioner, 277
F.3d at 781 (applied the same test, citing Rice's Toyota World); IES
Industries v. United States, 253 F.3d at 354 (the application of the
objective economic substance test involves determining whether there
was a ``reasonable possibility of profit * * * apart from tax
benefits.'').
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
In general
The Senate amendment clarifies and enhances the
application of the economic substance doctrine. The Senate
amendment provides that a transaction has economic substance
(and thus satisfies the economic substance doctrine) only if
the taxpayer establishes that (1) the transaction changes in a
meaningful way (apart from Federal income tax consequences) the
taxpayer's economic position, and (2) the taxpayer has a
substantial non-tax purpose for entering into such transaction
and the transaction is a reasonable means of accomplishing such
purpose.\52\
---------------------------------------------------------------------------
\52\ If the tax benefits are clearly contemplated and expected by
the language and purpose of the relevant authority, it is not intended
that such tax benefits be disallowed if the only reason for such
disallowance is that the transaction fails the economic substance
doctrine as defined in this provision.
---------------------------------------------------------------------------
The Senate amendment does not change current law
standards used by courts in determining when to utilize an
economic substance analysis. Also, the Senate amendment does
not alter the court's ability to aggregate or disaggregate a
transaction when applying the doctrine. The Senate amendment
provides a uniform definition of economic substance, but does
not alter court flexibility in other respects.
Conjunctive analysis
The Senate amendment clarifies that the economic
substance doctrine involves a conjunctive analysis--there must
be an objective inquiry regarding the effects of the
transaction on the taxpayer's economic position, as well as a
subjective inquiry regarding the taxpayer's motives for
engaging in the transaction. Under the Senate amendment, a
transaction must satisfy both tests--i.e., it must change in a
meaningful way (apart from Federal income tax consequences) the
taxpayer's economic position, and the taxpayer must have a
substantial non-tax purpose for entering into such transaction
(and the transaction is a reasonable means of accomplishing
such purpose)--in order to satisfy the economic substance
doctrine. This clarification eliminates the disparity that
exists among the circuits regarding the application of the
doctrine, and modifies its application in those circuits in
which either a change in economic position or a non-tax
business purpose (without having both) is sufficient to satisfy
the economic substance doctrine.
Non-tax business purpose
The Senate amendment provides that a taxpayer's non-tax
purpose for entering into a transaction (the second prong in
the analysis) must be ``substantial,'' and that the transaction
must be ``a reasonable means'' of accomplishing such purpose.
Under this formulation, the non-tax purpose for the transaction
must bear a reasonable relationship to the taxpayer's normal
business operations or investment activities.\53\
---------------------------------------------------------------------------
\53\ See, Martin McMahon Jr., Economic Substance, Purposive
Activity, and Corporate Tax Shelters, 94 Tax Notes 1017, 1023 (Feb. 25,
2002) (advocates ``confining the most rigorous application of business
purpose, economic substance, and purposive activity tests to
transactions outside the ordinary course of the taxpayer's business--
those transactions that do not appear to contribute to any business
activity or objective that the taxpayer may have had apart from tax
planning but are merely loss generators.''); Mark P. Gergen, The Common
Knowledge of Tax Abuse, 54 SMU L. Rev. 131, 140 (Winter 2001) (``The
message is that you can pick up tax gold if you find it in the street
while going about your business, but you cannot go hunting for it.'').
---------------------------------------------------------------------------
In determining whether a taxpayer has a substantial non-
tax business purpose, an objective of achieving a favorable
accounting treatment for financial reporting purposes will not
be treated as having a substantial non-tax purpose if the
origin of such financial accounting benefit is a reduction of
income tax. Furthermore, a transaction that is expected to
increase financial accounting income as a result of generating
tax deductions or losses without a corresponding financial
accounting charge (i.e., a permanent book-tax difference) \54\
should not be considered to have a substantial non-tax purpose
unless a substantial non-tax purpose exists apart from the
financial accounting benefits.\55\
---------------------------------------------------------------------------
\54\ This includes tax deductions or losses that are anticipated to
be recognized in a period subsequent to the period the financial
accounting benefit is recognized. For example, FAS 109 in some cases
permits the recognition of financial accounting benefits prior to the
period in which the tax benefits are recognized for income tax
purposes.
\55\ Claiming that a financial accounting benefit constitutes a
substantial non-tax purpose fails to consider the origin of the
accounting benefit (i.e., reduction of taxes) and significantly
diminishes the purpose for having a substantial non-tax purpose
requirement. See, e.g., American Electric Power, Inc. v. U.S., 136 F.
Supp. 2d 762, 791-92 (S.D. Ohio, 2001), aff'd by 2003 Fed. App. para.
0125 (CCH) (6th Cir. 2003) (``AEP's intended use of the cash flows
generated by the [corporate-owned life insurance] plan is irrelevant to
the subjective prong of the economic substance analysis. If a
legitimate business purpose for the use of the tax savings `were
sufficient to breathe substance into a transaction whose only purpose
was to reduce taxes, [then] every sham tax-shelter device might
succeed,' '' citing Winn-Dixie v. Commissioner, 113 T.C. 254, 287
(1999)).
---------------------------------------------------------------------------
By requiring that a transaction be a ``reasonable means''
of accomplishing its non-tax purpose, the Senate amendment
broadens the ability of the courts to bifurcate a transaction
in which independent activities with non-tax objectives are
combined with an unrelated item having only tax-avoidance
objectives in order to disallow the tax benefits of the overall
transaction.
Profit potential
Under the Senate amendment, a taxpayer may rely on
factors other than profit potential to demonstrate that a
transaction results in a meaningful change in the taxpayer's
economic position; the Senate amendment merely sets forth a
minimum threshold of profit potential if that test is relied on
to demonstrate a meaningful change in economic position. If a
taxpayer relies on a profit potential, however, the present
value of the reasonably expected pre-tax profit must be
substantial in relation to the present value of the expected
net tax benefits that would be allowed if the transaction were
respected.\56\ Moreover, the profit potential must exceed a
risk-free rate of return. In addition, in determining pre-tax
profit, fees and other transaction expenses and foreign taxes
are treated as expenses.
---------------------------------------------------------------------------
\56\ Thus, a ``reasonable possibility of profit'' will not be
sufficient to establish that a transaction has economic substance.
---------------------------------------------------------------------------
A lessor of tangible property subject to a qualified
lease shall be considered to have satisfied the profit test
with respect to the leased property. For this purpose, a
``qualified lease'' is a lease that satisfies the factors for
advance ruling purposes as provided by the Treasury
Department.\57\ In applying the profit test to the lessor of
tangible property, certain deductions and other applicable tax
credits (such as the rehabilitation tax credit and the low
income housing tax credit) are not taken into account in
measuring tax benefits. Thus, a traditional leveraged lease is
not affected by the Senate amendment to the extent it meets the
present law standards.
---------------------------------------------------------------------------
\57\ See Rev. Proc. 2001-28, 2001-19 I.R.B. 1156 which provides
guidelines that must be present for a lease to be eligible for advance
ruling purposes. It is intended that a lease that satisfies Treasury
Department guidelines for advance ruling purposes would be treated as a
qualified lease.
---------------------------------------------------------------------------
Transactions with tax-indifferent parties
The Senate amendment also provides special rules for
transactions with tax-indifferent parties. For this purpose, a
tax-indifferent party means any person or entity not subject to
Federal income tax, or any person to whom an item would have no
substantial impact on its income tax liability. Under these
rules, the form of a financing transaction will not be
respected if the present value of the tax deductions to be
claimed is substantially in excess of the present value of the
anticipated economic returns to the lender. Also, the form of a
transaction with a tax-indifferent party will not be respected
if it results in an allocation of income or gain to the tax-
indifferent party in excess of the tax-indifferent party's
economic gain or income or if the transaction results in the
shifting of basis on account of overstating the income or gain
of the tax-indifferent party.
Other rules
The Secretary may prescribe regulations which provide (1)
exemptions from the application of the Senate amendment, and
(2) other rules as may be necessary or appropriate to carry out
the purposes of the Senate amendment.
No inference is intended as to the proper application of
the economic substance doctrine under present law. In addition,
except with respect to the economic substance doctrine, the
Senate amendment shall not be construed as altering or
supplanting any other common law doctrine (including the sham
transaction doctrine), and the Senate amendment shall be
construed as being additive to any such other doctrine.
Effective date
The provision applies to transactions entered into on or
after May 8, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Penalty for failure to disclose reportable transactions (sec. 302 of
the Senate amendment and sec. 6707A of the Code)
PRESENT LAW
Regulations under section 6011 require a taxpayer to
disclose with its tax return certain information with respect
to each ``reportable transaction'' in which the taxpayer
participates.\58\
---------------------------------------------------------------------------
\58\ On February 27, 2003, the Treasury Department and the IRS
released final regulations regarding the disclosure of reportable
transactions. In general, the regulations are effective for
transactions entered into on or after February 28, 2003.
The discussion of present law refers to the new regulations. The
rules that apply with respect to transactions entered into on or before
February 28, 2003, are contained in Treas. Reg. sec. 1.6011-4T in
effect on the date the transaction was entered into.
---------------------------------------------------------------------------
There are six categories of reportable transactions. The
first category is any transaction that is the same as (or
substantially similar to)\59\ a transaction that is specified
by the Treasury Department as a tax avoidance transaction whose
tax benefits are subject to disallowance under present law
(referred to as a ``listed transaction'').\60\
---------------------------------------------------------------------------
\59\ The regulations clarify that the term ``substantially
similar'' includes any transaction that is expected to obtain the same
or similar types of tax consequences and that is either factually
similar or based on the same or similar tax strategy. Further, the term
must be broadly construed in favor of disclosure. Treas. Reg. sec. 1-
6011-4(c)(4).
\60\ Treas. Reg. sec. 1.6011-4(b)(2).
---------------------------------------------------------------------------
The second category is any transaction that is offered
under conditions of confidentiality. In general, if a
taxpayer's disclosure of the structure or tax aspects of the
transaction is limited in any way by an express or implied
understanding or agreement with or for the benefit of any
person who makes or provides a statement, oral or written, as
to the potential tax consequences that may result from the
transaction, it is considered offered under conditions of
confidentiality (whether or not the understanding is legally
binding).\61\
---------------------------------------------------------------------------
\61\ Treas. Reg. sec. 1.6011-4(b)(3).
---------------------------------------------------------------------------
The third category of reportable transactions is any
transaction for which (1) the taxpayer has the right to a full
or partial refund of fees if the intended tax consequences from
the transaction are not sustained or, (2) the fees are
contingent on the intended tax consequences from the
transaction being sustained.\62\
---------------------------------------------------------------------------
\62\ Treas. Reg. sec. 1.6011-4(b)(4).
---------------------------------------------------------------------------
The fourth category of reportable transactions relates to
any transaction resulting in a taxpayer claiming a loss (under
section 165) of at least (1) $10 million in any single year or
$20 million in any combination of years by a corporate taxpayer
or a partnership with only corporate partners; (2) $2 million
in any single year or $4 million in any combination of years by
all other partnerships, S corporations, trusts, and
individuals; or (3) $50,000 in any single year for individuals
or trusts if the loss arises with respect to foreign currency
translation losses.\63\
---------------------------------------------------------------------------
\63\ Treas. Reg. sec. 1.6011-4(b)(5). IRS Rev. Proc. 2003-24, 2003-
11 I.R.B. 599, exempts certain types of losses from this reportable
transaction category.
---------------------------------------------------------------------------
The fifth category of reportable transactions refers to
any transaction done by certain taxpayers \64\ in which the tax
treatment of the transaction differs (or is expected to differ)
by more than $10 million from its treatment for book purposes
(using generally accepted accounting principles) in any
year.\65\
---------------------------------------------------------------------------
\64\ The significant book-tax category applies only to taxpayers
that are reporting companies under the Securities Exchange Act of 1934
or business entities that have $250 million or more in gross assets.
\65\ Treas. Reg. sec. 1.6011-4(b)(6). IRS Rev. Proc. 2003-25, 2003-
11 I.R.B. 601, exempts certain types of transactions from this
reportable transaction category.
---------------------------------------------------------------------------
The final category of reportable transactions is any
transaction that results in a tax credit exceeding $250,000
(including a foreign tax credit) if the taxpayer holds the
underlying asset for less than 45 days.\66\
---------------------------------------------------------------------------
\66\ Treas. Reg. sec. 1.6011-4(b)(7).
---------------------------------------------------------------------------
Under present law, there is no specific penalty for
failing to disclose a reportable transaction; however, such a
failure may jeopardize a taxpayer's ability to claim that any
income tax understatement attributable to such undisclosed
transaction is due to reasonable cause, and that the taxpayer
acted in good faith.\67\
---------------------------------------------------------------------------
\67\ Section 6664(c) provides that a taxpayer can avoid the
imposition of a section 6662 accuracy-related penalty in cases where
the taxpayer can demonstrate that there was reasonable cause for the
underpayment and that the taxpayer acted in good faith. On December 31,
2002, the Treasury Department and IRS issued proposed regulations under
sections 6662 and 6664 (REG-126016-01) that limit the defenses
available to the imposition of an accuracy-related penalty in
connection with a reportable transaction when the transaction is not
disclosed.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
In general
The Senate amendment creates a new penalty for any person
who fails to include with any return or statement any required
information with respect to a reportable transaction. The new
penalty applies without regard to whether the transaction
ultimately results in an understatement of tax, and applies in
addition to any accuracy-related penalty that may be imposed.
Transactions to be disclosed
The Senate amendment does not define the terms ``listed
transaction'' \68\ or ``reportable transaction,'' nor does the
Senate amendment explain the type of information that must be
disclosed in order to avoid the imposition of a penalty.
Rather, the Senate amendment authorizes the Treasury Department
to define a ``listed transaction'' and a ``reportable
transaction'' under section 6011.
---------------------------------------------------------------------------
\68\ The provision states that, except as provided in regulations,
a listed transaction means a reportable transaction, which is the same
as, or substantially similar to, a transaction specifically identified
by the Secretary as a tax avoidance transaction for purposes of section
6011. For this purpose, it is expected that the definition of
``substantially similar'' will be the definition used in Treas. Reg.
sec. 1.6011-4(c)(4). However, the Secretary may modify this definition
(as well as the definitions of ``listed transaction'' and ``reportable
transactions'') as appropriate.
---------------------------------------------------------------------------
Penalty rate
The penalty for failing to disclose a reportable
transaction is $50,000. The amount is increased to $100,000 if
the failure is with respect to a listed transaction. For large
entities and high net worth individuals, the penalty amount is
doubled (i.e., $100,000 for a reportable transaction and
$200,000 for a listed transaction). The penalty cannot be
waived with respect to a listed transaction. As to reportable
transactions, the penalty can be rescinded (or abated) only if:
(1) the taxpayer on whom the penalty is imposed has a history
of complying with the Federal tax laws, (2) it is shown that
the violation is due to an unintentional mistake of fact, (3)
imposing the penalty would be against equity and good
conscience, and (4) rescinding the penalty would promote
compliance with the tax laws and effective tax administration.
The authority to rescind the penalty can only be exercised by
the IRS Commissioner personally or the head of the Office of
Tax Shelter Analysis. Thus, the penalty cannot be rescinded by
a revenue agent, an Appeals officer, or any other IRS
personnel. The decision to rescind a penalty must be
accompanied by a record describing the facts and reasons for
the action and the amount rescinded. There will be no taxpayer
right to appeal a refusal to rescind a penalty. The IRS also is
required to submit an annual report to Congress summarizing the
application of the disclosure penalties and providing a
description of each penalty rescinded under this provision and
the reasons for the rescission.
A ``large entity'' is defined as any entity with gross
receipts in excess of $10 million in the year of the
transaction or in the preceding year. A ``high net worth
individual'' is defined as any individual whose net worth
exceeds $2 million, based on the fair market value of the
individual's assets and liabilities immediately before entering
into the transaction.
A public entity that is required to pay a penalty for
failing to disclose a listed transaction (or is subject to an
understatement penalty attributable to a non-disclosed listed
transaction, a non-disclosed reportable avoidance
transaction,\69\ or a transaction that lacks economic
substance) must disclose the imposition of the penalty in
reports to the Securities and Exchange Commission for such
period as the Secretary shall specify. The provision applies
without regard to whether the taxpayer determines the amount of
the penalty to be material to the reports in which the penalty
must appear, and treats any failure to disclose a transaction
in such reports as a failure to disclose a listed transaction.
A taxpayer must disclose a penalty in reports to the Securities
and Exchange Commission once the taxpayer has exhausted its
administrative and judicial remedies with respect to the
penalty (or if earlier, when paid).
---------------------------------------------------------------------------
\69\ A reportable avoidance transaction is a reportable transaction
with a significant tax avoidance purpose.
---------------------------------------------------------------------------
Effective date
The provision is effective for returns and statements the
due date for which is after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Modifications to the accuracy-related penalties for listed
transactions and reportable transactions having a significant
tax avoidance purpose (sec. 303 of the Senate amendment and
sec. 6662A of the Code)
PRESENT LAW
The accuracy-related penalty applies to the portion of
any underpayment that is attributable to (1) negligence, (2)
any substantial understatement of income tax, (3) any
substantial valuation misstatement, (4) any substantial
overstatement of pension liabilities, or (5) any substantial
estate or gift tax valuation understatement. If the correct
income tax liability exceeds that reported by the taxpayer by
the greater of 10 percent of the correct tax or $5,000 ($10,000
in the case of corporations), then a substantial understatement
exists and a penalty may be imposed equal to 20 percent of the
underpayment of tax attributable to the understatement.\70\ The
amount of any understatement generally is reduced by any
portion attributable to an item if (1) the treatment of the
item is supported by substantial authority, or (2) facts
relevant to the tax treatment of the item were adequately
disclosed and there was a reasonable basis for its tax
treatment.\71\
---------------------------------------------------------------------------
\70\ Sec. 6662.
\71\ Sec. 6662(d)(2)(B).
---------------------------------------------------------------------------
Special rules apply with respect to tax shelters.\72\ For
understatements by non-corporate taxpayers attributable to tax
shelters, the penalty may be avoided only if the taxpayer
establishes that, in addition to having substantial authority
for the position, the taxpayer reasonably believed that the
treatment claimed was more likely than not the proper treatment
of the item. This reduction in the penalty is unavailable to
corporate tax shelters.
---------------------------------------------------------------------------
\72\ Sec. 6662(d)(2)(C).
---------------------------------------------------------------------------
The understatement penalty generally is abated (even with
respect to tax shelters) in cases in which the taxpayer can
demonstrate that there was ``reasonable cause'' for the
underpayment and that the taxpayer acted in good faith.\73\ The
relevant regulations provide that reasonable cause exists where
the taxpayer ``reasonably relies in good faith on an opinion
based on a professional tax advisor's analysis of the pertinent
facts and authorities [that] * * * unambiguously concludes that
there is a greater than 50-percent likelihood that the tax
treatment of the item will be upheld if challenged'' by the
IRS.\74\
---------------------------------------------------------------------------
\73\ Sec. 6664(c).
\74\ Treas. Reg. sec. 1.6662-4(g)(4)(i)(B); Treas. Reg. sec.
1.6664-4(c).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
In general
The Senate amendment modifies the present-law accuracy
related penalty by replacing the rules applicable to tax
shelters with a new accuracy-related penalty that applies to
listed transactions and reportable transactions with a
significant tax avoidance purpose (hereinafter referred to as a
``reportable avoidance transaction'').\75\ The penalty rate and
defenses available to avoid the penalty vary depending on
whether the transaction was adequately disclosed.
---------------------------------------------------------------------------
\75\ The terms ``reportable transaction'' and ``listed
transaction'' have the same meanings as used for purposes of the
penalty for failing to disclose reportable transactions.
---------------------------------------------------------------------------
Disclosed transactions
In general, a 20-percent accuracy-related penalty is
imposed on any understatement attributable to an adequately
disclosed listed transaction or reportable avoidance
transaction. The only exception to the penalty is if the
taxpayer satisfies a more stringent reasonable cause and good
faith exception (hereinafter referred to as the ``strengthened
reasonable cause exception''), which is described below. The
strengthened reasonable cause exception is available only if
the relevant facts affecting the tax treatment are adequately
disclosed, there is or was substantial authority for the
claimed tax treatment, and the taxpayer reasonably believed
that the claimed tax treatment was more likely than not the
proper treatment.
Undisclosed transactions
If the taxpayer does not adequately disclose the
transaction, the strengthened reasonable cause exception is not
available (i.e., a strict-liability penalty applies), and the
taxpayer is subject to an increased penalty rate equal to 30
percent of the understatement.
In addition, a public entity that is required to pay the
30 percent penalty must disclose the imposition of the penalty
in reports to the SEC for such periods as the Secretary shall
specify. The disclosure to the SEC applies without regard to
whether the taxpayer determines the amount of the penalty to be
material to the reports in which the penalty must appear, and
any failure to disclose such penalty in the reports is treated
as a failure to disclose a listed transaction. A taxpayer must
disclose a penalty in reports to the SEC once the taxpayer has
exhausted its administrative and judicial remedies with respect
to the penalty (or if earlier, when paid).
Once the 30 percent penalty has been included in the
Revenue Agent Report, the penalty cannot be compromised for
purposes of a settlement without approval of the Commissioner
personally or the head of the Office of Tax Shelter Analysis.
Furthermore, the IRS is required to submit an annual report to
Congress summarizing the application of this penalty and
providing a description of each penalty compromised under this
provision and the reasons for the compromise.
Determination of the understatement amount
The penalty is applied to the amount of any
understatement attributable to the listed or reportable
avoidance transaction without regard to other items on the tax
return. For purposes of the Senate amendment, the amount of the
understatement is determined as the sum of (1) the product of
the highest corporate or individual tax rate (as appropriate)
and the increase in taxable income resulting from the
difference between the taxpayer's treatment of the item and the
proper treatment of the item (without regard to other items on
the tax return),\76\ and (2) the amount of any decrease in the
aggregate amount of credits which results from a difference
between the taxpayer's treatment of an item and the proper tax
treatment of such item.
---------------------------------------------------------------------------
\76\ For this purpose, any reduction in the excess of deductions
allowed for the taxable year over gross income for such year, and any
reduction in the amount of capital losses which would (without regard
to section 1211) be allowed for such year, shall be treated as an
increase in taxable income.
---------------------------------------------------------------------------
Except as provided in regulations, a taxpayer's treatment
of an item shall not take into account any amendment or
supplement to a return if the amendment or supplement is filed
after the earlier of when the taxpayer is first contacted
regarding an examination of the return or such other date as
specified by the Secretary.
Strengthened reasonable cause exception
A penalty is not imposed under the Senate amendment with
respect to any portion of an understatement if it show that
there was reasonable cause for such portion and the taxpayer
acted in good faith. Such a showing requires (1) adequate
disclosure of the facts affecting the transaction in accordance
with the regulations under section 6011,\77\ (2) that there is
or was substantial authority for such treatment, and (3) that
the taxpayer reasonably believed that such treatment was more
likely than not the proper treatment. For this purpose, a
taxpayer will be treated as having a reasonable belief with
respect to the tax treatment of an item only if such belief (1)
is based on the facts and law that exist at the time the tax
return (that includes the item) is filed, and (2) relates
solely to the taxpayer's chances of success on the merits and
does not take into account the possibility that (a) a return
will not be audited, (b) the treatment will not be raised on
audit, or (c) the treatment will be resolved through settlement
if raised.
---------------------------------------------------------------------------
\77\ See the previous discussion regarding the penalty for failing
to disclose a reportable transaction.
---------------------------------------------------------------------------
A taxpayer may (but is not required to) rely on an
opinion of a tax advisor in establishing its reasonable belief
with respect to the tax treatment of the item. However, a
taxpayer may not rely on an opinion of a tax advisor for this
purpose if the opinion (1) is provided by a ``disqualified tax
advisor,'' or (2) is a ``disqualified opinion.''
Disqualified tax advisor
A disqualified tax advisor is any advisor who (1) is a
material advisor \78\ and who participates in the organization,
management, promotion or sale of the transaction or is related
(within the meaning of section 267 or 707) to any person who so
participates, (2) is compensated directly or indirectly \79\ by
a material advisor with respect to the transaction, (3) has a
fee arrangement with respect to the transaction that is
contingent on all or part of the intended tax benefits from the
transaction being sustained, or (4) as determined under
regulations prescribed by the Secretary, has a continuing
financial interest with respect to the transaction.
---------------------------------------------------------------------------
\78\ The term ``material advisor'' (defined below in connection
with the new information filing requirements for material advisors)
means any person who provides any material aid, assistance, or advice
with respect to organizing, promoting, selling, implementing, or
carrying out any reportable transaction, and who derives gross income
in excess of $50,000 in the case of a reportable transaction
substantially all of the tax benefits from which are provided to
natural persons ($250,000 in any other case).
\79\ This situation could arise, for example, when an advisor has
an arrangement or understanding (oral or written) with an organizer,
manager, or promoter of a reportable transaction that such party will
recommend or refer potential participants to the advisor for an opinion
regarding the tax treatment of the transaction.
---------------------------------------------------------------------------
A material advisor is considered as participating in the
``organization'' of a transaction if the advisor performs acts
relating to the development of the transaction. This may
include, for example, preparing documents (1) establishing a
structure used in connection with the transaction (such as a
partnership agreement), (2) describing the transaction (such as
an offering memorandum or other statement describing the
transaction), or (3) relating to the registration of the
transaction with any federal, state or local government
body.\80\ Participation in the ``management'' of a transaction
means involvement in the decision-making process regarding any
business activity with respect to the transaction.
Participation in the ``promotion or sale'' of a transaction
means involvement in the marketing or solicitation of the
transaction to others. Thus, an advisor who provides
information about the transaction to a potential participant is
involved in the promotion or sale of a transaction, as is any
advisor who recommends the transaction to a potential
participant.
---------------------------------------------------------------------------
\80\ An advisor should not be treated as participating in the
organization of a transaction if the advisor's only involvement with
respect to the organization of the transaction is the rendering of an
opinion regarding the tax consequences of such transaction. However,
such an advisor may be a ``disqualified tax advisor'' with respect to
the transaction if the advisor participates in the management,
promotion or sale of the transaction (or if the advisor is compensated
by a material advisor, has a fee arrangement that is contingent on the
tax benefits of the transaction, or as determined by the Secretary, has
a continuing financial interest with respect to the transaction).
---------------------------------------------------------------------------
Disqualified opinion
An opinion may not be relied upon if the opinion (1) is
based on unreasonable factual or legal assumptions (including
assumptions as to future events), (2) unreasonably relies upon
representations, statements, finding or agreements of the
taxpayer or any other person, (3) does not identify and
consider all relevant facts, or (4) fails to meet any other
requirement prescribed by the Secretary.
Coordination with other penalties
Any understatement upon which a penalty is imposed under
this provision is not subject to the accuracy-related penalty
under section 6662. However, such understatement is included
for purposes of determining whether any understatement (as
defined in sec. 6662(d)(2)) is a substantial understatement as
defined under section 6662(d)(1).
The penalty imposed under this provision shall not apply
to any portion of an understatement to which a fraud penalty is
applied under section 6663.
Effective date
The provision is effective for taxable years ending after
the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Penalty for understatements from transactions lacking economic
substance (sec. 304 of the Senate amendment and sec. 6662B of
the Code)
PRESENT LAW
An accuracy-related penalty applies to the portion of any
underpayment that is attributable to (1) negligence, (2) any
substantial understatement of income tax, (3) any substantial
valuation misstatement, (4) any substantial overstatement of
pension liabilities, or (5) any substantial estate or gift tax
valuation understatement. If the correct income tax liability
exceeds that reported by the taxpayer by the greater of 10
percent of the correct tax or $5,000 ($10,000 in the case of
corporations), then a substantial understatement exists and a
penalty may be imposed equal to 20 percent of the underpayment
of tax attributable to the understatement.\81\ The amount of
any understatement is reduced by any portion attributable to an
item if (1) the treatment of the item is supported by
substantial authority, or (2) facts relevant to the tax
treatment of the item were adequately disclosed and there was a
reasonable basis for its tax treatment.
---------------------------------------------------------------------------
\81\ Sec. 6662.
---------------------------------------------------------------------------
Special rules apply with respect to tax shelters.\82\ For
understatements by non-corporate taxpayers attributable to tax
shelters, the penalty may be avoided only if the taxpayer
establishes that, in addition to having substantial authority
for the position, the taxpayer reasonably believed that the
treatment claimed was more likely than not the proper treatment
of the item. This reduction in the penalty is unavailable to
corporate tax shelters.
---------------------------------------------------------------------------
\82\ Sec. 6662(d)(2)(C).
---------------------------------------------------------------------------
The penalty generally is abated (even with respect to tax
shelters) in cases in which the taxpayer can demonstrate that
there was ``reasonable cause'' for the underpayment and that
the taxpayer acted in good faith. \83\ The relevant regulations
provide that reasonable cause exists where the taxpayer
``reasonably relies in good faith on an opinion based on a
professional tax advisor's analysis of the pertinent facts and
authorities [that] . . . unambiguously concludes that there is
a greater than 50-percent likelihood that the tax treatment of
the item will be upheld if challenged'' by the IRS. \84\
---------------------------------------------------------------------------
\83\ Sec. 6664(c).
\84\ Treas. Reg. sec. 1.6662-4(g)(4)(i)(B); Treas. Reg. sec.
1.6664-4(c).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment imposes a penalty for an
understatement attributable to any transaction that lacks
economic substance (referred to in the statute as a ``non-
economic substance transaction understatement'').\85\ The
penalty rate is 40 percent (reduced to 20 percent if the
taxpayer adequately discloses the relevant facts in accordance
with regulations prescribed under section 6011). No exceptions
(including the reasonable cause or rescission rules) to the
penalty would be available under the Senate amendment (i.e.,
the penalty is a strict-liability penalty).
---------------------------------------------------------------------------
\85\ Thus, unlike the new accuracy-related penalty under section
6662A (which applies only to listed and reportable avoidance
transactions), the new penalty under this provision applies to any
transaction that lacks economic substance.
---------------------------------------------------------------------------
A ``non-economic substance transaction'' means any
transaction if (1) the transaction lacks economic substance (as
defined in the earlier Senate amendment provision regarding the
economic substance doctrine),\86\ (2) the transaction was not
respected under the rules relating to transactions with tax-
indifferent parties (as described in the earlier Senate
amendment provision regarding the economic substance
doctrine),\87\ or (3) any similar rule of law. For this
purpose, a similar rule of law would include, for example, an
understatement attributable to a transaction that is determined
to be a sham transaction.
---------------------------------------------------------------------------
\86\ The provision provides that a transaction has economic
substance only if: (1) the transaction changes in a meaningful way
(apart from Federal income tax effects) the taxpayer's economic
position, and (2) the transaction has a substantial non-tax purpose for
entering into such transaction and is a reasonable means of
accomplishing such purpose.
\87\ The provision provides that the form of a transaction that
involves a tax-indifferent party will not be respected in certain
circumstances.
---------------------------------------------------------------------------
For purposes of the Senate amendment, the calculation of
an ``understatement'' is made in the same manner as in the
separate Senate amendment provision relating to accuracy-
related penalties for listed and reportable avoidance
transactions (new sec. 6662A). Thus, the amount of the
understatement under the Senate amendment would be determined
as the sum of (1) the product of the highest corporate or
individual tax rate (as appropriate) and the increase in
taxable income resulting from the difference between the
taxpayer's treatment of the item and the proper treatment of
the item (without regard to other items on the tax return),\88\
and (2) the amount of any decrease in the aggregate amount of
credits which results from a difference between the taxpayer's
treatment of an item and the proper tax treatment of such item.
In essence, the penalty will apply to the amount of any
understatement attributable solely to a non-economic substance
transaction.
---------------------------------------------------------------------------
\88\ For this purpose, any reduction in the excess of deductions
allowed for the taxable year over gross income for such year, and any
reduction in the amount of capital losses that would (without regard to
section 1211) be allowed for such year, would be treated as an increase
in taxable income.
---------------------------------------------------------------------------
Except as provided in regulations, the taxpayer's
treatment of an item will not take into account any amendment
or supplement to a return if the amendment or supplement is
filed after the earlier of the date the taxpayer is first
contacted regarding an examination of the return or such other
date as specified by the Secretary.
A public entity that is required to pay a penalty under
the Senate amendment (regardless of whether the transaction was
disclosed) must disclose the imposition of the penalty in
reports to the SEC for such periods as the Secretary shall
specify. The disclosure to the SEC applies without regard to
whether the taxpayer determines the amount of the penalty to be
material to the reports in which the penalty must appear, and
any failure to disclose such penalty in the reports is treated
as a failure to disclose a listed transaction. A taxpayer must
disclose a penalty in reports to the SEC once the taxpayer has
exhausted its administrative and judicial remedies with respect
to the penalty (or if earlier, when paid).
Once a penalty (regardless of whether the transaction was
disclosed) has been included in the Revenue Agent Report, the
penalty cannot be compromised for purposes of a settlement
without approval of the Commissioner personally or the head of
the Office of Tax Shelter Analysis. Furthermore, the IRS is
required to submit an annual report to Congress summarizing the
application of this penalty and providing a description of each
penalty compromised under this provision and the reasons for
the compromise.
Any understatement to which a penalty is imposed under
the Senate amendment will not be subject to the accuracy-
related penalty under section 6662 or under new 6662A
(accuracy-related penalties for listed and reportable avoidance
transactions). However, an understatement under this provision
would be taken into account for purposes of determining whether
any understatement (as defined in sec. 6662(d)(2)) is a
substantial understatement as defined under section 6662(d)(1).
The penalty imposed under this provision will not apply to any
portion of an understatement to which a fraud penalty is
applied under section 6663.
Effective date.--The provision applies to transactions
entered into on or after May 8, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Modifications to the substantial understatement penalty (sec. 305 of
the Senate amendment and sec. 6662 of the Code)
PRESENT LAW
Definition of substantial understatement
An accuracy-related penalty equal to 20 percent applies
to any substantial understatement of tax. A ``substantial
understatement'' exists if the correct income tax liability for
a taxable year exceeds that reported by the taxpayer by the
greater of 10 percent of the correct tax or $5,000 ($10,000 in
the case of most corporations).\89\
---------------------------------------------------------------------------
\89\ Sec. 6662(a) and (d)(1)(A).
---------------------------------------------------------------------------
Reduction of understatement for certain positions
For purposes of determining whether a substantial
understatement penalty applies, the amount of any
understatement generally is reduced by any portion attributable
to an item if (1) the treatment of the item is supported by
substantial authority, or (2) facts relevant to the tax
treatment of the item were adequately disclosed and there was a
reasonable basis for its tax treatment.\90\
---------------------------------------------------------------------------
\90\ Sec. 6662(d)(2)(B).
---------------------------------------------------------------------------
The Secretary is required to publish annually in the
Federal Register a list of positions for which the Secretary
believes there is not substantial authority and which affect a
significant number of taxpayers.\91\
---------------------------------------------------------------------------
\91\ Sec. 6662(d)(2)(D).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Definition of substantial understatement
The Senate amendment modifies the definition of
``substantial'' for corporate taxpayers. Under the Senate
amendment, a corporate taxpayer has a substantial
understatement if the amount of the understatement for the
taxable year exceeds the lesser of (1) 10 percent of the tax
required to be shown on the return for the taxable year (or, if
greater, $10,000), or (2) $10 million.
Reduction of understatement for certain positions
The Senate amendment elevates the standard that a
taxpayer must satisfy in order to reduce the amount of an
understatement for undisclosed items. With respect to the
treatment of an item whose facts are not adequately disclosed,
a resulting understatement is reduced only if the taxpayer had
a reasonable belief that the tax treatment was more likely than
not the proper treatment. The Senate amendment also authorizes
(but does not require) the Secretary to publish a list of
positions for which it believes there is not substantial
authority or there is no reasonable belief that the tax
treatment is more likely than not the proper treatment (without
regard to whether such positions affect a significant number of
taxpayers). The list shall be published in the Federal Register
or the Internal Revenue Bulletin.
Effective date
The provision is effective for taxable years beginning
after date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Tax shelter exception to confidentiality privileges relating to
taxpayer communications (sec. 306 of the Senate amendment and
sec. 7525 of the Code)
PRESENT LAW
In general, 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. The
Code provides that, with respect to tax advice, the same common
law protections of confidentiality that apply to a
communication between a taxpayer and an attorney also apply to
a communication between a taxpayer and a federally authorized
tax practitioner to the extent the communication would be
considered a privileged communication if it were between a
taxpayer and an attorney. This rule is inapplicable to
communications regarding corporate tax shelters.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment modifies the rule relating to
corporate tax shelters by making it applicable to all tax
shelters, whether entered into by corporations, individuals,
partnerships, tax-exempt entities, or any other entity.
Accordingly, communications with respect to tax shelters are
not subject to the confidentiality provision of the Code that
otherwise applies to a communication between a taxpayer and a
federally authorized tax practitioner.
Effective date.--The provision is effective with respect
to communications made on or after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
7. Disclosure of reportable transactions by material advisors (secs.
307 and 308 of the Senate amendment and secs. 6111 and 6707 of
the Code)
PRESENT LAW
Registration of tax shelter arrangements
An organizer of a tax shelter is required to register the
shelter with the Secretary not later than the day on which the
shelter is first offered for sale.\92\ A ``tax shelter'' means
any investment with respect to which the tax shelter ratio \93\
for any investor as of the close of any of the first five years
ending after the investment is offered for sale may be greater
than two to one and which is: (1) required to be registered
under Federal or State securities laws, (2) sold pursuant to an
exemption from registration requiring the filing of a notice
with a Federal or State securities agency, or (3) a substantial
investment (greater than $250,000 and at least five
investors).\94\
---------------------------------------------------------------------------
\92\ Sec. 6111(a).
\93\ The tax shelter ratio is, with respect to any year, the ratio
that the aggregate amount of the deductions and 350 percent of the
credits, which are represented to be potentially allowable to any
investor, bears to the investment base (money plus basis of assets
contributed) as of the close of the tax year.
\94\ Sec. 6111(c).
---------------------------------------------------------------------------
Other promoted arrangements are treated as tax shelters
for purposes of the registration requirement if: (1) a
significant purpose of the arrangement is the avoidance or
evasion of Federal income tax by a corporate participant; (2)
the arrangement is offered under conditions of confidentiality;
and (3) the promoter may receive fees in excess of $100,000 in
the aggregate.\95\
---------------------------------------------------------------------------
\95\ Sec. 6111(d).
---------------------------------------------------------------------------
In general, a transaction has a ``significant purpose of
avoiding or evading Federal income tax'' if the transaction:
(1) is the same as or substantially similar to a ``listed
transaction,''\96\ or (2) is structured to produce tax benefits
that constitute an important part of the intended results of
the arrangement and the promoter reasonably expects to present
the arrangement to more than one taxpayer.\97\ Certain
exceptions are provided with respect to the second category of
transactions.\98\
---------------------------------------------------------------------------
\96\ Treas. Reg. sec. 301.6111-2(b)(2).
\97\ Treas. Reg. sec. 301.6111-2(b)(3).
\98\ Treas. Reg. sec. 301.6111-2(b)(4).
---------------------------------------------------------------------------
An arrangement is offered under conditions of
confidentiality if: (1) an offeree has an understanding or
agreement to limit the disclosure of the transaction or any
significant tax features of the transaction; or (2) the
promoter knows, or has reason to know that the offeree's use or
disclosure of information relating to the transaction is
limited in any other manner.\99\
---------------------------------------------------------------------------
\99\ The regulations provide that the determination of whether an
arrangement is offered under conditions of confidentiality is based on
all the facts and circumstances surrounding the offer. If an offeree's
disclosure of the structure or tax aspects of the transaction are
limited in any way by an express or implied understanding or agreement
with or for the benefit of a tax shelter promoter, an offer is
considered made under conditions of confidentiality, whether or not
such understanding or agreement is legally binding. Treas. Reg. sec.
301.6111-2(c)(1).
---------------------------------------------------------------------------
Failure to register tax shelter
The penalty for failing to timely register a tax shelter
(or for filing false or incomplete information with respect to
the tax shelter registration) generally is the greater of one
percent of the aggregate amount invested in the shelter or
$500.\100\ However, if the tax shelter involves an arrangement
offered to a corporation under conditions of confidentiality,
the penalty is the greater of $10,000 or 50 percent of the fees
payable to any promoter with respect to offerings prior to the
date of late registration. Intentional disregard of the
requirement to register increases the penalty to 75 percent of
the applicable fees.
---------------------------------------------------------------------------
\100\ Sec. 6707.
---------------------------------------------------------------------------
Section 6707 also imposes (1) a $100 penalty on the
promoter for each failure to furnish the investor with the
required tax shelter identification number, and (2) a $250
penalty on the investor for each failure to include the tax
shelter identification number on a return.
HOUSE BILL
No provision.
SENATE AMENDMENT
Disclosure of reportable transactions by material advisors
The Senate amendment repeals the present law rules with
respect to registration of tax shelters. Instead, the Senate
amendment requires each material advisor with respect to any
reportable transaction (including any listed transaction) \101\
to timely file an information return with the Secretary (in
such form and manner as the Secretary may prescribe). The
return must be filed on such date as specified by the
Secretary.
---------------------------------------------------------------------------
\101\ The terms ``reportable transaction'' and ``listed
transaction'' have the same meaning as previously described in
connection with the taxpayer-related provisions.
---------------------------------------------------------------------------
The information return will include (1) information
identifying and describing the transaction, (2) information
describing any potential tax benefits expected to result from
the transaction, and (3) such other information as the
Secretary may prescribe. It is expected that the Secretary may
seek from the material advisor the same type of information
that the Secretary may request from a taxpayer in connection
with a reportable transaction.\102\
---------------------------------------------------------------------------
\102\ See the previous discussion regarding the disclosure
requirements under new section 6707A.
---------------------------------------------------------------------------
A ``material advisor'' means any person (1) who provides
material aid, assistance, or advice with respect to organizing,
promoting, selling, implementing, or carrying out any
reportable transaction, and (2) who directly or indirectly
derives gross income in excess of $250,000 ($50,000 in the case
of a reportable transaction substantially all of the tax
benefits from which are provided to natural persons) for such
advice or assistance.
The Secretary may prescribe regulations which provide (1)
that only one material advisor has to file an information
return in cases in which two or more material advisors would
otherwise be required to file information returns with respect
to a particular reportable transaction, (2) exemptions from the
requirements of this section, and (3) other rules as may be
necessary or appropriate to carry out the purposes of this
section (including, for example, rules regarding the
aggregation of fees in appropriate circumstances).
Penalty for failing to furnish information regarding reportable
transactions
The Senate amendment repeals the present law penalty for
failure to register tax shelters. Instead, the Senate amendment
imposes a penalty on any material advisor who fails to file an
information return, or who files a false or incomplete
information return, with respect to a reportable transaction
(including a listed transaction).\103\ The amount of the
penalty is $50,000. If the penalty is with respect to a listed
transaction, the amount of the penalty is increased to the
greater of (1) $200,000, or (2) 50 percent of the gross income
of such person with respect to aid, assistance, or advice which
is provided with respect to the transaction before the date the
information return that includes the transaction is filed.
Intentional disregard by a material advisor of the requirement
to disclose a listed transaction increases the penalty to 75
percent of the gross income.
---------------------------------------------------------------------------
\103\ The terms ``reportable transaction'' and ``listed
transaction'' have the same meaning as previously described in
connection with the taxpayer-related provisions.
---------------------------------------------------------------------------
The penalty cannot be waived with respect to a listed
transaction. As to reportable transactions, the penalty can be
rescinded (or abated) only in exceptional circumstances.\104\
All or part of the penalty may be rescinded only if: (1) the
material advisor on whom the penalty is imposed has a history
of complying with the Federal tax laws, (2) it is shown that
the violation is due to an unintentional mistake of fact, (3)
imposing the penalty would be against equity and good
conscience, and (4) rescinding the penalty would promote
compliance with the tax laws and effective tax administration.
The authority to rescind the penalty can only be exercised by
the Commissioner personally or the head of the Office of Tax
Shelter Analysis; this authority to rescind cannot otherwise be
delegated by the Commissioner. Thus, the penalty cannot be
rescinded by a revenue agent, an Appeals officer, or other IRS
personnel. The decision to rescind a penalty must be
accompanied by a record describing the facts and reasons for
the action and the amount rescinded. There will be no right to
appeal a refusal to rescind a penalty. The IRS also is required
to submit an annual report to Congress summarizing the
application of the disclosure penalties and providing a
description of each penalty rescinded under this provision and
the reasons for the rescission.
---------------------------------------------------------------------------
\104\ The Secretary's present-law authority to postpone certain
tax-related deadlines because of Presidentially-declared disasters
(sec. 7508A) will also encompass the authority to postpone the
reporting deadlines established by the provision.
---------------------------------------------------------------------------
Effective date
The Senate amendment requiring disclosure of reportable
transactions by material advisors applies to transactions with
respect to which material aid, assistance or advice is provided
after the date of enactment. The Senate amendment imposing a
penalty for failing to disclose reportable transactions applies
to returns the due date for which is after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
8. Investor lists and modification of penalty for failure to maintain
investor lists (secs. 307 and 309 of the Senate amendment and
secs. 6112 and 6708 of the Code)
PRESENT LAW
Investor lists
Any organizer or seller of a potentially abusive tax
shelter must maintain a list identifying each person who was
sold an interest in any such tax shelter with respect to which
registration was required under section 6111 (even though the
particular party may not have been subject to confidentiality
restrictions).\105\ Recently issued regulations under section
6112 contain rules regarding the list maintenance
requirements.\106\ In general, the regulations apply to
transactions that are potentially abusive tax shelters entered
into, or acquired after, February 28, 2003.\107\
---------------------------------------------------------------------------
\105\ Sec. 6112.
\106\ Treas. Reg. sec. 301-6112-1.
\107\ A special rule applies the list maintenance requirements to
transactions entered into after February 28, 2000 if the transaction
becomes a listed transaction (as defined in Treas. Reg. 1.6011-4) after
February 28, 2003.
---------------------------------------------------------------------------
The regulations provide that a person is an organizer or
seller of a potentially abusive tax shelter if the person is a
material advisor with respect to that transaction.\108\ A
material advisor is defined as any person who is required to
register the transaction under section 6111, or expects to
receive a minimum fee of (1) $250,000 for a transaction that is
a potentially abusive tax shelter if all participants are
corporations, or (2) $50,000 for any other transaction that is
a potentially abusive tax shelter.\109\ For listed transactions
(as defined in the regulations under section 6011), the minimum
fees are reduced to $25,000 and $10,000, respectively.
---------------------------------------------------------------------------
\108\ Treas. Reg. sec. 301.6112-1(c)(1).
\109\ Treas. Reg. sec. 301.6112-1(c)(2) and (3).
---------------------------------------------------------------------------
A potentially abusive tax shelter is any transaction that
(1) is required to be registered under section 6111, (2) is a
listed transaction (as defined under the regulations under
section 6011), or (3) any transaction that a potential material
advisor, at the time the transaction is entered into, knows is
or reasonably expects will become a reportable transaction (as
defined under the new regulations under section 6011).\110\
---------------------------------------------------------------------------
\110\ Treas. Reg. sec. 301.6112-1(b).
---------------------------------------------------------------------------
The Secretary is required to prescribe regulations which
provide that, in cases in which two or more persons are
required to maintain the same list, only one person would be
required to maintain the list.\111\
---------------------------------------------------------------------------
\111\ Sec. 6112(c)(2).
---------------------------------------------------------------------------
Penalty for failing to maintain investor lists
Under section 6708, the penalty for failing to maintain
the list required under section 6112 is $50 for each name
omitted from the list (with a maximum penalty of $100,000 per
year).
HOUSE BILL
No provision.
SENATE AMENDMENT
Investor lists
Each material advisor \112\ with respect to a reportable
transaction (including a listed transaction) \113\ is required
to maintain a list that (1) identifies each person with respect
to whom the advisor acted as a material advisor with respect to
the reportable transaction, and (2) contains other information
as may be required by the Secretary. In addition, the Senate
amendment authorizes (but does not require) the Secretary to
prescribe regulations which provide that, in cases in which 2
or more persons are required to maintain the same list, only
one person would be required to maintain the list.
---------------------------------------------------------------------------
\112\ The term ``material advisor'' has the same meaning as when
used in connection with the requirement to file an information return
under section 6111.
\113\ The terms ``reportable transaction'' and ``listed
transaction'' have the same meaning as previously described in
connection with the taxpayer-related provisions.
---------------------------------------------------------------------------
Penalty for failing to maintain investor lists
The Senate amendment modifies the penalty for failing to
maintain the required list by making it a time-sensitive
penalty. Thus, a material advisor who is required to maintain
an investor list and who fails to make the list available upon
written request by the Secretary within 20 business days after
the request will be subject to a $10,000 per day penalty. The
penalty applies to a person who fails to maintain a list,
maintains an incomplete list, or has in fact maintained a list
but does not make the list available to the Secretary. The
penalty can be waived if the failure to make the list available
is due to reasonable cause.\114\
---------------------------------------------------------------------------
\114\ In no event will failure to maintain a list be considered
reasonable cause for failing to make a list available to the Secretary.
---------------------------------------------------------------------------
Effective date
The Senate amendment requiring a material advisor to
maintain an investor list applies to transactions with respect
to which material aid, assistance or advice is provided after
the date of enactment. The Senate amendment imposing a penalty
for failing to maintain investor lists applies to requests made
after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
9. Actions to enjoin conduct with respect to tax shelters and
reportable transactions (sec. 310 of the Senate amendment and
sec. 7408 of the Code)
PRESENT LAW
The Code authorizes civil action to enjoin any person
from promoting abusive tax shelters or aiding or abetting the
understatement of tax liability.\115\
---------------------------------------------------------------------------
\115\ Sec. 7408.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment expands this rule so that
injunctions may also be sought with respect to the requirements
relating to the reporting of reportable transactions \116\ and
the keeping of lists of investors by material advisors.\117\
Thus, under the Senate amendment, an injunction may be sought
against a material advisor to enjoin the advisor from (1)
failing to file an information return with respect to a
reportable transaction, or (2) failing to maintain, or to
timely furnish upon written request by the Secretary, a list of
investors with respect to each reportable transaction.
---------------------------------------------------------------------------
\116\ Sec. 6707, as amended by other provisions of this bill.
\117\ Sec. 6708, as amended by other provisions of this bill.
---------------------------------------------------------------------------
Effective date.--The provision is effective on the day
after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
10. Understatement of taxpayer's liability by income tax return
preparer (sec. 311 of the Senate amendment and sec. 6694 of the
Code)
PRESENT LAW
An income tax return preparer who prepares a return with
respect to which there is an understatement of tax that is due
to a position for which there was not a realistic possibility
of being sustained on its merits and the position was not
disclosed (or was frivolous) is liable for a penalty of $250,
provided that the preparer knew or reasonably should have known
of the position. An income tax return preparer who prepares a
return and engages in specified willful or reckless conduct
with respect to preparing such a return is liable for a penalty
of $1,000.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment alters the standards of conduct that
must be met to avoid imposition of the first penalty. The
Senate amendment replaces the realistic possibility standard
with a requirement that there be a reasonable belief that the
tax treatment of the position was more likely than not the
proper treatment. The Senate amendment also replaces the not
frivolous standard with the requirement that there be a
reasonable basis for the tax treatment of the position.
In addition, the Senate amendment increases the amount of
these penalties. The penalty relating to not having a
reasonable belief that the tax treatment was more likely than
not the proper tax treatment is increased from $250 to $1,000.
The penalty relating to willful or reckless conduct is
increased from $1,000 to $5,000.
Effective date.--The provision is effective for documents
prepared after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
11. Penalty for failure to report interests in foreign financial
accounts (sec. 312 of the Senate amendment and sec. 5321 of
Title 31, United States Code)
PRESENT LAW
The Secretary of the Treasury must require citizens,
residents, or persons doing business in the United States to
keep records and file reports when that person makes a
transaction or maintains an account with a foreign financial
entity.\118\ In general, individuals must fulfill this
requirement by answering questions regarding foreign accounts
or foreign trusts that are contained in Part III of Schedule B
of the IRS Form 1040. Taxpayers who answer ``yes'' in response
to the question regarding foreign accounts must then file
Treasury Department Form TD F 90-22.1. This form must be filed
with the Department of the Treasury, and not as part of the tax
return that is filed with the IRS.
---------------------------------------------------------------------------
\118\ 31 U.S.C. 5314.
---------------------------------------------------------------------------
The Secretary of the Treasury may impose a civil penalty
on any person who willfully violates this reporting
requirement. The civil penalty is the amount of the transaction
or the value of the account, up to a maximum of $100,000; the
minimum amount of the penalty is $25,000.\119\ In addition, any
person who willfully violates this reporting requirement is
subject to a criminal penalty. The criminal penalty is a fine
of not more than $250,000 or imprisonment for not more than
five years (or both); if the violation is part of a pattern of
illegal activity, the maximum amount of the fine is increased
to $500,000 and the maximum length of imprisonment is increased
to 10 years.\120\
---------------------------------------------------------------------------
\119\ 31 U.S.C. 5321(a)(5).
\120\ 31 U.S.C. 5322.
---------------------------------------------------------------------------
On April 26, 2002, the Secretary of the Treasury
submitted to the Congress a report on these reporting
requirements.\121\ This report, which was statutorily
required,\122\ studies methods for improving compliance with
these reporting requirements. It makes several administrative
recommendations, but no legislative recommendations. A further
report was required to be submitted by the Secretary of the
Treasury to the Congress by October 26, 2002.
---------------------------------------------------------------------------
\121\ A Report to Congress in Accordance with Sec. 361(b) of the
Uniting and Strengthening America by Providing Appropriate Tools
Required to Intercept and Obstruct Terrorism Act of 2001, April 26,
2002.
\122\ Sec. 361(b) of the USA PATRIOT Act of 2001 (Pub. L. 107-56).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment adds an additional civil penalty
that may be imposed on any person who violates this reporting
requirement (without regard to willfulness). This new civil
penalty is up to $5,000. The penalty may be waived if any
income from the account was properly reported on the income tax
return and there was reasonable cause for the failure to
report.
Effective date.--The provision is effective with respect
to failures to report occurring on or after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
12. Frivolous tax returns and submissions (sec. 313 of the Senate
amendment and sec. 6702 of the Code)
PRESENT LAW
The Code provides that an individual who files a
frivolous income tax return is subject to a penalty of $500
imposed by the IRS (sec. 6702). The Code also permits the Tax
Court \123\ to impose a penalty of up to $25,000 if a taxpayer
has instituted or maintained proceedings primarily for delay or
if the taxpayer's position in the proceeding is frivolous or
groundless (sec. 6673(a)).
---------------------------------------------------------------------------
\123\ Because in general the Tax Court is the only pre-payment
forum available to taxpayers, it deals with most of the frivolous,
groundless, or dilatory arguments raised in tax cases.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment modifies the IRS-imposed penalty by
increasing the amount of the penalty to up to $5,000 and by
applying it to all taxpayers and to all types of Federal taxes.
The Senate amendment also modifies present law with
respect to certain submissions that raise frivolous arguments
or that are intended to delay or impede tax administration. The
submissions to which the Senate amendment applies are requests
for a collection due process hearing, installment agreements,
offers-in-compromise, and taxpayer assistance orders. First,
the Senate amendment permits the IRS to dismiss such requests.
Second, the Senate amendment permits the IRS to impose a
penalty of up to $5,000 for such requests, unless the taxpayer
withdraws the request after being given an opportunity to do
so.
The Senate amendment requires the IRS to publish a list
of positions, arguments, requests, and submissions determined
to be frivolous for purposes of these provisions.
Effective date.--The provision is effective for
submissions made and issues raised after the date on which the
Secretary first prescribes the required list.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
13. Penalties on promoters of tax shelters (sec. 314 of the Senate
amendment and sec. 6700 of the Code)
PRESENT LAW
A penalty is imposed on any person who organizes, assists
in the organization of, or participates in the sale of any
interest in, a partnership or other entity, any investment plan
or arrangement, or any other plan or arrangement, if in
connection with such activity the person makes or furnishes a
qualifying false or fraudulent statement or a gross valuation
overstatement.\124\ A qualified false or fraudulent statement
is any statement with respect to the allowability of any
deduction or credit, the excludability of any income, or the
securing of any other tax benefit by reason of holding an
interest in the entity or participating in the plan or
arrangement which the person knows or has reason to know is
false or fraudulent as to any material matter. A ``gross
valuation overstatement'' means any statement as to the value
of any property or services if the stated value exceeds 200
percent of the correct valuation, and the value is directly
related to the amount of any allowable income tax deduction or
credit.
---------------------------------------------------------------------------
\124\ Sec. 6700.
---------------------------------------------------------------------------
The amount of the penalty is $1,000 (or, if the person
establishes that it is less, 100 percent of the gross income
derived or to be derived by the person from such activity). A
penalty attributable to a gross valuation misstatement can be
waived on a showing that there was a reasonable basis for the
valuation and it was made in good faith.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment modifies the penalty amount to equal
50 percent of the gross income derived by the person from the
activity for which the penalty is imposed. The new penalty rate
applies to any activity that involves a statement regarding the
tax benefits of participating in a plan or arrangement if the
person knows or has reason to know that such statement is false
or fraudulent as to any material matter. The enhanced penalty
does not apply to a gross valuation overstatement.
Effective date.--The provision is effective for
activities after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
14. Extend statute of limitations for certain undisclosed transactions
(sec. 315 of the Senate amendment and sec. 6501 of the Code)
PRESENT LAW
In general, the Code requires that taxes be assessed
within three years \125\ after the date a return is filed.\126\
If there has been a substantial omission of items of gross
income that total more than 25 percent of the amount of gross
income shown on the return, the period during which an
assessment must be made is extended to six years.\127\ If an
assessment is not made within the required time periods, the
tax generally cannot be assessed or collected at any future
time. Tax may be assessed at any time if the taxpayer files a
false or fraudulent return with the intent to evade tax or if
the taxpayer does not file a tax return at all.\128\
---------------------------------------------------------------------------
\125\ Sec. 6501(a).
\126\ For this purpose, a return that is filed before the date on
which it is due is considered to be filed on the required due date
(sec. 6501(b)(1)).
\127\ Sec. 6501(e).
\128\ Sec. 6501(c).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the statute of limitations
to six years with respect to the entire tax return \129\ if a
taxpayer required to disclose a listed transaction \130\ fails
to do so in the manner required. For example, if a taxpayer
entered into a transaction in 2005 that becomes a listed
transaction in 2006 and the taxpayer fails to disclose such
transaction in the manner required by Treasury regulations, the
2005 tax return will be subject to a six-year statute of
limitations.\131\
---------------------------------------------------------------------------
\129\ The tax year extended is the tax year the transaction is
entered into.
\130\ The term ``listed transaction'' has the same meaning as
described in a previous provision regarding the penalty for failure to
disclose reportable transactions.
\131\ However, if the Treasury Department lists a transaction in a
year subsequent to the year a taxpayer entered into such transaction,
and the taxpayer's tax return for the year the transaction was entered
into is closed by the statute of limitations prior to the transaction
becoming a listed transaction, this provision does not re-open the
statute of limitations for such year.
---------------------------------------------------------------------------
Effective date.--The provision is effective for
transactions entered into in taxable years beginning after the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
15. Deny deduction for interest paid to IRS on underpayments involving
certain tax-motivated transactions (sec. 316 of the Senate
amendment and sec. 163 of the Code)
PRESENT LAW
In general, corporations may deduct interest paid or
accrued within a taxable year on indebtedness.\132\ Interest on
indebtedness to the Federal government attributable to an
underpayment of tax generally may be deducted pursuant to this
provision.
---------------------------------------------------------------------------
\132\ Sec. 163(a).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment disallows any deduction for interest
paid or accrued within a taxable year on any portion of an
underpayment of tax that is attributable to an understatement
arising from (1) an undisclosed reportable avoidance
transaction, (2) an undisclosed listed transaction, or (3) a
transaction that lacks economic substance.\133\
---------------------------------------------------------------------------
\133\ The definitions of these transactions are the same as those
previously described in connection with the provision to modify the
accuracy-related penalty for listed and certain reportable transactions
and the provision to impose a penalty on understatements attributable
to transactions that lack economic substance.
---------------------------------------------------------------------------
Effective date.--The provision is effective for
underpayments attributable to transactions entered into in
taxable years beginning after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
B. Enron-Related Tax Shelter Related Provisions
1. Limitation on transfer and importation of built-in losses (sec. 321
of the Senate amendment and secs. 362 and 334 of the Code)
PRESENT LAW
Generally, no gain or loss is recognized when one or more
persons transfer property to a corporation in exchange for
stock and immediately after the exchange such person or persons
control the corporation.\134\ The transferor's basis in the
stock of the controlled corporation is the same as the basis of
the property contributed to the controlled corporation,
increased by the amount of any gain (or dividend) recognized by
the transferor on the exchange, and reduced by the amount of
any money or property received, and by the amount of any loss
recognized by the transferor.\135\
---------------------------------------------------------------------------
\134\ Sec. 351.
\135\ Sec. 358.
---------------------------------------------------------------------------
The basis of property received by a corporation, whether
from domestic or foreign transferors, in a tax-free
incorporation, reorganization, or liquidation of a subsidiary
corporation is the same as the adjusted basis in the hands of
the transferor, adjusted for gain or loss recognized by the
transferor.\136\
---------------------------------------------------------------------------
\136\ Secs. 334(b) and 362(a) and (b).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Importation of built-in losses
The Senate amendment provides that if a net built-in loss
is imported into the U.S in a tax-free organization or
reorganization from persons not subject to U.S. tax, the basis
of each property so transferred is its fair market value.\137\
A similar rule applies in the case of the tax-free liquidation
by a domestic corporation of its foreign subsidiary.
---------------------------------------------------------------------------
\137\ The Senate amendment also applies to transfers from a tax-
exempt organization where gain or loss would not be subject to tax if
the property were sold by the organization.
---------------------------------------------------------------------------
Under the Senate amendment, a net built-in loss is
treated as imported into the U.S. if the aggregate adjusted
bases of property received by a transferee corporation exceeds
the fair market value of the properties transferred. Thus, for
example, if in a tax-free incorporation, some properties are
received by a corporation from U.S. persons subject to tax, and
some properties are received from foreign persons not subject
to U.S. tax, this provision applies to limit the adjusted basis
of each property received from the foreign persons to the fair
market value of the property. In the case of a transfer by a
partnership (either domestic or foreign), this provision
applies as if the properties had been transferred by each of
the partners in proportion to their interests in the
partnership.
Limitation on transfer of built-in-losses in section 351 transactions
The Senate amendment provides that if the aggregate
adjusted bases of property contributed by a transferor (or by a
control group of which the transferor is a member) to a
corporation exceed the aggregate fair market value of the
property transferred in a tax-free incorporation, the
transferee's aggregate basis of the properties is limited to
the aggregate fair market value of the transferred property.
Under the Senate amendment, any required basis reduction is
allocated among the transferred properties in proportion to
their built-in-loss immediately before the transaction. In the
case of a transfer in which the transferor owns at least 80
percent of the vote and value of the stock of the transferee
corporation, any basis reduction required by the provision is
made to the stock received by the transferor and not to the
assets transferred.
Effective date
The provision applies to transactions after February 13,
2003.
CONFERENCE REPORT
The conference agreement does not include the Senate
amendment provision.
2. No reduction of basis under section 734 in stock held by partnership
in corporate partner (sec. 322 of the Senate amendment and sec.
755 of the Code)
PRESENT LAW
In general
Generally, a partner and the partnership do not recognize
gain or loss on a contribution of property to a
partnership.\138\ Similarly, a partner and the partnership
generally do not recognize gain or loss on the distribution of
partnership property.\139\ This includes current distributions
and distributions in liquidation of a partner's interest.
---------------------------------------------------------------------------
\138\ Sec. 721(a).
\139\ Sec. 731(a) and (b).
---------------------------------------------------------------------------
Basis of property distributed in liquidation
The basis of property distributed in liquidation of a
partner's interest is equal to the partner's tax basis in its
partnership interest (reduced by any money distributed in the
same transaction).\140\ Thus, the partnership's tax basis in
the distributed property is adjusted (increased or decreased)
to reflect the partner's tax basis in the partnership interest.
---------------------------------------------------------------------------
\140\ Sec. 732(b).
---------------------------------------------------------------------------
Election to adjust basis of partnership property
When a partnership distributes partnership property,
generally, the basis of partnership property is not adjusted to
reflect the effects of the distribution or transfer. The
partnership is permitted, however, to make an election
(referred to as a 754 election) to adjust the basis of
partnership property in the case of a distribution of
partnership property.\141\ The effect of the 754 election is
that the partnership adjusts the basis of its remaining
property to reflect any change in basis of the distributed
property in the hands of the distributee partner resulting from
the distribution transaction. Such a change could be a basis
increase due to gain recognition, or a basis decrease due to
the partner's adjusted basis in its partnership interest
exceeding the adjusted basis of the property received. If the
754 election is made, it applies to the taxable year with
respect to which such election was filed and all subsequent
taxable years.
---------------------------------------------------------------------------
\141\ Sec. 754.
---------------------------------------------------------------------------
In the case of a distribution of partnership property to
a partner with respect to which the 754 election is in effect,
the partnership increases the basis of partnership property by
(1) any gain recognized by the distributee partner (2) the
excess of the adjusted basis of the distributed property to the
partnership immediately before its distribution over the basis
of the property to the distributee partner, and decreases the
basis of partnership property by (1) any loss recognized by the
distributee partner and (2) the excess of the basis of the
property to the distributee partner over the adjusted basis of
the distributed property to the partnership immediately before
the distribution.
The allocation of the increase or decrease in basis of
partnership property is made in a manner which has the effect
of reducing the difference between the fair market value and
the adjusted basis of partnership properties.\142\ In addition,
the allocation rules require that any increase or decrease in
basis be allocated to partnership property of a like character
to the property distributed. For this purpose, the two
categories of assets are (1) capital assets and depreciable and
real property used in the trade or business held for more than
one year, and (2) any other property.\143\
---------------------------------------------------------------------------
\142\ Sec. 755(a).
\143\ Sec. 755(b).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides that in applying the basis
allocation rules to a distribution in liquidation of a
partner's interest, a partnership is precluded from decreasing
the basis of corporate stock of a partner or a related person.
Any decrease in basis that, absent the proposal, would have
been allocated to the stock is allocated to other partnership
assets. If the decrease in basis exceeds the basis of the other
partnership assets, then gain is recognized by the partnership
in the amount of the excess.
Effective date.--The provision applies to distributions
after February 13, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Repeal of special rules for FASITs (sec. 323 of the Senate amendment
and secs. 860H through 860L of the Code)
PRESENT LAW
Financial asset securitization investment trusts
In 1996, Congress created a new type of statutory entity
called a ``financial asset securitization trust'' (``FASIT'')
that facilitates the securitization of debt obligations such as
credit card receivables, home equity loans, and auto
loans.\144\ A FASIT generally is not taxable; the FASIT's
taxable income or net loss flows through to the owner of the
FASIT.
---------------------------------------------------------------------------
\144\ Sections 860H through 860L.
---------------------------------------------------------------------------
The ownership interest of a FASIT generally is required
to be entirely held by a single domestic C corporation. In
addition, a FASIT generally may hold only qualified debt
obligations, and certain other specified assets, and is subject
to certain restrictions on its activities. An entity that
qualifies as a FASIT can issue one or more classes of
instruments that meet certain specified requirements and treat
those instruments as debt for Federal income tax purposes.
Instruments issued by a FASIT bearing yields to maturity over
five percentage points above the yield to maturity on specified
United States government obligations (i.e., ``high-yield
interests'') must be held, directly or indirectly, only by
domestic C corporations that are not exempt from income tax.
Qualification as a FASIT
To qualify as a FASIT, an entity must: (1) make an
election to be treated as a FASIT for the year of the election
and all subsequent years;\145\ (2) have assets substantially
all of which (including assets that the FASIT is treated as
owning because they support regular interests) are specified
types called ``permitted assets;'' (3) have non-ownership
interests be certain specified types of debt instruments called
``regular interests''; (4) have a single ownership interest
which is held by an ``eligible holder''; and (5) not qualify as
a regulated investment company (``RIC''). Any entity, including
a corporation, partnership, or trust may be treated as a FASIT.
In addition, a segregated pool of assets may qualify as a
FASIT.
---------------------------------------------------------------------------
\145\ Once an election to be a FASIT is made, the election applies
from the date specified in the election and all subsequent years until
the entity ceases to be a FASIT. If an election to be a FASIT is made
after the initial year of an entity, all of the assets in the entity at
the time of the FASIT election are deemed contributed to the FASIT at
that time and, accordingly, any gain (but not loss) on such assets will
be recognized at that time.
---------------------------------------------------------------------------
An entity ceases qualifying as a FASIT if the entity's
owner ceases being an eligible corporation. Loss of FASIT
status is treated as if all of the regular interests of the
FASIT were retired and then reissued without the application of
the rule that deems regular interests of a FASIT to be debt.
Permitted assets
For an entity or arrangement to qualify as a FASIT,
substantially all of its assets must consist of the following
``permitted assets'': (1) cash and cash equivalents; (2)
certain permitted debt instruments; (3) certain foreclosure
property; (4) certain instruments or contracts that represent a
hedge or guarantee of debt held or issued by the FASIT; (5)
contract rights to acquire permitted debt instruments or
hedges; and (6) a regular interest in another FASIT. Permitted
assets may be acquired at any time by a FASIT, including any
time after its formation.
``Regular interests'' of a FASIT
``Regular interests'' of a FASIT are treated as debt for
Federal income tax purposes, regardless of whether instruments
with similar terms issued by non-FASITs might be characterized
as equity under general tax principles. To be treated as a
``regular interest'', an instrument must have fixed terms and
must: (1) unconditionally entitle the holder to receive a
specified principal amount; (2) pay interest that is based on
(a) fixed rates, or (b) except as provided by regulations
issued by the Treasury Secretary, variable rates permitted with
respect to REMIC interests under section 860G(a)(1)(B)(i); (3)
have a term to maturity of no more than 30 years, except as
permitted by Treasury regulations; (4) be issued to the public
with a premium of not more than 25 percent of its stated
principal amount; and (5) have a yield to maturity determined
on the date of issue of less than five percentage points above
the applicable Federal rate (``AFR'') for the calendar month in
which the instrument is issued.
Permitted ownership holder
A permitted holder of the ownership interest in a FASIT
generally is a non-exempt (i.e., taxable) domestic C
corporation, other than a corporation that qualifies as a RIC,
REIT, REMIC, or cooperative.
Transfers to FASITs
In general, gain (but not loss) is recognized immediately
by the owner of the FASIT upon the transfer of assets to a
FASIT. Where property is acquired by a FASIT from someone other
than the FASIT's owner (or a person related to the FASIT's
owner), the property is treated as being first acquired by the
FASIT's owner for the FASIT's cost in acquiring the asset from
the non-owner and then transferred by the owner to the FASIT.
Valuation rules.--In general, except in the case of debt
instruments, the value of FASIT assets is their fair market
value. Similarly, in the case of debt instruments that are
traded on an established securities market, the market price is
used for purposes of determining the amount of gain realized
upon contribution of such assets to a FASIT. However, in the
case of debt instruments that are not traded on an established
securities market, special valuation rules apply for purposes
of computing gain on the transfer of such debt instruments to a
FASIT. Under these rules, the value of such debt instruments is
the sum of the present values of the reasonably expected cash
flows from such obligations discounted over the weighted
average life of such assets. The discount rate is 120 percent
of the AFR, compounded semiannually, or such other rate that
the Treasury Secretary shall prescribe by regulations.
Taxation of a FASIT
A FASIT generally is not subject to tax. Instead, all of
the FASIT's assets and liabilities are treated as assets and
liabilities of the FASIT's owner and any income, gain,
deduction or loss of the FASIT is allocable directly to its
owner. Accordingly, income tax rules applicable to a FASIT
(e.g., related party rules, sec. 871(h), sec. 165(g)(2)) are to
be applied in the same manner as they apply to the FASIT's
owner. The taxable income of a FASIT is calculated using an
accrual method of accounting. The constant yield method and
principles that apply for purposes of determining original
issue discount (``OID'') accrual on debt obligations whose
principal is subject to acceleration apply to all debt
obligations held by a FASIT to calculate the FASIT's interest
and discount income and premium deductions or adjustments.
Taxation of holders of FASIT regular interests
In general, a holder of a regular interest is taxed in
the same manner as a holder of any other debt instrument,
except that the regular interest holder is required to account
for income relating to the interest on an accrual method of
accounting, regardless of the method of accounting otherwise
used by the holder.
Taxation of holders of FASIT ownership interests
Because all of the assets and liabilities of a FASIT are
treated as assets and liabilities of the holder of a FASIT
ownership interest, the ownership interest holder takes into
account all of the FASIT's income, gain, deduction, or loss in
computing its taxable income or net loss for the taxable year.
The character of the income to the holder of an ownership
interest is the same as its character to the FASIT, except tax-
exempt interest is included in the income of the holder as
ordinary income.
Although the recognition of losses on assets contributed
to the FASIT is not allowed upon contribution of the assets,
such losses may be allowed to the FASIT owner upon their
disposition by the FASIT. Furthermore, the holder of a FASIT
ownership interest is not permitted to offset taxable income
from the FASIT ownership interest (including gain or loss from
the sale of the ownership interest in the FASIT) with other
losses of the holder. In addition, any net operating loss
carryover of the FASIT owner shall be computed by disregarding
any income arising by reason of a disallowed loss. Where the
holder of a FASIT ownership interest is a member of a
consolidated group, this rule applies to the consolidated group
of corporations of which the holder is a member as if the group
were a single taxpayer.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment repeals the special rules for
FASITs. The Senate amendment provides a transition period for
existing FASITs, pursuant to which the repeal of the FASIT
rules would not apply to any FASIT in existence on the date of
enactment to the extent that regular interests issued by the
FASIT prior to such date continue to remain outstanding in
accordance with their original terms.
Effective date.--Except as provided by the transition
period for existing FASITs, the Senate amendment provision is
effective after February 13, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Expanded disallowance of deduction for interest on convertible debt
(sec. 324 of the Senate amendment and sec. 163 of the Code)
PRESENT LAW
Whether an instrument qualifies for tax purposes as debt
or equity is determined under all the facts and circumstances
based on principles developed in case law. If an instrument
qualifies as equity, the issuer generally does not receive a
deduction for dividends paid and the holder generally includes
such dividends in income (although corporate holders generally
may obtain a dividends-received deduction of at least 70
percent of the amount of the dividend). If an instrument
qualifies as debt, the issuer may receive a deduction for
accrued interest and the holder generally includes interest in
income, subject to certain limitations.
Original issue discount (``OID'') on a debt instrument is
the excess of the stated redemption price at maturity over the
issue price of the instrument. An issuer of a debt instrument
with OID generally accrues and deducts the discount as interest
over the life of the instrument even though interest may not be
paid until the instrument matures. The holder of such a debt
instrument also generally includes the OID in income on an
accrual basis.
Under present law, no deduction is allowed for interest
or OID on a debt instrument issued by a corporation (or issued
by a partnership to the extent of its corporate partners) that
is payable in equity of the issuer or a related party (within
the meaning of sections 267(b) and 707(b)), including a debt
instrument a substantial portion of which is mandatorily
convertible or convertible at the issuer's option into equity
of the issuer or a related party.\146\ In addition, a debt
instrument is treated as payable in equity if a substantial
portion of the principal or interest is required to be
determined, or may be determined at the option of the issuer or
related party, by reference to the value of equity of the
issuer or related party.\147\ A debt instrument also is treated
as payable in equity if it is part of an arrangement that is
designed to result in the payment of the debt instrument with
or by reference to such equity, such as in the case of certain
issuances of a forward contract in connection with the issuance
of debt, nonrecourse debt that is secured principally by such
equity, or certain debt instruments that are paid in, converted
to, or determined with reference to the value of equity if it
may be so required at the option of the holder or a related
party and there is a substantial certainty that option will be
exercised.\148\
---------------------------------------------------------------------------
\146\ Sec. 163(l), enacted in the Taxpayer Relief Act of 1997, Pub.
L. No. 105-34, sec. 1005(a).
\147\ Sec. 163(l)(3)(B).
\148\ Sec. 163(l)(3)(C).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment expands the present-law disallowance
of interest deductions on certain convertible or equity-linked
corporate debt that is payable in, or by reference to the value
of, equity. Under the Senate amendment, the disallowance is
expanded to include interest on corporate debt that is payable
in, or by reference to the value of, any equity held by the
issuer (or by any related party) in any other person, without
regard to whether such equity represents more than a 50-percent
ownership interest in such person. However, the Senate
amendment does not apply to debt that is issued by an active
dealer in securities (or by a related party) if the debt is
payable in, or by reference to the value of, equity that is
held by the securities dealer in its capacity as a dealer in
securities.
Effective date.--The Senate amendment provision applies
to debt instruments that are issued after February 13, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Expanded authority to disallow tax benefits under section 269 (sec.
325 of the Senate amendment and sec. 269 of the Code)
PRESENT LAW
Section 269 provides that if a taxpayer acquires,
directly or indirectly, control (defined as at least 50 percent
of vote or value) of a corporation, and the principal purpose
of the acquisition is the evasion or avoidance of Federal
income tax by securing the benefit of a deduction, credit, or
other allowance that would not otherwise have been available,
the Secretary may disallow such tax benefits.\149\ Similarly,
if a corporation acquires, directly or indirectly, property of
another corporation (not controlled, directly or indirectly, by
the acquiring corporation or its stockholders immediately
before the acquisition), the basis of such property is
determined by reference to the basis in the hands of the
transferor corporation, and the principal purpose of the
acquisition is the evasion or avoidance of Federal income tax
by securing a tax benefit that would not otherwise have been
available, the Secretary may disallow such tax benefits.\150\
---------------------------------------------------------------------------
\149\ Sec. 269(a)(1).
\149\ Sec. 269(a)(2).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment expands section 269 by repealing (1)
the requirement that the acquisition of stock be sufficient to
obtain control of the corporation, and (2) the requirement that
the acquisition of property be from a corporation not
controlled by the acquirer. Thus, under the provision, section
269 disallows the tax benefits of (1) any acquisition of stock
in a corporation,\151\ and (2) any acquisition by a corporation
of property from a corporation in which the basis of such
property is determined by reference to the basis in the hands
of the transferor corporation, if the principal purpose of such
acquisition is the of evasion or avoidance of Federal income
tax.
---------------------------------------------------------------------------
\151\ In this regard, the provision applies regardless of whether
an acquisition results in an increase in the acquiror's ownership
percentage in a corportion or involves the issuance of actual stock
certificates or shares by a corporation to the acquiror.
---------------------------------------------------------------------------
Effective date.--The provision applies to stock and
property acquired after February 13, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Modification of controlled foreign corporation--passive foreign
investment company coordination rules (sec. 326 of the Senate
amendment and sec. 1297 of the Code)
PRESENT LAW
The United States employs a ``worldwide'' tax system,
under which domestic corporations generally are taxed on all
income, whether derived in the United States or abroad. Income
earned by a domestic parent corporation from foreign operations
conducted by foreign corporate subsidiaries generally is
subject to U.S. tax when the income is distributed as a
dividend to the domestic corporation. Until such repatriation,
the U.S. tax on such income generally is deferred. However,
certain anti-deferral regimes may cause the domestic parent
corporation to be taxed on a current basis in the United States
with respect to certain categories of passive or highly mobile
income earned by its foreign subsidiaries, regardless of
whether the income has been distributed as a dividend to the
domestic parent corporation. The main anti-deferral regimes in
this context are the controlled foreign corporation rules of
subpart F \152\ and the passive foreign investment company
rules.\153\ A foreign tax credit generally is available to
offset, in whole or in part, the U.S. tax owed on foreign-
source income, whether earned directly by the domestic
corporation, repatriated as an actual dividend, or included
under one of the anti-deferral regimes.\154\
---------------------------------------------------------------------------
\152\ Secs. 951-964.
\153\ Secs. 1291-1298.
\154\ Secs. 901, 902, 960, 1291(g).
---------------------------------------------------------------------------
Generally, income earned indirectly by a domestic
corporation through a foreign corporation is subject to U.S.
tax only when the income is distributed to the domestic
corporation, because corporations generally are treated as
separate taxable persons for Federal tax purposes. However,
this deferral of U.S. tax is limited by anti-deferral regimes
that impose current U.S. tax on certain types of income earned
by certain corporations, in order to prevent taxpayers from
avoiding U.S. tax by shifting passive or other highly mobile
income into low-tax jurisdictions. Deferral of U.S. tax is
considered appropriate, on the other hand, with respect to most
types of active business income earned abroad.
Subpart F,\155\ applicable to controlled foreign
corporations and their shareholders, is the main anti-deferral
regime of relevance to a U.S.-based multinational corporate
group. A controlled foreign corporation generally is defined as
any foreign corporation if U.S. persons own (directly,
indirectly, or constructively) 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).\156\ Under the subpart F
rules, the United States generally taxes the U.S. 10-percent
shareholders of a controlled foreign corporation on their pro
rata shares of certain income of the controlled foreign
corporation (referred to as ``subpart F income''), without
regard to whether the income is distributed to the
shareholders.\157\
---------------------------------------------------------------------------
\155\ Secs. 951-964.
\156\ Secs. 951(b), 957, 958.
\157\ Sec. 951(a).
---------------------------------------------------------------------------
Subpart F income generally includes passive income and
other income that is readily movable from one taxing
jurisdiction to another. Subpart F income consists of foreign
base company income,\158\ insurance income,\159\ and certain
income relating to international boycotts and other violations
of public policy.\160\ Foreign base company income consists of
foreign personal holding company income, which includes passive
income (e.g., dividends, interest, rents, and royalties), as
well as a number of categories of non-passive income, including
foreign base company sales income, foreign base company
services income, foreign base company shipping income and
foreign base company oil-related income.\161\
---------------------------------------------------------------------------
\158\ Sec. 954.
\159\ Sec. 953.
\160\ Sec. 952(a)(3)-(5).
\161\ Sec. 954.
---------------------------------------------------------------------------
In effect, the United States treats the U.S. 10-percent
shareholders of a controlled foreign corporation as having
received a current distribution out of the corporation's
subpart F income. In addition, the U.S. 10-percent shareholders
of a controlled foreign corporation are required to include
currently in income for U.S. tax purposes their pro rata shares
of the corporation's earnings invested in U.S. property.\162\
---------------------------------------------------------------------------
\162\ Secs. 951(a)(1)(B), 956.
---------------------------------------------------------------------------
The Tax Reform Act of 1986 established an additional
anti-deferral regime, for passive foreign investment companies.
A passive foreign investment company generally is defined as
any foreign corporation if 75 percent or more of its gross
income for the taxable year consists of passive income, or 50
percent or more of its assets consists of assets that produce,
or are held for the production of, passive income.\163\
Alternative sets of income inclusion rules apply to U.S.
persons that are shareholders in a passive foreign investment
company, regardless of their percentage ownership in the
company. One set of rules applies to passive foreign investment
companies that are ``qualified electing funds,'' under which
electing U.S. shareholders currently include in gross income
their respective shares of the company's earnings, with a
separate election to defer payment of tax, subject to an
interest charge, on income not currently received.\164\ A
second set of rules applies to passive foreign investment
companies that are not qualified electing funds, under which
U.S. shareholders pay tax on certain income or gain realized
through the company, plus an interest charge that is
attributable to the value of deferral.\165\ A third set of
rules applies to passive foreign investment company stock that
is marketable, under which electing U.S. shareholders currently
take into account as income (or loss) the difference between
the fair market value of the stock as of the close of the
taxable year and their adjusted basis in such stock (subject to
certain limitations), often referred to as ``marking to
market.'' \166\
---------------------------------------------------------------------------
\163\ Sec. 1297.
\164\ Sec. 1293-1295.
\165\ Sec. 1291.
\166\ Sec. 1296.
---------------------------------------------------------------------------
Under section 1297(e), which was enacted in 1997 to
address the overlap of the passive foreign investment company
rules and subpart F, a controlled foreign corporation generally
is not also treated as a passive foreign investment company
with respect to a U.S. shareholder of the corporation. This
exception applies regardless of the likelihood that the U.S.
shareholder would actually be taxed under subpart F in the
event that the controlled foreign corporation earns subpart F
income. Thus, even in a case in which a controlled foreign
corporation's subpart F income would be allocated to a
different shareholder under the subpart F allocation rules, a
U.S. shareholder would still qualify for the exception from the
passive foreign investment company rules under section 1297(e).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment adds an exception to section 1297(e)
for U.S. shareholders that face only a remote likelihood of
incurring a subpart F inclusion in the event that a controlled
foreign corporation earns subpart F income, thus preserving the
potential application of the passive foreign investment company
rules in such cases.
Effective date.--The provision is effective for taxable
years of controlled foreign corporations beginning after
February 13, 2003, and for taxable years of U.S. shareholders
in which or with which such taxable years of controlled foreign
corporations end.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
7. Modify treatment of closely-held REITs (sec. 327 of the Senate
amendment and sec. 856 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 related investments and that receives pass-through
treatment for income that is distributed to shareholders. If an
entity meets the qualifications for REIT statusand elects to be
taxed as a REIT, the portion of its income that is distributed to the
investors each year generally is taxed to the investors without being
subjected to tax at the REIT level.
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.
Under the organizational structure test, 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 stock can be owned by five or fewer individuals during the
last half of the taxable year. Certain attribution rules apply
in making this determination.
HOUSE BILL
No provision.
SENATE AMENDMENT
The bill imposes as an additional requirement for REIT
qualification that, except for the first taxable year for which
an entity elects to be a REIT, no person can own stock of a
REIT possessing 50 percent or more of the combined voting power
of all classes of voting stock or 50 percent or more of the
total value of all classes of stock of the REIT. For purposes
of determining a person's stock ownership, rules similar to
attribution rules for REIT qualification under present law
apply (secs. 856(d)(5) and 856(h)(3)). A special rule prevents
reattribution in certain circumstances.
The provision does not apply to ownership by a REIT of 50
percent or more of the stock (vote or value) of another REIT.
An exception applies for a limited period of time to
certain ``incubator REITs'' that meet specified qualifications.
A penalty is imposed on a corporation's directors if an
``incubator REIT'' election is made for a principal purpose
other than as part of a reasonable plan to undertake a going
public transaction (as defined in the bill).
Effective date.--The bill is effective for entities
electing REIT status for taxable years ending after May 8,
2003. Any entity that elects (or has elected) REIT status for a
taxable year including May 8, 2003 and which is both a
controlled entity and has significant business assets or
activities on such date, will not be subject to the bill. Under
this rule, a controlled entity with significant business assets
or activities on May 8, 2003, can be grandfathered even if it
makes its first REIT election after that date with its return
for the taxable year including that date.
For purposes of the transition rules, the significant
business assets or activities in place on May 8, 2003 must be
real estate assets and activities of a type that would be
qualified real estate assets and would produce qualified real
estate related income for a REIT.
CONFERENCE AGREEMENT
The conference agreement does not contain the Senate
amendment provision.
C. Other Corporate Governance Provisions
1. Affirmation of consolidated return regulation authority (sec. 331 of
the Senate amendment and sec. 1502 of the Code)
PRESENT LAW
An affiliated group of corporations may elect to file a
consolidated return in lieu of separate returns. A condition of
electing to file a consolidated return is that all corporations
that are members of the consolidated group must consent to all
the consolidated return regulations prescribed under section
1502 prior to the last day prescribed by law for filing such
return.\167\
---------------------------------------------------------------------------
\167\ Sec. 1501.
---------------------------------------------------------------------------
Section 1502 states:
The Secretary shall prescribe such regulations as he
may deem necessary in order that the tax liability of
any affiliated group of corporations making a
consolidated return and of each corporation in the
group, both during and after the period of affiliation,
may be returned, determined, computed, assessed,
collected, and adjusted, in such manner as clearly to
reflect the income-tax liability and the various
factors necessary for the determination of such
liability, and in order to prevent the avoidance of
such tax liability.\168\
---------------------------------------------------------------------------
\168\ Sec. 1502.
---------------------------------------------------------------------------
Under this authority, the Treasury Department has issued
extensive consolidated return regulations.\169\
---------------------------------------------------------------------------
\169\ Regulations issued under the authority of section 1502 are
considered to be ``legislative'' regulations rather than
``interpretative'' regulations, and as such are usually given greater
deference by courts in case of a taxpayer challenge to such a
regulation. See, S. Rep. No. 960, 70th Cong., 1st Sess. at 15,
describing the consolidated return regulations as ``legislative in
character''. The Supreme Court has stated that ``* * * legislative
regulations are given controlling weight unless they are arbitrary,
capricious, or manifestly contrary to the statute.'' Chevron, U.S.A.,
Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837, 844
(1984) (involving an environmental protection regulation). For examples
involving consolidated return regulations, see, e.g., Wolter
Construction Company v. Commissioner, 634 F.2d 1029 (6th Cir. 1980);
Garvey, Inc. v. United States, 1 Ct. Cl. 108 (1983), aff'd 726 F.2d
1569 (Fed. Cir. 1984), cert. denied 469 U.S. 823 (1984). Compare, e.g.,
Audrey J. Walton v. Commissioner, 115 T.C. 589 (2000), describing
different standards of review. The case did not involve a consolidated
return regulation.
---------------------------------------------------------------------------
In the recent case of Rite Aid Corp. v. United
States,\170\ the Federal Circuit Court of Appeals addressed the
application of a particular provision of certain consolidated
return loss disallowance regulations, and concluded that the
provision was invalid.\171\ The particular provision, known as
the ``duplicated loss'' provision,\172\ would have denied a
loss on the sale of stock of a subsidiary by a parent
corporation that had filed a consolidated return with the
subsidiary, to the extent the subsidiary corporation had assets
that had a built-in loss, or had a net operating loss, that
could be recognized or used later.\173\
---------------------------------------------------------------------------
\170\ 255 F.3d 1357 (Fed. Cir. 2001), reh'g denied, 2001 U.S. App.
LEXIS 23207 (Fed. Cir. Oct. 3, 2001).
\171\ Prior to this decision, there had been a few instances
involving prior laws in which certain consolidated return regulations
were held to be invalid. See, e.g., American Standard, Inc. v. United
States, 602 F.2d 256 (Ct. Cl. 1979), discussed in the text infra. See
also Union Carbide Corp. v. United States, 612 F.2d 558 (Ct. Cl. 1979),
and Allied Corporation v. United States, 685 F. 2d 396 (Ct. Cl. 1982),
all three cases involving the allocation of income and loss within a
consolidated group for purposes of computation of a deduction allowed
under prior law by the Code for Western Hemisphere Trading
Corporations. See also Joseph Weidenhoff v. Commissioner, 32 T.C. 1222,
1242-1244 (1959), involving the application of certain regulations to
the excess profits tax credit allowed under prior law, and concluding
that the Commissioner had applied a particular regulation in an
arbitrary manner inconsistent with the wording of the regulation and
inconsistent with even a consolidated group computation. Cf. Kanawha
Gas & Utilities Co. v. Commissioner, 214 F.2d 685 (1954), concluding
that the substance of a transaction was an acquisition of assets rather
than stock. Thus, a regulation governing basis of the assets of
consolidated subsidiaries did not apply to the case. See also General
Machinery Corporation v. Commissioner, 33 B.T.A. 1215 (1936); Lefcourt
Realty Corporation, 31 B.T.A. 978 (1935); Helvering v. Morgans, Inc.,
293 U.S. 121 (1934), interpreting the term ``taxable year.''
\172\ Treas. Reg. Sec. 1.1502-20(c)(1)(iii).
\173\ Treasury Regulation section 1.1502-20, generally imposing
certain ``loss disallowance'' rules on the disposition of subsidiary
stock, contained other limitations besides the ``duplicated loss'' rule
that could limit the loss available to the group on a disposition of a
subsidiary's stock. Treasury Regulation section 1.1502-20 as a whole
was promulgated in connection with regulations issued under section
337(d), principally in connection with the so-called General Utilities
repeal of 1986 (referring to the case of General Utilities & Operating
Company v. Helvering, 296 U.S. 200 (1935)). Such repeal generally
required a liquidating corporation, or a corporation acquired in a
stock acquisition treated as a sale of assets, to pay corporate level
tax on the excess of the value of its assets over the basis. Treasury
regulation section 1.1502-20 principally reflected an attempt to
prevent corporations filing consolidated returns from offsetting income
with a loss on the sale of subsidiary stock. Such a loss could result
from the unique upward adjustment of a subsidiary's stock basis
required under the consolidated return regulations for subsidiary
income earned in consolidation, an adjustment intended to prevent
taxation of both the subsidiary and the parent on the same income or
gain. As one example, absent a denial of certain losses on a sale of
subsidiary stock, a consolidated group could obtain a loss deduction
with respect to subsidiary stock, the basis of which originally
reflected the subsidiary's value at the time of the purchase of the
stock, and that had then been adjusted upward on recognition of any
built-in income or gain of the subsidiary reflected in that value. The
regulations also contained the duplicated loss factor addressed by the
court in Rite Aid. The preamble to the regulations stated: ``it is not
administratively feasible to differentiate between loss attributable to
built-in gain and duplicated loss.'' T.D. 8364, 1991-2 C.B. 43, 46
(Sept. 13, 1991). The government also argued in the Rite Aid case that
duplicated loss was a separate concern of the regulations. 255 F.3d at
1360.
---------------------------------------------------------------------------
The Federal Circuit Court opinion contained language
discussing the fact that the regulation produced a result
different than the result that would have obtained if the
corporations had filed separate returns rather than
consolidated returns.\174\
---------------------------------------------------------------------------
\174\ For example, the court stated: ``The duplicated loss factor *
* * addresses a situation that arises from the sale of stock regardless
of whether corporations file separate or consolidated returns. With
I.R.C. secs. 382 and 383, Congress has addressed this situation by
limiting the subsidiary's potential future deduction, not the parent's
loss on the sale of stock under I.R.C. sec. 165.'' 255 F.3d 1357, 1360
(Fed. Cir. 2001).
---------------------------------------------------------------------------
The Federal Circuit Court opinion cited a 1928 Senate
Finance Committee Report to legislation that authorized
consolidated return regulations, which stated that ``many
difficult and complicated problems, * * * have arisen in the
administration of the provisions permitting the filing of
consolidated returns'' and that the committee ``found it
necessary to delegate power to the commissioner to prescribe
regulations legislative in character covering them.'' \175\ The
Court's opinion also cited a previous decision of the Court of
Claims for the proposition, interpreting this legislative
history, that section 1502 grants the Secretary ``the power to
conform the applicable income tax law of the Code to the
special, myriad problems resulting from the filing of
consolidated income tax returns;'' but that section 1502 ``does
not authorize the Secretary to choose a method that imposes a
tax on income that would not otherwise be taxed.'' \176\
---------------------------------------------------------------------------
\175\ S. Rep. No. 960, 70th Cong., 1st Sess. 15 (1928). Though not
quoted by the court in Rite Aid, the same Senate report also indicated
that one purpose of the consolidated return authority was to permit
treatment of the separate corporations as if they were a single unit,
stating ``The mere fact that by legal fiction several corporations
owned by the same shareholders are separate entities should not obscure
the fact that they are in reality one and the same business owned by
the same individuals and operated as a unit.'' S. Rep. No. 960, 70th
Cong., 1st Sess. 29 (1928).
\176\ American Standard, Inc. v. United States, 602 F.2d 256, 261
(Ct. Cl. 1979). That case did not involve the question of separate
returns as compared to a single return approach. It involved the
computation of a Western Hemisphere Trade Corporation (``WHTC'')
deduction under prior law (which deduction would have been computed as
a percentage of each WHTC's taxable income if the corporations had
filed separate returns), in a case where a consolidated group included
several WHTCs as well as other corporations. The question was how to
apportion income and losses of the admittedly consolidated WHTCs and
how to combine that computation with the rest of the group's
consolidated income or losses. The court noted that the new, changed
regulations approach varied from the approach taken to a similar
problem involving public utilities within a group and previously
allowed for WHTCs. The court objected that the allocation method
adopted by the regulation allowed non-WHTC losses to reduce WHTC
income. However, the court did not disallow a method that would net
WHTC income of one WHTC with losses of another WHTC, a result that
would not have occurred under separate returns. Nor did the court
expressly disallow a different fractional method that would net both
income and losses of the WHTCs with those of other corporations in the
consolidated group. The court also found that the regulation had been
adopted without proper notice.
---------------------------------------------------------------------------
The Federal Circuit Court construed these authorities and
applied them to invalidate Treas. Reg. Sec. 1.1502-
20(c)(1)(iii), stating that:
The loss realized on the sale of a former
subsidiary's assets after the consolidated group sells
the subsidiary's stock is not a problem resulting from
the filing of consolidated income tax returns. The
scenario also arises where a corporate shareholder
sells the stock of a non-consolidated subsidiary. The
corporate shareholder could realize a loss under I.R.C.
sec. 1001, and deduct the loss under I.R.C. sec. 165.
The subsidiary could then deduct any losses from a
later sale of assets. The duplicated loss factor,
therefore, addresses a situation that arises from the
sale of stock regardless of whether corporations file
separate or consolidated returns. With I.R.C. secs. 382
and 383, Congress has addressed this situation by
limiting the subsidiary's potential future deduction,
not the parent's loss on the sale of stock under I.R.C.
sec. 165.\177\
---------------------------------------------------------------------------
\177\ Rite Aid, 255 F.3d at 1360.
The Treasury Department has announced that it will not
continue to litigate the validity of the duplicated loss
provision of the regulations, and has issued interim
regulations that permit taxpayers for all years to elect a
different treatment, though they may apply the provision for
the past if they wish.\178\
---------------------------------------------------------------------------
\178\ See Temp. Reg. 1.1502-20T(i)(2). The Treasury Department has
also indicated its intention to continue to study all the issues that
the original loss disallowance regulations addressed (including issues
of furthering single entity principles) and possibly issue different
regulations (not including the particular approach of Treas. Reg. Sec.
1.1502-20(c)(1)(iii)) on the issues in the future. See Notice 2002-11,
2002-7 I.R.B. 526 (Feb. 19, 2002); T.D. 8984, 67 F.R. 11034 (March 12,
2002); REG-102740-02, 67 F.R. 11070 (March 12, 2002); see also Notice
2002-18, 2002-12 I.R.B. 644 (March 25, 2002).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The bill confirms that, in exercising its authority under
section 1502 to issue consolidated return regulations, the
Treasury Department may provide rules treating corporations
filing consolidated returns differently from corporations
filing separate returns.
Thus, under the statutory authority of section 1502, the
Treasury Department is authorized to issue consolidated return
regulations utilizing either a single taxpayer or separate
taxpayer approach or a combination of the two approaches, as
Treasury deems necessary in order that the tax liability of any
affiliated group of corporations making a consolidated return,
and of each corporation in the group, both during and after the
period of affiliation, may be determined and adjusted in such
manner as clearly to reflect the income-tax liability and the
various factors necessary for the determination of such
liability, and in order to prevent avoidance of such liability.
Rite Aid is thus overruled to the extent it suggests that
there is not a problem that can be addressed in consolidated
return regulations if application of a particular Code
provision on a separate taxpayer basis would produce a result
different from single taxpayer principles that may be used for
consolidation.
The bill nevertheless allows the result of the Rite Aid
case to stand with respect to the type of factual situation
presented in the case. That is, the legislation provides for
the override of the regulatory provision that took the approach
of denying a loss on a deconsolidating disposition of stock of
a consolidated subsidiary \179\ to the extent the subsidiary
had net operating losses or built in losses that could be used
later outside the group.\180\
---------------------------------------------------------------------------
\179\ Treas. Reg. Sec. 1.1502-20(c)(1)(iii).
\180\ The provision is not intended to overrule the current
Treasury Department regulations, which allow taxpayers for the past to
follow Treasury Regulations Section 1.1502-20(c)(1)(iii), if they
choose to do so. Temp. Reg. Sec. 1.1502-20T(i)(2).
---------------------------------------------------------------------------
Retaining the result in the Rite Aid case with respect to
the particular regulation section 1.1502-20(c)(1)(iii) as
applied to the factual situation of the case does not in any
way prevent or invalidate the various approaches Treasury has
announced it will apply or that it intends to consider in lieu
of the approach of that regulation, including, for example, the
denial of a loss on a stock sale if inside losses of a
subsidiary may also be used by the consolidated group, and the
possible requirement that inside attributes be adjusted when a
subsidiary leaves a group.\181\
---------------------------------------------------------------------------
\181\ See, e.g., Notice 2002-11, 2002-7 I.R.B. 526 (Feb. 19, 2002);
T.D. 8984, 67 F.R. 11034 (Mar.12, 2002); REG-102740-02, 67 F.R. 11070
(Mar.12, 2002); see also Notice 2002-18, 2002-12 I.R.B. 644 (Mar. 25,
2002). In exercising its authority under section 1502, the Secretary is
also authorized to prescribe rules that protect the purpose of General
Utilities repeal using presumptions and other simplifying conventions.
---------------------------------------------------------------------------
Effective date.--The provision is effective for all
years, whether beginning before, on, or after the date of
enactment of the provision. No inference is intended that the
results following from this provision are not the same as the
results under present law.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Chief Executive Officer required to sign corporate income tax
returns (sec. 332 of the Senate amendment and sec. 6062 of the
Code)
PRESENT LAW
The Code requires \182\ that the income tax return of a
corporation must be signed by either the president, the vice-
president, the treasurer, the assistant treasurer, the chief
accounting officer, or any other officer of the corporation
authorized by the corporation to sign the return.
---------------------------------------------------------------------------
\182\ Sec. 6062.
---------------------------------------------------------------------------
The Code also imposes \183\ a criminal penalty on any
person who willfully signs any tax return under penalties of
perjury that that person does not believe to be true and
correct with respect to every material matter at the time of
filing. If convicted, the person is guilty of a felony; the
Code imposes a fine of not more than $100,000 \184\ ($500,000
in the case of a corporation) or imprisonment of not more than
three years, or both, together with the costs of prosecution.
---------------------------------------------------------------------------
\183\ Sec. 7206.
\184\ Pursuant to 18 U.S.C. 3571, the maximum fine for an
individual convicted of a felony is $250,000.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment requires that the chief executive
officer of a corporation sign that corporation's income tax
returns.\185\ If the corporation does not have a chief
executive officer, the IRS may designate another officer of the
corporation; otherwise, no other person is permitted to sign
the income tax return of a corporation. It is intended that the
IRS issue general guidance, such as a revenue procedure, to (1)
address situations when a corporation does not have a chief
executive officer, and (2) define who the chief executive
officer is, in situations (for example) when the primary
official bears a different title or when a corporation has
multiple chief executive officers. It is intended that, in
every instance, the highest ranking corporate officer
(regardless of title) sign the tax return.
---------------------------------------------------------------------------
\185\ Because the provision amends section 6062, it applies only to
the Form 1120 itself (or its equivalent) and any disclosures required
under section 6662 or related provisions. It does not apply to any
other schedules or attachments.
---------------------------------------------------------------------------
The provision does not apply to the income tax returns of
mutual funds;\186\ they are required to be signed as under
present law.
---------------------------------------------------------------------------
\186\ The provision does, however, apply to the income tax returns
of mutual fund management companies and advisors.
---------------------------------------------------------------------------
Effective date.--The provision is effective for returns
filed after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment.
3. Denial of deduction for certain fines, penalties, and other amounts
(sec. 333 of the Senate amendment and sec. 162 of the Code)
PRESENT LAW
Under present law, no deduction is allowed as a trade or
business expense under section 162(a) for the payment of a fine
or similar penalty to a government for the violation of any law
(sec. 162(f)). The enactment of section 162(f) in 1969 codified
existing case law that denied the deductibility of fines as
ordinary and necessary business expenses on the grounds that
``allowance of the deduction would frustrate sharply defined
national or State policies proscribing the particular types of
conduct evidenced by some governmental declaration thereof.''
\187\
---------------------------------------------------------------------------
\187\ S. Rep. 91-552, 91st Cong, 1st Sess., 273-74 (1969),
referring to Tank Truck Rentals, Inc. v. Commissioner, 356 U.S. 30
(1958).
---------------------------------------------------------------------------
Treasury regulation section 1.162-21(b)(1) provides that
a fine or similar penalty includes an amount: (1) paid pursuant
to conviction or a plea of guilty or nolo contendere for a
crime (felony or misdemeanor) in a criminal proceeding; (2)
paid as a civil penalty imposed by Federal, State, or local
law, including additions to tax and additional amounts and
assessable penalties imposed by chapter 68 of the Code; (3)
paid in settlement of the taxpayer's actual or potential
liability for a fine or penalty (civil or criminal); or (4)
forfeited as collateral posted in connection with a proceeding
which could result in imposition of such a fine or penalty.
Treasury regulation section 1.162-21(b)(2) provides, among
other things, that compensatory damages (including damages
under section 4A of the Clayton Act (15 U.S.C. 15a), as
amended) paid to a government do not constitute a fine or
penalty.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment modifies the rules regarding the
determination whether payments are nondeductible payments of
fines or penalties under section 162(f). In particular, the
bill generally provides that amounts paid or incurred (whether
by suit, agreement, or otherwise) to, or at the direction of, a
government in relation to the violation of any law or the
investigation or inquiry into the potential violation of any
law \188\ are nondeductible under any provision of the income
tax provisions.\189\ The bill applies to deny a deduction for
any such payments, including those where there is no admission
of guilt or liability and those made for the purpose of
avoiding further investigation or litigation. An exception
applies to payments that the taxpayer establishes are
restitution.\190\
---------------------------------------------------------------------------
\188\ The bill does not affect amounts paid or incurred in
performing routine audits or reviews such as annual audits that are
required of all organizations or individuals in a similar business
sector, or profession, as a requirement for being allowed to conduct
business. However, if the government or regulator raised an issue of
compliance and a payment is required in settlement of such issue, the
bill would affect that payment.
\189\ The bill provides that such amounts are nondeductible under
chapter 1 of the Internal Revenue Code.
\190\ The bill does not affect the treatment of antitrust payments
made under section 4 of the Clayton Act, which will continue to be
governed by the provisions of section 162(g).
---------------------------------------------------------------------------
It is intended that a payment will be treated as
restitution only if the payment is required to be paid to the
specific persons, or in relation to the specific property,
actually harmed by the conduct of the taxpayer that resulted in
the payment. Thus, a payment to or with respect to a class
broader than the specific persons or property that were
actually harmed (e.g., to a class including similarly situated
persons or property) does not qualify as restitution.\191\
Restitution is limited to the amount that bears a substantial
quantitative relationship to the harm caused by the past
conduct or actions of the taxpayer that resulted in the payment
in question. If the party harmed is a government or other
entity, then restitution includes payment to such harmed
government or entity, provided the payment bears a substantial
quantitative relationship to the harm. However, restitution
does not include reimbursement of government investigative or
litigation costs, or payments to whistleblowers.
---------------------------------------------------------------------------
\191\ Similarly, a payment to a charitable organization benefitting
a broader class than the persons or property actually harmed, or to be
paid out without a substantial quantitative relationship to the harm
caused, would not qualify as restitution. Under the provision, such a
payment not deductible under section 162 would also not be deductible
under section 170.
---------------------------------------------------------------------------
Amounts paid or incurred (whether by suit, agreement, or
otherwise) to, or at the direction of, any self-regulatory
entity that regulates a financial market or other market that
is a qualified board or exchange under section 1256(g)(7), and
that is authorized to impose sanctions (e.g., the National
Association of Securities Dealers) are likewise subject to the
provision if paid in relation to a violation, or investigation
or inquiry into a potential violation, of any law (or any rule
or other requirement of such entity). To the extent provided in
regulations, amounts paid or incurred to, or at the direction
of, any other nongovernmental entity that exercises self-
regulatory powers as part of performing an essential
governmental function are similarly subject to the provision.
The exception for payments that the taxpayer establishes are
restitution likewise applies in these cases.
No inference is intended as to the treatment of payments
as nondeductible fines or penalties under present law. In
particular, the Senate amendment is not intended to limit the
scope of present-law section 162(f) or the regulations
thereunder.
Effective date.--The Senate amendment is effective for
amounts paid or incurred on or after April 28, 2003; however
the proposal does not apply to amounts paid or incurred under
any binding order or agreement entered into before such date.
Any order or agreement requiring court approval is not a
binding order or agreement for this purpose unless such
approval was obtained on or before April 27, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Denial of deduction for punitive damages (sec. 334 of the Senate
amendment and sec. 162 of the Code)
PRESENT LAW
In general, a deduction is allowed for all ordinary and
necessary expenses that are paid or incurred by the taxpayer
during the taxable year in carrying on any trade or
business.\192\ However, no deduction is allowed for any payment
that is made to an official of any governmental agency if the
payment constitutes an illegal bribe or kickback or if the
payment is to an official or employee of a foreign government
and is illegal under Federal law.\193\ In addition, no
deduction is allowed under present law for any fine or similar
payment made to a government for violation of any law.\194\
Furthermore, no deduction is permitted for two-thirds of any
damage payments made by a taxpayer who is convicted of a
violation of the Clayton antitrust law or any related antitrust
law.\195\
---------------------------------------------------------------------------
\192\ Sec. 162(a).
\193\ Sec. 162(c).
\194\ Sec. 162(f).
\195\ Sec. 162(g).
---------------------------------------------------------------------------
In general, gross income does not include amounts
received on account of personal physical injuries and physical
sickness.\196\ However, this exclusion does not apply to
punitive damages.\197\
---------------------------------------------------------------------------
\196\ Sec. 104(a).
\197\ Sec. 104(a)(2).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment denies any deduction for punitive
damages that are paid or incurred by the taxpayer as a result
of a judgment or in settlement of a claim. If the liability for
punitive damages is covered by insurance, any such punitive
damages paid by the insurer are included in gross income of the
insured person and the insurer is required to report such
amounts to both the insured person and the IRS.
Effective date.--The Senate amendment provision is
effective for punitive damages that are paid or incurred on or
after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Criminal tax fraud (sec. 335 of the Senate amendment and secs. 7201,
7203, and 7206 of the Code)
PRESENT LAW
Attempt to evade or defeat tax
In general, section 7201 imposes a criminal penalty on
persons who willfully attempt to evade or defeat any tax
imposed by the Code. Upon conviction, the Code provides that
the penalty is up to $100,000 or imprisonment of not more than
five years (or both). In the case of a corporation, the Code
increases the monetary penalty to a maximum of $500,000.
Willful failure to file return, supply information, or pay tax
In general, section 7203 imposes a criminal penalty on
persons required to make estimated tax payments, pay taxes,
keep records, or supply information under the Code who
willfully fail to do so. Upon conviction, the Code provides
that the penalty is up to $25,000 or imprisonment of not more
than one year (or both). In the case of a corporation, the Code
increases the monetary penalty to a maximum of $100,000.
Fraud and false statements
In general, section 7206 imposes a criminal penalty on
persons who make fraudulent or false statements under the Code.
Upon conviction, the Code provides that the penalty is up to
$100,000 or imprisonment of not more than three years (or
both). In the case of a corporation, the Code increases the
monetary penalty to a maximum of $500,000.
Uniform sentencing guidelines
Under the uniform sentencing guidelines established by 18
U.S.C. 3571, a defendant found guilty of a criminal offense is
subject to a maximum fine that is the greatest of: (a) the
amount specified in the underlying provision, (b) for a felony
\198\ $250,000 for an individual or $500,000 for an
organization, or (c) twice the gross gain if a person derives
pecuniary gain from the offense. This Title 18 provision
applies to all criminal provisions in the United States Code,
including those in the Internal Revenue Code. For example, for
an individual, the maximum fine under present law upon
conviction of violating section 7206 is $250,000 or, if
greater, twice the amount of gross gain from the offense.
---------------------------------------------------------------------------
\198\ Section 7206 states that making fraudulent or false
statements under the Code is a felony. In addition, this offense is a
felony pursuant to the classification guidelines of 18 U.S.C.
3559(a)(5).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Attempt to evade or defeat tax
The Senate amendment increases the criminal penalty under
section 7201 of the Code for individuals to $250,000 and for
corporations to $1,000,000. The Senate amendment increases the
maximum prison sentence to ten years.
Willful failure to file return, supply information, or pay tax
The Senate amendment increases the criminal penalty under
section 7203 of the Code from a misdemeanor to a felony and
increases the maximum prison sentence to ten years.
Fraud and false statements
The Senate amendment increases the criminal penalty under
section 7206 of the Code for individuals to $250,000 and for
corporations to $1,000,000. The Senate amendment increases the
maximum prison sentence to five years. The Senate amendment
also provides that in no event shall the amount of the monetary
penalty under this provision be less than the amount of the
underpayment or overpayment attributable to fraud.
Effective date
The provision is effective for offenses committed after
the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Executive compensation reforms (sec. 336, 337 and 338 of the Senate
amendment and sec. 83 and new sec. 409A of the Code)
PRESENT LAW
Property transferred in connection with the performance of services
Section 83 applies to transfers of property in connection
with the performance of services. Under section 83, if, in
connection with the performance of services, property is
transferred to any person other than the person for whom such
services are performed, the excess of the fair market value of
such property over the amount (if any) paid for the property is
includible in income at the first time that the property is
transferable or not subject to substantial risk of forfeiture.
Stock granted to an employee (or other service provider)
is subject to the rules that apply under section 83. When stock
is vested and transferred to an employee, the excess of the
fair market value of the stock over the amount, if any, the
employee pays for the stock is includible in the employee's
income for the year in which the transfer occurs.
The income taxation of a nonqualified stock option is
determined under section 83 and depends on whether the option
has a readily ascertainable fair market value. If the
nonqualified option does not have a readily ascertainable fair
market value at the time of grant, no amount is includible in
the gross income of the recipient with respect to the option
until the recipient exercises the option. The transfer of stock
on exercise of the option is subject to the general rules of
section 83. That is, if vested stock is received on exercise of
the option, the excess of the fair market value of the stock
over the option price is includible in the recipient's gross
income as ordinary income in the taxable year in which the
option is exercised. If the stock received on exercise of the
option is not vested, the excess of the fair market value of
the stock at the time of vesting over the option price is
includible in the recipient's income for the year in which
vesting occurs unless the recipient elects to apply section 83
at the time of exercise.
Other forms of stock-based compensation are also subject
to the rules of section 83.
Nonqualified deferred compensation
The determination of when amounts deferred under a
nonqualified deferred compensation arrangement are includible
in the gross income of the individual earning the compensation
depends on the facts and circumstances of the arrangement. A
variety of tax principles and Code provisions may be relevant
in making this determination, including the doctrine of
constructive receipt, the economic benefit doctrine,\199\ the
provisions of section 83 relating generally to transfers of
property in connection with the performance of services, and
provisions relating specifically to nonexempt employee trusts
(sec. 402(b)) and nonqualified annuities (sec. 403(c)).
---------------------------------------------------------------------------
\199\ See, e.g., Sproull v. Commissioner, 16 T.C. 244 (1951), aff'd
per curiam, 194 F.2d 541 (6th Cir. 1952); Rev. Rul. 60-31, 1960-1 C.B.
174.
---------------------------------------------------------------------------
In general, the time for income inclusion of nonqualified
deferred compensation depends on whether the arrangement is
unfunded or funded. If the arrangement is unfunded, then the
compensation is generally includible in income when it is
actually or constructively received. If the arrangement is
funded, then income is includible for the year in which the
individual's rights are transferable or not subject to a
substantial risk of forfeiture.
Nonqualified deferred compensation is generally subject
to social security and Medicare tax when it is earned (i.e.,
when services are performed), unless the nonqualified deferred
compensation is subject to a substantial risk of forfeiture. If
nonqualified deferred compensation is subject to a substantial
risk of forfeiture, it is subject to social security and
Medicare tax when the risk of forfeiture is removed (i.e., when
the right to the nonqualified deferred compensation vests).
This treatment is not affected by whether the arrangement is
funded or unfunded, which is relevant in determining when
amounts are includible in income (and subject to income tax
withholding).
In general, an arrangement is considered funded if there
has been a transfer of property under section 83. Under that
section, a transfer of property occurs when a person acquires a
beneficial ownership interest in such property. The term
``property'' is defined very broadly for purposes of section
83.\200\ Property includes real and personal property other
than money or an unfunded and unsecured promise to pay money in
the future. Property also includes a beneficial interest in
assets (including money) that are transferred or set aside from
claims of the creditors of the transferor, for example, in a
trust or escrow account. Accordingly, if, in connection with
the performance of services, vested contributions are made to a
trust on an individual's behalf and the trust assets may be
used solely to provide future payments to the individual, the
payment of the contributions to the trust constitutes a
transfer of property to the individual that is taxable under
section 83. On the other hand, deferred amounts are generally
not includible in income in situations where nonqualified
deferred compensation is payable from general corporate funds
that are subject to the claims of general creditors, as such
amounts are treated as unfunded and unsecured promises to pay
money or property in the future.
---------------------------------------------------------------------------
\200\ Treas. Reg. sec. 1.83-3(e). This definition in part reflects
previous IRS rulings on nonqualified deferred compensation.
---------------------------------------------------------------------------
As discussed above, if the arrangement is unfunded, then
the compensation is generally includible in income when it is
actually or constructively received under section 451. Income
is constructively received when it is credited to an
individual's account, set apart, or otherwise made available so
that it can be drawn on at any time. Income is not
constructively received if the taxpayer's control of its
receipt is subject to substantial limitations or restrictions.
A requirement to relinquish a valuable right in order to make
withdrawals is generally treated as a substantial limitation or
restriction.
Rabbi trusts
Arrangements have developed in an effort to provide
employees with security for nonqualified deferred compensation,
while still allowing deferral of income inclusion. A ``rabbi
trust'' is a trust or other fund established by the employer to
hold assets from which nonqualified deferred compensation
payments will be made. The trust or fund is generally
irrevocable and does not permit the employer to use the assets
for purposes other than to provide nonqualified deferred
compensation, except that the terms of the trust or fund
provide that the assets are subject to the claims of the
employer's creditors in the case of insolvency or bankruptcy.
As discussed above, for purposes of section 83, property
includes a beneficial interest in assets set aside from the
claims of creditors, such as in a trust or fund, but does not
include an unfunded and unsecured promise to pay money in the
future. In the case of a rabbi trust, terms providing that the
assets are subject to the claims of creditors of the employer
in the case of insolvency or bankruptcy have been the basis for
the conclusion that the creation of a rabbi trust does not
cause the related nonqualified deferred compensation
arrangement to be funded for income tax purposes.\201\ As a
result, no amount is included in income by reason of the rabbi
trust; generally income inclusion occurs as payments are made
from the trust.
---------------------------------------------------------------------------
\201\ This conclusion was first provided in a 1980 private ruling
issued by the IRS with respect to an arrangement covering a rabbi;
hence the popular name ``rabbi trust.'' Priv. Ltr. Rul. 8113107 (Dec.
31, 1980).
---------------------------------------------------------------------------
The IRS has issued guidance setting forth model rabbi
trust provisions.\202\ Revenue Procedure 92-64 provides a safe
harbor for taxpayers who adopt and maintain grantor trusts in
connection with unfunded deferred compensation arrangements.
The model trust language requires that the trust provide that
all assets of the trust are subject to the claims of the
general creditors of the company in the event of the company's
insolvency or bankruptcy.
---------------------------------------------------------------------------
\202\ Rev. Proc. 92-64, 1992-2 C.B. 422, modified in part by Notice
2000-56, 2000-2 C.B. 393.
---------------------------------------------------------------------------
Since the concept of rabbi trusts was developed,
arrangements have developed which attempt to protect the assets
from creditors despite the terms of the trust. Arrangements
also have developed which effectively allow deferred amounts to
be available to individuals, while still meeting the safe
harbor requirements set forth by the IRS.
HOUSE BILL
No provision.
SENATE AMENDMENT
Taxation of nonqualified deferred compensation funded with assets
located outside of the United States
The Senate amendment provides that assets that are
designated or otherwise available for the use of providing
nonqualified deferred compensation and are located outside the
United States (e.g., in a foreign trust, arrangement or
account) are not treated as subject to the claims of general
creditors. Therefore, to the extent of such assets,
nonqualified deferred compensation amounts are not treated as
unfunded and unsecured promises to pay, but are treated as
property under section 83 and includible in income when the
right to the compensation is no longersubject to a substantial
risk of forfeiture, regardless of when the compensation is paid. No
inference is intended that nonqualified deferred compensation assets
located outside of the U.S. would be treated as subject to the claims
of creditors under present law.
The Senate amendment does not apply to assets located in
a foreign jurisdiction if substantially all of the services to
which the nonqualified deferred compensation relates are
performed in such foreign jurisdiction.
The Senate amendment is specifically intended to apply to
foreign trusts and arrangements that effectively shield from
the claims of general creditors any assets intended to satisfy
nonqualified deferred compensation obligations. The Senate
amendment provides the Secretary of the Treasury authority to
prescribe regulations as are necessary to carry out the
provision and to provide additional exceptions for specific
arrangements which do not result in improper deferral of U.S.
tax if the assets involved in the arrangement are readily
accessible in any insolvency or bankruptcy proceeding.
Inclusion in gross income of funded deferred compensation of corporate
insiders
Under the Senate amendment, if an employer maintains a
funded deferred compensation plan,\203\ compensation of any
disqualified individual which is deferred under the plan is
includible in the gross income of the individual or beneficiary
for the first taxable year in which there is no substantial
risk of forfeiture.\204\
---------------------------------------------------------------------------
\203\ A plan includes an agreement or arrangement.
\204\ Compensation is treated as subject to a substantial risk of
forfeiture if the rights to such compensation are conditioned upon the
future performance of substantial services by any individual. If an
arrangement is treated as a funded deferred compensation plan under the
provision, amounts may be includible in gross income before they are
paid or made available. In determining the tax treatment of amounts
available under the plan, the rules applicable to the taxation of
annuities apply.
---------------------------------------------------------------------------
Under the Senate amendment, a plan is treated as a funded
deferred compensation plan unless (1) the employee's rights to
the compensation deferred under the plan, and all income
attributable to such amounts, are no greater than the rights of
a general creditor of the employer; (2) until made available to
the participant or beneficiary, all amounts set aside (directly
or indirectly) for the purposes of paying the deferred
compensation, and all income attributable to such amounts,
remain solely the property of the employer and are not
restricted to the provision of benefits under the plan; (3) at
all times (not merely after bankruptcy or insolvency), all
amounts set aside are available to satisfy the claims of the
employer's general creditors; and (4) investment options under
which a participant may elect under the nonqualified deferred
compensation plan are the same as those which may be elected by
participants of the qualified employer plan that has the fewest
investment options. Under the Senate amendment, if amounts are
set aside for the exclusive purpose of paying deferred
compensation benefits, the plan is treated as a funded plan.
Amounts set aside in an employer's general assets, even if such
assets are segregated for bookkeeping or accounting purposes,
which are not restricted to the payment of deferred
compensation, and are subject to the claims of general
creditors, are not treated as funded if the other requirements
under the provision are satisfied.
An employee's right to deferred compensation is treated
as greater than the rights of general creditors unless (1) the
deferred compensation, and all income attributable to such
amounts, is payable only upon separation from service,
disability, death, or at a specified time (or pursuant to a
fixed schedule) and (2) the plan does not permit the
acceleration of the time of such payments by reason of any
event. Amounts payable upon a specified event are not treated
as amounts payable at a specified time. For example, amounts
payable when an individual attains age 65 are payable at a
specified time, while amounts payable when an individual's
child begins college are payable by reason of an event.
Disability is defined as under the Social Security Act. Under
such definition, an individual is considered to be disabled if
he is unable to engage in any substantial gainful activity by
reason of any medically determinable physical or mental
impairment which can be expected to result in death or which
has lasted or can be expected to last for a continuous period
of not less than twelve months. A plan which allows payment of
deferred compensation or earnings other than upon separation
from service, disability, death, or specified time, or allows
for any acceleration of payments, is treated as funded and
compensation deferred under such plan is includible in income
when the rights to such compensation are not subject to a
substantial risk of forfeiture.
Even if an employee's rights are treated as no greater
than the rights of general creditors in compliance with the
previously discussed criteria, if the employer and employee
agree to a modification of the plan that accelerates the time
for payment of deferred compensation, then all compensation
previously deferred is includible in gross income for the
taxable year in which the modification takes effect. In
addition, upon such a modification, the taxpayer is required to
pay interest at the underpayment rate on the underpayments that
would have occurred had the deferred compensation been
includible in gross income on the earliest date that there is
no substantial risk of forfeiture of the right to the
compensation. Such interest is treated as interest on an
underpayment of tax.
With respect to amounts set aside in a trust, a plan is
treated as failing to meet the requirement that amounts set
aside remain solely the property of the employer and are not
restricted to the payment of benefits under the plan unless
certain specified criteria are met: (1) the employee must have
no beneficial interest in the trust; (2) assets in the trust
must be available to satisfy the claims of general creditors at
all times (not merely after bankruptcy or insolvency); and (3)
no factor can exist which would make it more difficult for
general creditors to reach the assets in the trust than it
would be if the trust assets were held directly by the employer
in the United States. The location of the trust outside of the
United States is such a prohibited factor, unless substantially
all of the services to which the nonqualified deferred
compensation relates are performed in such foreign
jurisdiction. The Senate amendment provides the Secretary of
the Treasury authority to provide additional exceptions from
the requirement for specific arrangements which do not result
in improper deferral of U.S. tax if the assets involved in the
arrangement are readily accessible to general creditors. If any
of the criteria are not satisfied, the trust is treated as a
funded arrangement and compensation deferred is includible in
gross income when such compensation is not subject to a
substantial risk of forfeiture.
A disqualified individual is any individual who, with
respect to a corporation, is subject to the requirements of
section 16(a) of the Securities Act of 1934, or would be
subject to such requirements if such corporation were an issuer
of equity securities referred to in that section. Generally,
disqualified individuals include officers (as defined by
section 16(a)),\205\ directors, or 10-percent owners of both
private and publicly-held corporations.
---------------------------------------------------------------------------
\205\ An officer is defined as the president, principal financial
officer, principal accounting officer (or, if there is no such
accounting officer, the controller), any vice-president in charge of a
principal business unit, division or function (such as sales,
administration or finance), any other officer who performs a
policymaking function, or any other person who performs similar
policymaking functions.
---------------------------------------------------------------------------
A funded deferred compensation plan does not include a
qualified retirement plan or annuity, a tax-sheltered annuity,
a simplified employee pension, a simple retirement account,
certain plans funded solely by employee contributions, a
governmental plan, or a plan of a tax-exempt organization.
Present law rules continue to apply to plans or arrangements
not subject to the Senate amendment (e.g., secs. 401(a),
403(b), and 457).
It is not intended that the Senate amendment change the
tax treatment of trusts under section 402(b) or of any
arrangements under which amounts are otherwise includible in
income. It is not intended that the Senate amendment change the
rules applicable to an employer's deduction for nonqualified
deferred compensation.
The Senate amendment provides the Secretary of the
Treasury authority to prescribe regulations as are necessary to
carry out the provision.
Denial of deferral of certain stock option and restricted stock gains
Under the Senate amendment, gains attributable to stock
options (including exercises of stock options), vesting of
restricted stock, and other employer security based
compensation cannot be deferred by electing to receive a future
payment in lieu of such amounts. The Senate amendment applies
even if the future right to payment is treated as an unfunded
to promise to pay.
The Senate amendment is not intended to imply that such
practices result in permissive deferral of income under present
law.
Effective date
The Senate amendment relating to nonqualified deferred
compensation assets located outside of the United States is
effective for amounts deferred in taxable years beginning after
December 31, 2003.
The Senate amendment requiring inclusion in income of
funded nonqualified deferred compensation of corporate insiders
is effective for amounts deferred in taxable years beginning
after December 31, 2003.
The Senate amendment denying deferral of certain stock
option and restricted stock gains is effective for exchanges
after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provisions.
7. Increase in withholding from supplemental wage payments in excess of
$1 million (sec. 339 of the Senate amendment and sec. 13273 of
the Revenue Reconciliation Act of 1993)
PRESENT LAW
An employer must withhold income taxes from wages paid to
employees; there are several possible methods for determining
the amount of income tax to be withheld. The IRS publishes
tables (Publication 15, ``Circular E'') to be used in
determining the amount of income tax to be withheld. The tables
generally reflect the income tax rates under the Code so that
withholding approximates the ultimate tax liability with
respect to the wage payments. In some cases, ``supplemental''
wage payments (e.g., bonuses or commissions) may be subject to
withholding at a flat rate,\206\ based on the third lowest
income tax rate under the Code (27 percent for 2003).\207\
---------------------------------------------------------------------------
\206\ Sec. 13273 of the Revenue Reconciliation Act of 1993.
\207\ Sec. 101(c)(11) of the Economic Growth and Tax Relief
Reconciliation Act of 2001.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, once annual supplemental wage
payments to an employee exceed $1 million, any additional
supplemental wage payments to the employee in that year are
subject to withholding at the highest income tax rate (38.6
percent for 2003), regardless of any other withholding rules
and regardless of the employee's Form W-4.
This rule applies only for purposes of wage withholding;
other types of withholding (such as pension withholding and
backup withholding) are not affected.
Effective date.--The provision is effective with respect
to payments made after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
D. International Provisions
1. Impose mark-to-market on individuals who expatriate (sec. 340 of the
Senate amendment and secs. 102, 877, 2107, 2501, 7701 and 6039G
of the Code)
PRESENT LAW
In general
U.S. citizens and residents generally are subject to U.S.
income taxation on their worldwide income. The U.S. tax may be
reduced or offset by a credit allowed for foreign income taxes
paid with respect to foreign-source income. Nonresidents who
are not U.S. citizens are taxed at a flat rate of 30 percent
(or a lower treaty rate) on certain types of passive income
derived from U.S. sources, and at regular graduated rates on
net profits derived from a U.S. business.
Income tax rules with respect to expatriates
An individual who relinquishes his or her U.S.
citizenship or terminates his or her U.S. residency with a
principal purpose of avoiding U.S. taxes is subject to an
alternative method of income taxation for the 10 taxable years
ending after the expatriation or residency termination under
section 877. The alternative method of taxation for expatriates
modifies the rules generally applicable to the taxation of
nonresident noncitizens in several ways. First, the individual
is subject to tax on his or her U.S.-source income at the rates
applicable to U.S. citizens rather than the rates applicable to
other nonresident noncitizens. Unlike U.S. citizens, however,
individuals subject to section 877 are not taxed on foreign-
source income. Second, the scope of items treated as U.S.-
source income for section 877 purposes is broader than those
items generally considered to be U.S.-source income under the
Code.\208\ Third, individuals subject to section 877 are taxed
on exchanges of certain types of property that give rise to
U.S.-source income for property that gives rise to foreign-
source income.\209\ Fourth, an individual subject to section
877 who contributes property to a controlled foreign
corporation is treated as receiving income or gain from such
property directly and is taxable on such income or gain. The
alternative method of taxation for expatriates applies only if
it results in a higher U.S. tax liability than would otherwise
be determined if the individual were taxed as a nonresident
noncitizen.
---------------------------------------------------------------------------
\208\ For example, gains on the sale or exchange of personal
property located in the United States, and gains on the sale or
exchange of stocks and securities issued by U.S. persons, generally are
not considered to be U.S.-source income under the Code. Thus, such
gains would not be taxable to a nonresident noncitizen. However, if an
individual is subject to the alternative regime under sec. 877, such
gains are treated as U.S.-source income with respect to that
individual.
\209\ For example, a former citizen who is subject to the
alternative tax regime and who removes appreciated artwork that he or
she owns from the United States could be subject to immediate U.S. tax
on the appreciation. In this regard, the removal from the United States
of appreciated tangible personal property having an aggregate fair
market value in excess of $250,000 within the 15-year period beginning
five years prior to the expatriation will be treated as an ``exchange''
subject to these rules.
---------------------------------------------------------------------------
The expatriation tax provisions apply to long-term
residents of the United States whose U.S. residency is
terminated. For this purpose, a long-term resident is any
individual who was a lawful permanent resident of the United
States for at least 8 out of the 15 taxable years ending with
the year in which such termination occurs. In applying the 8-
year test, an individual is not considered to be a lawful
permanent resident for any year in which the individual is
treated as a resident of another country under a treaty tie-
breaker rule (and the individual does not elect to waive the
benefits of such treaty).
Subject to the exceptions described below, an individual
is treated as having expatriated or terminated residency with a
principal purpose of avoiding U.S. taxes if either: (1) the
individual's average annual U.S. Federal income tax liability
for the 5 taxable years ending before the date of the
individual's loss of U.S. citizenship or termination of U.S.
residency is greater than $100,000 (the ``tax liability
test''), or (2) the individual's net worth as of the date of
such loss or termination is $500,000 or more (the ``net worth
test''). The dollar amount thresholds contained in the tax
liability test and the net worth test are indexed for inflation
in the case of a loss of citizenship or termination of
residency occurring in any calendar year after 1996. An
individual who falls below these thresholds is not
automatically treated as having a principal purpose of tax
avoidance, but nevertheless is subject to the expatriation tax
provisions if the individual's loss of citizenship or
termination of residency in fact did have as one of its
principal purposes the avoidance of tax.
Certain exceptions from the treatment that an individual
relinquished his or her U.S. citizenship or terminated his or
her U.S. residency for tax avoidance purposes may also apply.
For example, a U.S. citizen who loses his or her citizenship
and who satisfies either the tax liability test or the net
worth test (described above) can avoid being deemed to have a
principal purpose of tax avoidance if the individual falls
within certain categories (such as being a dual citizen) and
the individual, within one year from the date of loss of
citizenship, submits a ruling request for a determination by
the Secretary of the Treasury as to whether such loss had as
one of its principal purposes the avoidance of taxes.
Estate tax rules with respect to expatriates
Nonresident noncitizens generally are subject to estate
tax on certain transfers of U.S.-situated property at
death.\210\ Such property includes real estate and tangible
property located within the United States. Moreover, for estate
tax purposes, stock held by nonresident noncitizens is treated
as U.S.-situated if issued by a U.S. corporation.
---------------------------------------------------------------------------
\210\ The Economic Growth and Tax Relief Reconciliation Act of 2001
(the ``Act'') repealed the estate tax for estates of decedents dying
after December 31, 2009. However, the Act included a ``sunset''
provision, pursuant to which the Act's provisions (including estate tax
repeal) do not apply to estates of decedents dying after December 31,
2010.
---------------------------------------------------------------------------
Special rules apply to U.S. citizens who relinquish their
citizenship and long-term residents who terminate their U.S.
residency within the 10 years prior to the date of death,
unless the loss of status did not have as one its principal
purposes the avoidance of tax (sec. 2107). Under these rules,
the decedent's estate includes the proportion of the decedent's
stock in a foreign corporation that the fair market value of
the U.S.-situs assets owned by the corporation bears to the
total assets of the corporation. This rule applies only if (1)
the decedent owned, directly, at death 10 percent or more of
the combined voting power of all voting stock of the
corporation and (2) the decedent owned, directly or indirectly,
at death more than 50 percent of the total voting stock of the
corporation or more than 50 percent of the total value of all
stock of the corporation.
Taxpayers are deemed to have a principal purpose of tax
avoidance if they meet the five-year tax liability test or the
net worth test, discussed above. Exceptions from this tax
avoidance treatment apply in the same circumstances as those
described above (relating to certain dual citizens and other
individuals who submit a timely and complete ruling request
with the IRS as to whether their expatriation or residency
termination had a principal purpose of tax avoidance).
Gift tax rules with respect to expatriates
Nonresident noncitizens generally are subject to gift tax
on certain transfers by gift of U.S.-situated property. Such
property includes real estate and tangible property located
within the United States. Unlike the estate tax rules for U.S.
stock held by nonresidents, however, nonresident noncitizens
generally are not subject to U.S. gift tax on the transfer of
intangibles, such as stock or securities, regardless of where
such property is situated.
Special rules apply to U.S. citizens who relinquish their
U.S. citizenship or long-term residents of the United States
who terminate their U.S. residency within the 10 years prior to
the date of transfer, unless such loss did not have as one of
its principal purposes the avoidance of tax (sec. 2501(a)(3)).
Under these rules, nonresident noncitizens are subject to gift
tax on transfers of intangibles, such as stock or securities.
Taxpayers are deemed to have a principal purpose of tax
avoidance if they meet the five-year tax liability test or the
net worth test, discussed above. Exceptions from this tax
avoidance treatment apply in the same circumstances as those
described above (relating to certain dual citizens and other
individuals who submit a timely and complete ruling request
with the IRS as to whether their expatriation or residency
termination had a principal purpose of tax avoidance).
Other tax rules with respect to expatriates
The expatriation tax provisions permit a credit against
the U.S. tax imposed under such provisions for any foreign
income, gift, estate, or similar taxes paid with respect to the
items subject to such taxation. This credit is available only
against the tax imposed solely as a result of the expatriation
tax provisions, and is not available to be used to offset any
other U.S. tax liability.
In addition, certain information reporting requirements
apply. Under these rules, a U.S. citizen who loses his or her
citizenship is required to provide a statement to the State
Department (or other designated government entity) that
includes the individual's social security number, forwarding
foreign address, new country of residence and citizenship, a
balance sheet in the case of individuals with a net worth of at
least $500,000, and such other information as the Secretary may
prescribe. The information statement must be provided no later
than the earliest day on which the individual (1) renounces the
individual's U.S. nationality before a diplomatic or consular
officer of the United States, (2) furnishes to the U.S.
Department of State a statement of voluntary relinquishment of
U.S. nationality confirming an act of expatriation, (3) is
issued a certificate of loss of U.S. nationality by the U.S.
Department of State, or (4) loses U.S. nationality because the
individual's certificate of naturalization is canceled by a
U.S. court. The entity to which such statement is to be
provided is required to provide to the Secretary of the
Treasury copies of all statements received and the names of
individuals who refuse to provide such statements. A long-term
resident whose U.S. residency is terminated is required to
attach a similar statement to his or her U.S. income tax return
for the year of such termination. An individual's failure to
provide the required statement results in the imposition of a
penalty for each year the failure continues equal to the
greater of (1) 5 percent of the individual's expatriation tax
liability for such year, or (2) $1,000.
The State Department is required to provide the Secretary
of the Treasury with a copy of each certificate of loss of
nationality approved by the State Department. Similarly, the
agency administering the immigration laws is required to
provide the Secretary of the Treasury with the name of each
individual whose status as a lawful permanent resident has been
revoked or has been determined to have been abandoned. Further,
the Secretary of the Treasury is required to publish in the
Federal Register the names of all former U.S. citizens with
respect to whom it receives the required statements or whose
names or certificates of loss of nationality it receives under
the foregoing information-sharing provisions.
Immigration rules with respect to expatriates
Under U.S. immigration laws, any former U.S. citizen who
officially renounces his or her U.S. citizenship and who is
determined by the Attorney General to have renounced for the
purpose of U.S. tax avoidance is ineligible to receive a U.S.
visa and will be denied entry into the United States. This
provision was included as an amendment (the ``Reed amendment'')
to immigration legislation that was enacted in 1996.
HOUSE BILL
No provision.
SENATE AMENDMENT
In general
The Senate amendment generally subjects certain U.S.
citizens who relinquish their U.S. citizenship and certain
long-term U.S. residents who terminate their U.S. residence to
tax on the net unrealized gain in their property as if such
property were sold for fair market value on the day before the
expatriation or residency termination. Gain from the deemed
sale is taken into account at that time without regard to other
Code provisions; any loss from the deemed sale generally would
be taken into account to the extent otherwise provided in the
Code. Any net gain on the deemed sale is recognized to the
extent it exceeds $600,000 ($1.2 million in the caseof married
individuals filing a joint return, both of whom relinquish citizenship
or terminate residency). The $600,000 amount is increased by a cost of
living adjustment factor for calendar years after 2003.
Individuals covered
Under the Senate amendment, the mark-to-market tax
applies to U.S. citizens who relinquish citizenship and long-
term residents who terminate U.S. residency. An individual is a
long-term resident if he or she was a lawful permanent resident
for at least eight out of the 15 taxable years ending with the
year in which the termination of residency occurs. An
individual is considered to terminate long-term residency when
either the individual ceases to be a lawful permanent resident
(i.e., loses his or her green card status), or the individual
is treated as a resident of another country under a tax treaty
and the individual does not waive the benefits of the treaty.
Exceptions from the mark-to-market tax are provided in
two situations. The first exception applies to an individual
who was born with citizenship both in the United States and in
another country; provided that (1) as of the expatriation date
the individual continues to be a citizen of, and is taxed as a
resident of, such other country, and (2) the individual was not
a resident of the United States for the five taxable years
ending with the year of expatriation. The second exception
applies to a U.S. citizen who relinquishes U.S. citizenship
before reaching age 18 and a half, provided that the individual
was a resident of the United States for no more than five
taxable years before such relinquishment.
Election to be treated as a U.S. citizen
Under the Senate amendment, an individual is permitted to
make an irrevocable election to continue to be taxed as a U.S.
citizen with respect to all property that otherwise is covered
by the expatriation tax. This election is an ``all or nothing''
election; an individual is not permitted to elect this
treatment for some property but not for other property. The
election, if made, would apply to all property that would be
subject to the expatriation tax and to any property the basis
of which is determined by reference to such property. Under
this election, the individual would continue to pay U.S. income
taxes at the rates applicable to U.S. citizens following
expatriation on any income generated by the property and on any
gain realized on the disposition of the property. In addition,
the property would continue to be subject to U.S. gift, estate,
and generation-skipping transfer taxes. In order to make this
election, the taxpayer would be required to waive any treaty
rights that would preclude the collection of the tax.
The individual also would be required to provide security
to ensure payment of the tax under this election in such form,
manner, and amount as the Secretary of the Treasury requires.
The amount of mark-to-market tax that would have been owed but
for this election (including any interest, penalties, and
certain other items) shall be a lien in favor of the United
States on all U.S.-situs property owned by the individual. This
lien shall arise on the expatriation date and shall continue
until the tax liability is satisfied, the tax liability has
become unenforceable by reason of lapse of time, or the
Secretary is satisfied that no further tax liability may arise
by reason of this provision. The rules of section 6324A(d)(1),
(3), and (4) (relating to liens arising in connection with the
deferral of estate tax under section 6166) apply to liens
arising under this provision.
Date of relinquishment of citizenship
Under the Senate amendment, an individual is treated as
having relinquished U.S. citizenship on the earliest of four
possible dates: (1) the date that the individual renounces U.S.
nationality before a diplomatic or consular officer of the
United States (provided that the voluntary relinquishment is
later confirmed by the issuance of a certificate of loss of
nationality); (2) the date that the individual furnishes to the
State Department a signed statement of voluntary relinquishment
of U.S. nationality confirming the performance of an
expatriating act (again, provided that the voluntary
relinquishment is later confirmed by the issuance of a
certificate of loss of nationality); (3) the date that the
State Department issues a certificate of loss of nationality;
or (4) the date that a U.S. court cancels a naturalized
citizen's certificate of naturalization.
Deemed sale of property upon expatriation or residency termination
The deemed sale rule of the Senate amendment generally
applies to all property interests held by the individual on the
date of relinquishment of citizenship or termination of
residency. Special rules apply in the case of trust interests,
as described below. U.S. real property interests, which remain
subject to U.S. tax in the hands of nonresident noncitizens,
generally are excepted from the provision. Regulatory authority
is granted to the Treasury to except other types of property
from the provision.
Under the Senate amendment, an individual who is subject
to the mark-to-market tax is required to pay a tentative tax
equal to the amount of tax that would be due for a hypothetical
short tax year ending on the date the individual relinquished
citizenship or terminated residency. Thus, the tentative tax is
based on all income, gain, deductions, loss, and credits of the
individual for the year through such date, including amounts
realized from the deemed sale of property. The tentative tax is
due on the 90th day after the date of relinquishment of
citizenship or termination of residency.
Retirement plans and similar arrangements
Subject to certain exceptions, the Senate amendment
applies to all property interests held by the individual at the
time of relinquishment of citizenship or termination of
residency. Accordingly, such property includes an interest in
an employer-sponsored retirement plan or deferred compensation
arrangement as well as an interest in an individual retirement
account or annuity (i.e., an IRA).\211\ However, the Senate
amendment contains a special rule for an interest in a
``qualified retirement plan.'' For purposes of the provision, a
``qualified retirement plan'' includes an employer-sponsored
qualified plan (sec. 401(a)), a qualified annuity (sec.
403(a)), a tax-sheltered annuity (sec. 403(b)), an eligible
deferred compensation plan of a governmental employer (sec.
457(b)), or an IRA (sec. 408). The special retirement plan rule
applies also, to the extent provided in regulations, to any
foreign plan or similar retirement arrangement or program. An
interest in a trust that is part of a qualified retirement plan
or other arrangement that is subject to the special retirement
plan rule is not subject to the rules for interests in trusts
(discussed below).
---------------------------------------------------------------------------
\211\ Application of the provision is not limited to an interest
that meets the definition of property under section 83 (relating to
property transferred in connection with the performance of services).
---------------------------------------------------------------------------
Under the special rule, an amount equal to the present
value of the individual's vested, accrued benefit under a
qualified retirement plan is treated as having been received by
the individual as a distribution under the plan on the day
before the individual's relinquishment of citizenship or
termination of residency. It is not intended that the plan
would be deemed to have made a distribution for purposes of the
tax-favored status of the plan, such as whether a plan may
permit distributions before a participant has severed
employment. In the case of any later distribution to the
individual from the plan, the amount otherwise includible in
the individual's income as a result of the distribution is
reduced to reflect the amount previously included in income
under the special retirement plan rule. The amount of the
reduction applied to a distribution is the excess of: (1) the
amount included in income under the special retirement plan
rule over (2) the total reductions applied to any prior
distributions. However, under the provision, the retirement
plan, and any person acting on the plan's behalf, will treat
any later distribution in the same manner as the distribution
would be treated without regard to the special retirement plan
rule.
It is expected that the Treasury Department will provide
guidance for determining the present value of an individual's
vested, accrued benefit under a qualified retirement plan, such
as the individual's account balance in the case of a defined
contribution plan or an IRA, or present value determined under
the qualified joint and survivor annuity rules applicable to a
defined benefit plan (sec. 417(e)).
Deferral of payment of tax
Under the Senate amendment, an individual is permitted to
elect to defer payment of the mark-to-market tax imposed on the
deemed sale of the property. Interest is charged for the period
the tax is deferred at a rate two percentage points higher than
the rate normally applicable to individual underpayments. Under
this election, the mark-to-market tax attributable to a
particular property is due when the property is disposed of
(or, if the property is disposed of in whole or in part in a
nonrecognition transaction, at such other time as the Secretary
may prescribe). The mark-to-market tax attributable to a
particular property is an amount that bears the same ratio to
the total mark-to-market tax for the year as the gain taken
into account with respect to such property bears to the total
gain taken into account under these rules for the year. The
deferral of the mark-to-market tax may not be extended beyond
the individual's death.
In order to elect deferral of the mark-to-market tax, the
individual is required to provide adequate security to the
Treasury to ensure that the deferred tax and interest will be
paid. Other security mechanisms are permitted provided that the
individual establishes to the satisfaction of the Secretary
that the security is adequate. In the event that the security
provided with respect to a particular property subsequently
becomes inadequate and the individual fails to correct the
situation, the deferred tax and the interest with respect to
such property will become due. As afurther condition to making
the election, the individual is required to consent to the waiver of
any treaty rights that would preclude the collection of the tax.
The deferred amount (including any interest, penalties,
and certain other items) shall be a lien in favor of the United
States on all U.S.-situs property owned by the individual. This
lien shall arise on the expatriation date and shall continue
until the tax liability is satisfied, the tax liability has
become unenforceable by reason of lapse of time, or the
Secretary is satisfied that no further tax liability may arise
by reason of this provision. The rules of section 6324A(d)(1),
(3), and (4) (relating to liens arising in connection with the
deferral of estate tax under section 6166) apply to liens
arising under this provision.
Interests in trusts
Under the Senate amendment, detailed rules apply to trust
interests held by an individual at the time of relinquishment
of citizenship or termination of residency. The treatment of
trust interests depends on whether the trust is a qualified
trust. A trust is a qualified trust if a court within the
United States is able to exercise primary supervision over the
administration of the trust and one or more U.S. persons have
the authority to control all substantial decisions of the
trust.
Constructive ownership rules apply to a trust beneficiary
that is a corporation, partnership, trust, or estate. In such
cases, the shareholders, partners, or beneficiaries of the
entity are deemed to be the direct beneficiaries of the trust
for purposes of applying these provisions. In addition, an
individual who holds (or who is treated as holding) a trust
instrument at the time of relinquishment of citizenship or
termination of residency is required to disclose on his or her
tax return the methodology used to determine his or her
interest in the trust, and whether such individual knows (or
has reason to know) that any other beneficiary of the trust
uses a different method.
Nonqualified trusts.--If an individual holds an interest
in a trust that is not a qualified trust, a special rule
applies for purposes of determining the amount of the mark-to-
market tax due with respect to such trust interest. The
individual's interest in the trust is treated as a separate
trust consisting of the trust assets allocable to such
interest. Such separate trust is treated as having sold its net
assets as of the date of relinquishment of citizenship or
termination of residency and having distributed the assets to
the individual, who then is treated as having recontributed the
assets to the trust. The individual is subject to the mark-to-
market tax with respect to any net income or gain arising from
the deemed distribution from the trust.
The election to defer payment is available for the mark-
to-market tax attributable to a nonqualified trust interest.
Interest is charged for the period the tax is deferred at a
rate two percentage points higher than the rate normally
applicable to individual underpayments. A beneficiary's
interest in a nonqualified trust is determined under all the
facts and circumstances, including the trust instrument,
letters of wishes, and historical patterns of trust
distributions.
Qualified trusts.--If an individual has an interest in a
qualified trust, the amount of unrealized gain allocable to the
individual's trust interest is calculated at the time of
expatriation or residency termination. In determining this
amount, all contingencies and discretionary interests are
assumed to be resolved in the individual's favor (i.e., the
individual is allocated the maximum amount that he or she could
receive). The mark-to-market tax imposed on such gains is
collected when the individual receives distributions from the
trust, or if earlier, upon the individual's death. Interest is
charged for the period the tax is deferred at a rate two
percentage points higher than the rate normally applicable to
individual underpayments.
If an individual has an interest in a qualified trust,
the individual is subject to the mark-to-market tax upon the
receipt of distributions from the trust. These distributions
also may be subject to other U.S. income taxes. If a
distribution from a qualified trust is made after the
individual relinquishes citizenship or terminates residency,
the mark-to-market tax is imposed in an amount equal to the
amount of the distribution multiplied by the highest tax rate
generally applicable to trusts and estates, but in no event
will the tax imposed exceed the deferred tax amount with
respect to the trust interest. For this purpose, the deferred
tax amount is equal to (1) the tax calculated with respect to
the unrealized gain allocable to the trust interest at the time
of expatriation or residency termination, (2) increased by
interest thereon, and (3) reduced by any mark-to-market tax
imposed on prior trust distributions to the individual.
If any individual's interest in a trust is vested as of
the expatriation date (e.g., if the individual's interest in
the trust is non-contingent and non-discretionary), the gain
allocable to the individual's trust interest is determined
based on the trust assets allocable to his or her trust
interest. If the individual's interest in the trust is not
vested as of the expatriation date (e.g., if the individual's
trust interest is a contingent or discretionary interest), the
gain allocable to his or her trust interest is determined based
on all of the trust assets that could be allocable to his or
her trust interest, determined by resolving all contingencies
and discretionary powers in the individual's favor. In the case
where more than one trust beneficiary is subject to the
expatriation tax with respect to trust interests that are not
vested, the rules are intended to apply so that the same
unrealized gain with respect to assets in the trust is not
taxed to both individuals.
Mark-to-market taxes become due if the trust ceases to be
a qualified trust, the individual disposes of his or her
qualified trust interest, or the individual dies. In such
cases, the amount of mark-to-market tax equals the lesser of
(1) the tax calculated under the rules for nonqualified trust
interests as of the date of the triggering event, or (2) the
deferred tax amount with respect to the trust interest as of
that date.
The tax that is imposed on distributions from a qualified
trust generally is deducted and withheld by the trustees. If
the individual does not agree to waive treaty rights that would
preclude collection of the tax, the tax with respect to such
distributions is imposed on the trust, the trustee is
personally liable for the tax, and any other beneficiary has a
right of contribution against such individual with respect to
the tax. Similar rules apply when the qualified trust interest
is disposed of, the trust ceases to be a qualified trust, or
the individual dies.
Coordination with present-law alternative tax regime
The Senate amendment provides a coordination rule with
the present-law alternative tax regime. Under the provision,
the expatriation income tax rules under section 877, and the
expatriation estate and gift tax rules under sections 2107 and
2501(a)(3) (described above), donot apply to a former citizen
or former long-term resident whose expatriation or residency
termination occurs on or after February 5, 2003.
Treatment of gifts and inheritances from a former citizen or former
long-term resident
Under the Senate amendment, the exclusion from income
provided in section 102 (relating to exclusions from income for
the value of property acquired by gift or inheritance) does not
apply to the value of any property received by gift or
inheritance from a former citizen or former long-term resident
(i.e., an individual who relinquished U.S. citizenship or
terminated U.S. residency), subject to the exceptions described
above relating to certain dual citizens and minors.
Accordingly, a U.S. taxpayer who receives a gift or inheritance
from such an individual is required to include the value of
such gift or inheritance in gross income and is subject to U.S.
tax on such amount. Having included the value of the property
in income, the recipient would then take a basis in the
property equal to that value. The tax does not apply to
property that is shown on a timely filed gift tax return and
that is a taxable gift by the former citizen or former long-
term resident, or property that is shown on a timely filed
estate tax return and included in the gross U.S. estate of the
former citizen or former long-term resident (regardless of
whether the tax liability shown on such a return is reduced by
credits, deductions, or exclusions available under the estate
and gift tax rules). In addition, the tax does not apply to
property in cases in which no estate or gift tax return is
required to be filed, where no such return would have been
required to be filed if the former citizen or former long-term
resident had not relinquished citizenship or terminated
residency, as the case may be. Applicable gifts or bequests
that are made in trust are treated as made to the beneficiaries
of the trust in proportion to their respective interests in the
trust.
Information reporting
The Senate amendment provides that certain information
reporting requirements under present law (sec. 6039G)
applicable to former citizens and former long-term residents
also apply for purposes of the provision.
Immigration rules
The Senate amendment amends the immigration rules that
deny tax-motivated expatriates reentry into the United States
by removing the requirement that the expatriation be tax-
motivated, and instead denies former citizens reentry into the
United States if the individual is determined not to be in
compliance with his or her tax obligations under the
provision's expatriation tax provisions (regardless of the
subjective motive for expatriating). For this purpose, the
provision permits the IRS to disclose certain items of return
information of an individual, upon written request of the
Attorney General or his delegate, as is necessary for making a
determination under section 212(a)(10)(E) of the Immigration
and Nationality Act. Specifically, the provision would permit
the IRS to disclose to the agency administering section
212(a)(10)(E) whether such taxpayer is in compliance with
section 877A and identify the items of noncompliance.
Recordkeeping requirements, safeguards, and civil and criminal
penalties for unauthorized disclosure or inspection would apply
to return information disclosed under this provision.
Effective date
The Senate amendment generally is effective for U.S.
citizens who relinquish citizenship or long-term residents who
terminate their residency on or after February 5, 2003. The
provisions relating to gifts and inheritances are effective for
gifts and inheritances received from former citizens and former
long-term residents on or after February 5, 2003, whose
expatriation or residency termination occurs on or after such
date. The provisions relating to former citizens under U.S.
immigration laws are effective on or after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Provisions to discourage corporate expatriation (secs. 341-343 of
the Senate amendment and secs. 845(a) and 275(a) and new secs.
7874 and 5000A of the Code)
(a) Tax treatment of inverted corporate entities
PRESENT LAW
Determination of corporate residence
The U.S. tax treatment of a multinational corporate group
depends significantly on whether the top-tier ``parent''
corporation of the group is domestic or foreign. For purposes
of U.S. tax law, a corporation is treated as domestic if it is
incorporated under the law of the United States or of any
State. All other corporations (i.e., those incorporated under
the laws of foreign countries) are treated as foreign. Thus,
place of incorporation determines whether a corporation is
treated as domestic or foreign for purposes of U.S. tax law,
irrespective of other factors that might be thought to bear on
a corporation's ``nationality,'' such as the location of the
corporation's management activities, employees, business
assets, operations, or revenue sources, the exchanges on which
the corporation's stock is traded, or the residence of the
corporation's managers and shareholders.
U.S. taxation of domestic corporations
The United States employs a ``worldwide'' tax system,
under which domestic corporations generally are taxed on all
income, whether derived in the United States or abroad. In
order to mitigate the double taxation that may arise from
taxing the foreign-source income of a domestic corporation, a
foreign tax credit for income taxes paid to foreign countries
is provided to reduce or eliminate the U.S. tax owed on such
income, subject to certain limitations.
Income earned by a domestic parent corporation from
foreign operations conducted by foreign corporate subsidiaries
generally is subject to U.S. tax when the income is distributed
as a dividend to the domestic corporation. Until such
repatriation, the U.S. tax on such income is generally
deferred. However, certain anti-deferral regimes may cause the
domestic parent corporation to be taxed on a current basis in
the United States with respect to certain categories of passive
or highly mobile income earned by its foreign subsidiaries,
regardless of whether the income has been distributed as a
dividend to the domestic parent corporation. The main anti-
deferral regimes in this context are the controlled foreign
corporation rules of subpart F \212\ and the passive foreign
investment company rules.\213\ A foreign tax credit is
generally available to offset, in whole or in part, the U.S.
tax owed on this foreign-source income, whether repatriated as
an actual dividend or included under one of the anti-deferral
regimes.
---------------------------------------------------------------------------
\212\ Secs. 951-964.
\213\ Secs. 1291-1298.
---------------------------------------------------------------------------
U.S. taxation of foreign corporations
The United States taxes foreign corporations only on
income that has a sufficient nexus to the United States. Thus,
a foreign corporation is generally subject to U.S. tax only on
income that is ``effectively connected'' with the conduct of a
trade or business in the United States. Such ``effectively
connected income'' generally is taxed in the same manner and at
the same rates as the income of a U.S. corporation. An
applicable tax treaty may limit the imposition of U.S. tax on
business operations of a foreign corporation to cases in which
the business is conducted through a ``permanent establishment''
in the United States.
In addition, foreign corporations generally are subject
to a gross-basis U.S. tax at a flat 30-percent rate on the
receipt of interest, dividends, rents, royalties, and certain
similar types of income derived from U.S. sources, subject to
certain exceptions. The tax generally is collected by means of
withholding by the person making the payment. This tax may be
reduced or eliminated under an applicable tax treaty.
U.S. tax treatment of inversion transactions
Under present law, U.S. corporations may reincorporate in
foreign jurisdictions and thereby replace the U.S. parent
corporation of a multinational corporate group with a foreign
parent corporation. These transactions are commonly referred to
as ``inversion'' transactions. Inversion transactions may take
many different forms, including stock inversions, asset
inversions, and various combinations of and variations on the
two. Most of the known transactions to date have been stock
inversions. In one example of a stock inversion, a U.S.
corporation forms a foreign corporation, which in turn forms a
domestic merger subsidiary. The domestic merger subsidiary then
merges into the U.S. corporation, with the U.S. corporation
surviving, now as a subsidiary of the new foreign corporation.
The U.S. corporation's shareholders receive shares of the
foreign corporation and are treated as having exchanged their
U.S. corporation shares for the foreign corporation shares. An
asset inversion reaches a similar result, but through a direct
merger of the top-tier U.S. corporation into a new foreign
corporation, among other possible forms. An inversion
transaction may be accompanied or followed by further
restructuring of the corporate group. For example, in the case
of a stock inversion, in order to remove income from foreign
operations from the U.S. taxing jurisdiction, the U.S.
corporation may transfer some or all of its foreign
subsidiaries directly to the new foreign parent corporation or
other related foreign corporations.
In addition to removing foreign operations from the U.S.
taxing jurisdiction, the corporate group may derive further
advantage from the inverted structure by reducing U.S. taxon
U.S.-source income through various ``earnings stripping'' or other
transactions. This may include earnings stripping through payment by a
U.S. corporation of deductible amounts such as interest, royalties,
rents, or management service fees to the new foreign parent or other
foreign affiliates. In this respect, the post-inversion structure
enables the group to employ the same tax-reduction strategies that are
available to other multinational corporate groups with foreign parents
and U.S. subsidiaries, subject to the same limitations. These
limitations under present law include section 163(j), which limits the
deductibility of certain interest paid to related parties, if the
payor's debt-equity ratio exceeds 1.5 to 1 and the payor's net interest
expense exceeds 50 percent of its ``adjusted taxable income.'' More
generally, section 482 and the regulations thereunder require that all
transactions between related parties be conducted on terms consistent
with an ``arm's length'' standard, and permit the Secretary of the
Treasury to reallocate income and deductions among such parties if that
standard is not met.
Inversion transactions may give rise to immediate U.S.
tax consequences at the shareholder and/or the corporate level,
depending on the type of inversion. In stock inversions, the
U.S. shareholders generally recognize gain (but not loss) under
section 367(a), based on the difference between the fair market
value of the foreign corporation shares received and the
adjusted basis of the domestic corporation stock exchanged. To
the extent that a corporation's share value has declined, and/
or it has many foreign or tax-exempt shareholders, the impact
of this section 367(a) ``toll charge'' is reduced. The transfer
of foreign subsidiaries or other assets to the foreign parent
corporation also may give rise to U.S. tax consequences at the
corporate level (e.g., gain recognition and earnings and
profits inclusions under sections 1001, 311(b), 304, 367, 1248
or other provisions). The tax on any income recognized as a
result of these restructurings may be reduced or eliminated
through the use of net operating losses, foreign tax credits,
and other tax attributes.
In asset inversions, the U.S. corporation generally
recognizes gain (but not loss) under section 367(a) as though
it had sold all of its assets, but the shareholders generally
do not recognize gain or loss, assuming the transaction meets
the requirements of a reorganization under section 368.
HOUSE BILL
No provision.
SENATE AMENDMENT
In general
The Senate amendment defines two different types of
corporate inversion transactions and establishes a different
set of consequences for each type. Certain partnership
transactions also are covered.
Transactions involving at least 80 percent identity of stock ownership
The first type of inversion is a transaction in which,
pursuant to a plan or a series of related transactions: (1) a
U.S. corporation becomes a subsidiary of a foreign-incorporated
entity or otherwise transfers substantially all of its
properties to such an entity; \214\ (2) the former shareholders
of the U.S. corporation hold (by reason of holding stock in the
U.S. corporation) 80 percent or more (by vote or value) of the
stock of the foreign-incorporated entity after the transaction;
and (3) the foreign-incorporated entity, considered together
with all companies connected to it by a chain of greater than
50 percent ownership (i.e., the ``expanded affiliated group''),
does not have substantial business activities in the entity's
country of incorporation, compared to the total worldwide
business activities of the expanded affiliated group. The
provision denies the intended tax benefits of this type of
inversion by deeming the top-tier foreign corporation to be a
domestic corporation for all purposes of the Code.\215\
---------------------------------------------------------------------------
\214\ It is expected that the Treasury Secretary will issue
regulations applying the term ``substantially all'' in this context and
will not be bound in this regard by interpretations of the term in
other contexts under the Code.
\215\ Since the top-tier foreign corporation is treated for all
purposes of the Code as domestic, the shareholder-level ``toll charge''
of sec. 367(a) does not apply to these inversion transactions. However,
with respect to inversion transactions completed before 2004, regulated
investment companies and certain similar entities are allowed to elect
to recognize gain as if sec. 367(a) did apply.
---------------------------------------------------------------------------
Except as otherwise provided in regulations, the
provision does not apply to a direct or indirect acquisition of
the properties of a U.S. corporation no class of the stock of
which was traded on an established securities market at any
time within the four-year period preceding the acquisition. In
determining whether a transaction would meet the definition of
an inversion under the provision, stock held by members of the
expanded affiliated group that includes the foreign
incorporated entity is disregarded. For example, if the former
top-tier U.S. corporation receives stock of the foreign
incorporated entity (e.g., so-called ``hook'' stock), the stock
would not be considered in determining whether the transaction
meets the definition. Stock sold in a public offering (whether
initial or secondary) or private placement related to the
transaction also is disregarded for these purposes.
Acquisitions with respect to a domestic corporation or
partnership are deemed to be ``pursuant to a plan'' if they
occur within the four-year period beginning on the date which
is two years before the ownership threshold under the provision
is met with respect to such corporation or partnership.
Transfers of properties or liabilities as part of a plan
a principal purpose of which is to avoid the purposes of the
provision are disregarded. In addition, the Treasury Secretary
is granted authority to prevent the avoidance of the purposes
of the provision, including avoidance through the use of
related persons, pass-through or other noncorporate entities,
or other intermediaries, and through transactions designed to
qualify or disqualify a person as a related person, a member of
an expanded affiliated group, or a publicly traded corporation.
Similarly, the Treasury Secretary is granted authority to treat
certain non-stock instruments as stock, and certain stock as
not stock, where necessary to carry out the purposes of the
provision.
Transactions involving greater than 50 percent but less than 80 percent
identity of stock ownership
The second type of inversion is a transaction that would
meet the definition of an inversion transaction described
above, except that the 80-percent ownership threshold is not
met. In such a case, if a greater-than-50-percent ownership
threshold is met, then a second set of rules applies to the
inversion. Under these rules, the inversion transaction is
respected (i.e., the foreign corporation is treated as
foreign), but: (1) any applicable corporate-level ``toll
charges'' for establishing the inverted structure may not be
offset by tax attributes such as net operating losses or
foreign tax credits; (2) the IRS is given expanded authority to
monitor related-party transactions that may be used to reduce
U.S. tax on U.S.-source income going forward; and (3) section
163(j), relating to ``earnings stripping'' through related-
party debt, is strengthened. These measures generally apply for
a 10-year period following the inversion transaction. In
addition, inverting entities are required to provide
information to shareholders or partners and the IRS with
respect to the inversion transaction.
With respect to ``toll charges,'' any applicable
corporate-level income or gain required to be recognized under
sections 304, 311(b), 367, 1001, 1248, or any other provision
with respect to the transfer of controlled foreign corporation
stock or other assets by a U.S. corporation as part of the
inversion transaction or after such transaction to a related
foreign person is taxable, without offset by any tax attributes
(e.g., net operating losses or foreign tax credits). To the
extent provided in regulations, this rule will not apply to
certain transfers of inventory and similar transactions
conducted in the ordinary course of the taxpayer's business.
In order to enhance IRS monitoring of related-party
transactions, the provision establishes a new pre-filing
procedure. Under this procedure, the taxpayer will be required
annually to submit an application to the IRS for an agreement
that all return positions to be taken by the taxpayer with
respect to related-party transactions comply with all relevant
provisions of the Code, including sections 163(j), 267(a)(3),
482, and 845. The Treasury Secretary is given the authority to
specify the form, content, and supporting information required
for this application, as well as the timing for its submission.
The IRS will be required to take one of the following
three actions within 90 days of receiving a complete
application from a taxpayer: (1) conclude an agreement with the
taxpayer that the return positions to be taken with respect to
related-party transactions comply with all relevant provisions
of the Code; (2) advise the taxpayer that the IRS is satisfied
that the application was made in good faith and substantially
complies with the requirements set forth by the Treasury
Secretary for such an application, but that the IRS reserves
substantive judgment as to the tax treatment of the relevant
transactions pending the normal audit process; or (3) advise
the taxpayer that the IRS has concluded that the application
was not made in good faith or does not substantially comply
with the requirements set forth by the Treasury Secretary.
In the case of a compliance failure described in (3)
above (and in cases in which the taxpayer fails to submit an
application), the following sanctions will apply for the
taxable year for which the application was required: (1) no
deductions or additions to basis or cost of goods sold for
payments to foreign related parties will be permitted; (2) any
transfers or licenses of intangible property to related foreign
parties will be disregarded; and (3) any cost-sharing
arrangements will not be respected. In such a case, the
taxpayer may seek direct review by the U.S. Tax Court of the
IRS's determination of compliance failure.
If the IRS fails to act on the taxpayer's application
within 90 days of receipt, then the taxpayer will be treated as
having submitted in good faith an application that
substantially complies with the above-referenced requirements.
Thus, the deduction disallowance and other sanctions described
above will not apply, but the IRS will be able to examine the
transactions at issue under the normal audit process. The IRS
is authorized to request that the taxpayer extend this 90-day
deadline in cases in which the IRS believes that such an
extension might help the parties to reach an agreement.
The ``earnings stripping'' rules of section 163(j), which
deny or defer deductions for certain interest paid to foreign
related parties, are strengthened for inverted corporations.
With respect to such corporations, the provision eliminates the
debt-equity threshold generally applicable under section 163(j)
and reduces the 50-percent thresholds for ``excess interest
expense'' and ``excess limitation'' to 25 percent.
In cases in which a U.S. corporate group acquires
subsidiaries or other assets from an unrelated inverted
corporate group, the provisions described above generally do
not apply to the acquiring U.S. corporate group or its related
parties (including the newly acquired subsidiaries or assets)
by reason of acquiring the subsidiaries or assets that were
connected with the inversion transaction. The Treasury
Secretary is given authority to issue regulations appropriate
to carry out the purposes of this provision and to prevent its
abuse.
Partnership transactions
Under the proposal, both types of inversion transactions
include certain partnership transactions. Specifically, both
parts of the provision apply to transactions in which a
foreign-incorporated entity acquires substantially all of the
properties constituting a trade or business of a domestic
partnership (whether or not publicly traded), if after the
acquisition at least 80 percent (or more than 50 percent but
less than 80 percent, as the case may be) of the stock of the
entity is held by former partners of the partnership (by reason
of holding their partnership interests), and the ``substantial
business activities'' test is not met. For purposes of
determining whether these tests are met, all partnerships that
are under common control within the meaning of section 482 are
treated as one partnership, except as provided otherwise in
regulations. In addition, the modified ``toll charge''
provisions apply at the partner level.
Effective date
The regime applicable to transactions involving at least
80 percent identity of ownership applies to inversion
transactions completed after March 20, 2002. The rules for
inversion transactions involving greater-than-50-percent
identity of ownership apply to inversion transactions completed
after 1996 that meet the 50-percent test and to inversion
transactions completed after 1996 that would have met the 80-
percent test but for the March 20, 2002 date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
(b) Excise tax on stock compensation of insiders in
inverted corporations
PRESENT LAW
The income taxation of a nonstatutory \216\ compensatory
stock option is determined under the rules that apply to
property transferred in connection with the performance of
services (sec. 83). If a nonstatutory stock option does not
have a readily ascertainable fair market value at the time of
grant, which is generally the case unless the option is
actively traded on an established market, no amount is included
in the gross income of the recipient with respect to the option
until the recipient exercises the option.\217\ Upon exercise of
such an option, the excess of the fair market value of the
stock purchased over the option price is included in the
recipient's gross income as ordinary income in such taxable
year.
---------------------------------------------------------------------------
\216\ Nonstatutory stock options refer to stock options other than
incentive stock options and employee stock purchase plans, the taxation
of which is determined under sections 421-424.
\217\ If an individual receives a grant of a nonstatutory option
that has a readily ascertainable fair market value at the time the
option is granted, the excess of the fair market value of the option
over the amount paid for the option is included in the recipient's
gross income as ordinary income in the first taxable year in which the
option is either transferable or not subject to a substantial risk of
forfeiture.
---------------------------------------------------------------------------
The tax treatment of other forms of stock-based
compensation (e.g., restricted stock and stock appreciation
rights) is also determined under section 83. The excess of the
fair market value over the amount paid (if any) for such
property is generally includable in gross income in the first
taxable year in which the rights to the property are
transferable or are not subject to substantial risk of
forfeiture.
Shareholders are generally required to recognize gain
upon stock inversion transactions. An inversion transaction is
generally not a taxable event for holders of stock options and
other stock-based compensation.
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, specified holders of stock
options and other stock-based compensation are subject to an
excise tax upon certain inversion transactions. The provision
imposes a 20 percent excise tax on the value of specified stock
compensation held (directly or indirectly) by or for the
benefit of a disqualified individual, or a member of such
individual's family, at any time during the 12-month period
beginning six months before the corporation's inversion date.
Specified stock compensation is treated as held for the benefit
of a disqualified individual if such compensation is held by an
entity, e.g., a partnership or trust, in which the individual,
or a member of the individual's family, has an ownership
interest.
A disqualified individual is any individual who, with
respect to a corporation, is, at any time during the 12-month
period beginning on the date which is six months before the
inversion date, subject to the requirements of section 16(a) of
the Securities and Exchange Act of 1934 with respect to the
corporation, or any member of the corporation's expanded
affiliated group,\218\ or would be subject to such requirements
if the corporation (or member) were an issuer of equity
securities referred to in section 16(a). Disqualified
individuals generally include officers (as defined by section
16(a)),\219\ directors, and 10-percent owners of private and
publicly-held corporations.
---------------------------------------------------------------------------
\218\ An expanded affiliated group is an affiliated group (under
section 1504) except that such group is determined without regard to
the exceptions for certain corporations and is determined applying a
greater than 50 percent threshold, in lieu of the 80 percent test.
\219\ An officer is defined as the president, principal financial
officer, principal accounting officer (or, if there is no such
accounting officer, the controller), any vice-president in charge of a
principal business unit, division or function (such as sales,
administration or finance), any other officer who performs a policy-
making function, or any other person who performs similar policy-making
functions.
---------------------------------------------------------------------------
The excise tax is imposed on a disqualified individual of
an inverted corporation only if gain (if any) is recognized in
whole or part by any shareholder by reason of either the 80
percent or 50 percent identity of stock ownership corporate
inversion transactions previously described in the provision.
Specified stock compensation subject to the excise tax
includes any payment \220\ (or right to payment) granted by the
inverted corporation (or any member of the corporation's
expanded affiliated group) to any person in connection with the
performance of services by a disqualified individual for such
corporation (or member of the corporation's expanded affiliated
group) if the value of the payment or right is based on, or
determined by reference to, the value or change in value of
stock of such corporation (or any member of the corporation's
expanded affiliated group). In determining whether such
compensation exists and valuing such compensation, all
restrictions, other than non-lapse restrictions, are ignored.
Thus, the excise tax applies, and the value subject to the tax
is determined, without regard to whether such specified stock
compensation is subject to a substantial risk of forfeiture or
is exercisable at the time of the inversion transaction.
Specified stock compensation includes compensatory stock and
restricted stock grants, compensatory stock options, and other
forms of stock-based compensation, including stock appreciation
rights, phantom stock, and phantom stock options. Specified
stock compensation also includes nonqualified deferred
compensation that is treated as though it were invested in
stock or stock options of the inverting corporation (or
member). For example, the provision applies to a disqualified
individual's deferred compensation if company stock is one of
the actual or deemed investment options under the nonqualified
deferred compensation plan.
---------------------------------------------------------------------------
\220\ Under the provision, any transfer of property is treated as a
payment and any right to a transfer of property is treated as a right
to a payment.
---------------------------------------------------------------------------
Specified stock compensation includes a compensation
arrangement that gives the disqualified individual an economic
stake substantially similar to that of a corporate shareholder.
Thus, the excise tax does not apply where a payment is simply
triggered by a target value of the corporation's stock or where
a payment depends on a performance measure other than the value
of the corporation's stock. Similarly, the tax does not apply
if the amount of the payment is not directly measured by the
value of the stock or an increase in the value of the stock.
For example, an arrangement under which a disqualified
individual is paid a cash bonus of $500,000 if the
corporation's stock increased in value by 25 percent over two
years or $1,000,000 if the stock increased by 33 percent over
two years is not specified stock compensation, even though the
amount of the bonus generally is keyed to an increase in the
value of the stock. By contrast, an arrangement under which a
disqualified individual is paid a cash bonus equal to $10,000
for every $1 increase in the share price of the corporation's
stock is subject to the provision because the direct connection
between the compensation amount and the value of the
corporation's stock gives the disqualified individual an
economic stake substantially similar to that of a shareholder.
The excise tax applies to any such specified stock
compensation previously granted to a disqualified individual
but cancelled or cashed-out within the six-month period ending
with the inversion transaction, and to any specified stock
compensation awarded in the six-month period beginning with the
inversion transaction. As a result, for example, if a
corporation were to cancel outstanding options three months
before the transaction and then reissue comparable options
three months after the transaction, the tax applies both to the
cancelled options and the newly granted options. It is intended
that the Treasury Secretary issue guidance to avoid double
counting with respect to specified stock compensation that is
cancelled and then regranted during the applicable twelve-month
period.
Specified stock compensation subject to the tax does not
include a statutory stock option or any payment or right from a
qualified retirement plan or annuity, a tax-sheltered annuity,
a simplified employee pension, or a simple retirement account.
In addition, under the provision, the excise tax does not apply
to any stock option that is exercised during the six-month
period before the inversion or to any stock acquired pursuant
to such exercise. The excise tax also does not apply to any
specified stock compensation which is sold, exchanged,
distributed or cashed-out during such period in a transaction
in which gain or loss is recognized in full.
For specified stock compensation held on the inversion
date, the amount of the tax is determined based on the value of
the compensation on such date. The tax imposed on specified
stock compensation cancelled during the six-month period before
the inversion date is determined based on the value of the
compensation on the day before such cancellation, while
specified stock compensation granted after the inversion date
is valued on the date granted. Under the provision, the
cancellation of a non-lapse restriction is treated as a grant.
The value of the specified stock compensation on which
the excise tax is imposed is the fair value in the case of
stock options (including warrants and other similar rights to
acquire stock) and stock appreciation rights and the fair
market value for all other forms of compensation. For purposes
of the tax, the fair value of an option (or a warrant or other
similar right to acquire stock) or a stock appreciation right
is determined using an appropriate option-pricing model, as
specified or permitted by the Treasury Secretary, that takes
into account the stock price at the valuation date; the
exercise price under the option; the remaining term of the
option; the volatility of the underlying stock and the expected
dividends on it; and the risk-free interest rate over the
remaining term of the option. Options that have no intrinsic
value (or ``spread'') because the exercise price under the
option equals or exceeds the fair market value of the stock at
valuation nevertheless have a fair value and are subject to tax
under the provision. The value of other forms of compensation,
such as phantom stock or restricted stock, are the fair market
value of the stock as of the date of the inversion transaction.
The value of any deferred compensation that could be valued by
reference to stock is the amount that the disqualified
individual would receive if the plan were to distribute all
such deferred compensation in a single sum on the date of the
inversion transaction (or the date of cancellation or grant, if
applicable). It is expected that the Treasury Secretary issue
guidance on valuation of specified stock compensation,
including guidance similar to the revenue procedures issued
under section 280G, except that the guidance would not permit
the use of a term other than the full remaining term. Pending
the issuance of guidance, it is intended that taxpayers could
rely on the revenue procedures issued under section 280G
(except that the full remaining term must be used).
The excise tax also applies to any payment by the
inverted corporation or any member of the expanded affiliated
group made to an individual, directly or indirectly, in respect
of the tax. Whether a payment is made in respect of the tax is
determined under all of the facts and circumstances. Any
payment made to keep the individual in the same after-tax
position that the individual would have been in had the tax not
applied is a payment made in respect of the tax. This includes
direct payments of the tax and payments to reimburse the
individual for payment of the tax. It is expected that the
Treasury Secretary issue guidance on determining when a payment
is made in respect of the tax and that such guidance would
include certain factors that give rise to a rebuttable
presumption that a payment is made in respect of the tax,
including a rebuttable presumption that if the payment is
contingent on the inversion transaction, it is made in respect
to the tax. Any payment made in respect of the tax is
includible in the income of the individual, but is not
deductible by the corporation.
To the extent that a disqualified individual is also a
covered employee under section 162(m), the $1,000,000 limit on
the deduction allowed for employee remuneration for such
employee is reduced by the amount of any payment (including
reimbursements) made in respect of the tax under the provision.
As discussed above, this includes direct payments of the tax
and payments to reimburse the individual for payment of the
tax.
The payment of the excise tax has no effect on the
subsequent tax treatment of any specified stock compensation.
Thus, the payment of the tax has no effect on the individual's
basis in any specified stock compensation and no effect on the
tax treatment for the individual at the time of exercise of an
option or payment of any specified stock compensation, or at
the time of any lapse or forfeiture of such specified stock
compensation. The payment of the tax is not deductible and has
no effect on any deduction that might be allowed at the time of
any future exercise or payment.
Under the provision, the Treasury Secretary is authorized
to issue regulations as may be necessary or appropriate to
carry out the purposes of the section.
Effective date.--The provision is effective as of July
11, 2002, except that periods before July 11, 2002, are not
taken into account in applying the tax to specified stock
compensation held or cancelled during the six-month period
before the inversion date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
(c) Reinsurance of United States risks in foreign
jurisdictions
PRESENT LAW
In the case of a reinsurance agreement between two or
more related persons, present law provides the Treasury
Secretary with authority to allocate among the parties or
recharacterize income (whether investment income, premium or
otherwise), deductions, assets, reserves, credits and any other
items related to the reinsurance agreement, or make any other
adjustment, in order to reflect the proper source and character
of the items for each party.\221\ For this purpose, related
persons are defined as in section 482. Thus, persons are
related if they are organizations, trades or businesses
(whether or not incorporated, whether or not organized in the
United States, and whether or not affiliated) that are owned or
controlled directly or indirectly by the same interests. The
provision may apply to a contract even if one of the related
parties is not a domestic company.\222\ In addition, the
provision also permits such allocation, recharacterization, or
other adjustments in a case in which one of the parties to a
reinsurance agreement is, with respect to any contract covered
by the agreement, in effect an agent of another party to the
agreement, or a conduit between related persons.
---------------------------------------------------------------------------
\221\ Sec. 845(a).
\222\ See S. Rep. No. 97-494, ``Tax Equity and Fiscal
Responsibility Act of 1982,'' July 12, 1982, 337 (describing provisions
relating to the repeal of modified coinsurance provisions).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment clarifies the rules of section 845,
relating to authority for the Treasury Secretary to allocate
items among the parties to a reinsurance agreement,
recharacterize items, or make any other adjustment, in order to
reflect the proper source and character of the items for each
party. The proposal authorizes such allocation,
recharacterization, or other adjustment, in order to reflect
the proper source, character or amount of the item. It is
intended that this authority\223\ be exercised in a manner
similar to the authority under section 482 for the Treasury
Secretary to make adjustments between related parties. It is
intended that this authority be applied in situations in which
the related persons (or agents or conduits) are engaged in
cross-border transactions that require allocation,
recharacterization, or other adjustments in order to reflect
the proper source, character or amount of the item or items. No
inference is intended that present law does not provide this
authority with respect to reinsurance agreements.
---------------------------------------------------------------------------
\223\ The authority to allocate, recharacterize or make other
adjustments was granted in connection with the repeal of provisions
relating to modified coinsurance transactions.
---------------------------------------------------------------------------
No regulations have been issued under section 845(a). It
is expected that the Treasury Secretary will issue regulations
under section 845(a) to address effectively the allocation of
income (whether investment income, premium or otherwise) and
other items, the recharacterization of such items, or any other
adjustment necessary to reflect the proper amount, source or
character of the item.
Effective date.--The provision is effective for any risk
reinsured after April 11, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Doubling of certain penalties, fines, and interest on underpayments
related to certain offshore financial arrangements (sec. 344 of
the Senate amendment)
PRESENT LAW
In general
The Code contains numerous civil penalties, such as the
delinquency, accuracy-related and fraud penalties. These civil
penalties are in addition to any interest that may be due as a
result of an underpayment of tax. If all or any part of a tax
is not paid when due, the Code imposes interest on the
underpayment, which is assessed and collected in the same
manner as the underlying tax and is subject to the same statute
of limitations.
Delinquency penalties
Failure to file.--Under present law, a taxpayer who fails
to file a tax return on a timely basis is generally subject to
a penalty equal to 5 percent of the net amount of tax due for
each month that the return is not filed, up to a maximum of
five months or 25 percent. An exception from the penalty
applies if the failure is due to reasonable cause. The net
amount of tax due is the excess of the amount of the tax
required to be shown on the return over the amount of any tax
paid on or before the due date prescribed for the payment of
tax.
Failure to pay.--Taxpayers who fail to pay their taxes
are subject to a penalty of 0.5 percent per month on the unpaid
amount, up to a maximum of 25 percent. If a penalty for failure
to file and a penalty for failure to pay tax shown on a return
both apply for the same month, the amount of the penalty for
failure to file for such month is reduced by the amount of the
penalty for failure to pay tax shown on a return. If a return
is filed more than 60 days after its due date, then the penalty
for failure to file tax shown on a return may not reduce the
penalty for failure to pay below the lesser of $100 or 100
percent of the amount required to be shown on the return. For
any month in which an installment payment agreement with the
IRS is in effect, therate of the penalty is half the usual rate
(0.25 percent instead of 0.5 percent), provided that the taxpayer filed
the tax return in a timely manner (including extensions).
Failure to make timely deposits of tax.--The penalty for
the failure to make timely deposits of tax consists of a four-
tiered structure in which the amount of the penalty varies with
the length of time within which the taxpayer corrects the
failure. A depositor is subject to a penalty equal to 2 percent
of the amount of the underpayment if the failure is corrected
on or before the date that is five days after the prescribed
due date. A depositor is subject to a penalty equal to 5
percent of the amount of the underpayment if the failure is
corrected after the date that is five days after the prescribed
due date but on or before the date that is 15 days after the
prescribed due date. A depositor is subject to a penalty equal
to 10 percent of the amount of the underpayment if the failure
is corrected after the date that is 15 days after the due date
but on or before the date that is 10 days after the date of the
first delinquency notice to the taxpayer (under sec. 6303).
Finally, a depositor is subject to a penalty equal to 15
percent of the amount of the underpayment if the failure is not
corrected on or before the date that is 10 days after the date
of the day on which notice and demand for immediate payment of
tax is given in cases of jeopardy.
An exception from the penalty applies if the failure is
due to reasonable cause. In addition, the Secretary may waive
the penalty for an inadvertent failure to deposit any tax by
specified first-time depositors.
Accuracy-related penalties
The accuracy-related penalty is imposed at a rate of 20
percent of the portion of any underpayment that is
attributable, in relevant, to (1) negligence, (2) any
substantial understatement of income tax and (3) any
substantial valuation misstatement. In addition, the penalty is
doubled for certain gross valuation misstatements. These
consolidated penalties are also coordinated with the fraud
penalty. This statutory structure operates to eliminate any
stacking of the penalties.
No penalty is to be imposed if it is shown that there was
reasonable cause for an underpayment and the taxpayer acted in
good faith. However, Treasury has issued proposed regulations
that limit the defenses available to the imposition of an
accuracy-related penalty in connection with a reportable
transaction when the transaction is not disclosed.
Negligence or disregard for the rules or regulations.--If
an underpayment of tax is attributable to negligence, the
negligence penalty applies only to the portion of the
underpayment that is attributable to negligence. Negligence is
any failure to make a reasonable attempt to comply with the
provisions of the Code. Disregard includes any careless,
reckless or intentional disregard of the rules or regulations.
Substantial understatement of income tax.--Generally, an
understatement is substantial if the understatement exceeds the
greater of (1) 10 percent of the tax required to be shown on
the return for the tax year or (2) $5,000. In determining
whether a substantial understatement exists, the amount of the
understatement is reduced by any portion attributable to an
item if (1) the treatment of the item on the return is or was
supported by substantial authority, or (2) facts relevant to
the tax treatment of the item were adequately disclosed on the
return or on a statement attached to the return.
Substantial valuation misstatement.--A penalty applies to
the portion of an underpayment that is attributable to a
substantial valuation misstatement. Generally, a substantial
valuation misstatement exists if the value or adjusted basis of
any property claimed on a return is 200 percent or more of the
correct value or adjusted basis. The amount of the penalty for
a substantial valuation misstatement is 20 percent of the
amount of the underpayment if the value or adjusted basis
claimed is 200 percent or more but less than 400 percent of the
correct value or adjusted basis. If the value or adjusted basis
claimed is 400 percent or more of the correct value or adjusted
basis, then the overvaluation is a gross valuation
misstatement.
Gross valuation misstatements.--The rate of the accuracy-
related penalty is doubled (to 40 percent) in the case of gross
valuation misstatements.
Fraud penalty
The fraud penalty is imposed at a rate of 75 percent of
the portion of any underpayment that is attributable to fraud.
The accuracy-related penalty does not to apply to any portion
of an underpayment on which the fraud penalty is imposed.
Interest provisions
Taxpayers are required to pay interest to the IRS
whenever there is an underpayment of tax. An underpayment of
tax exists whenever the correct amount of tax is not paid by
the last date prescribed for the payment of the tax. The last
date prescribed for the payment of the income tax is the
original due date of the return.
Different interest rates are provided for the payment of
interest depending upon the type of taxpayer, whether the
interest relates to an underpayment or overpayment, and the
size of the underpayment or overpayment. Interest on
underpayments is compounded daily.
Offshore Voluntary Compliance Initiative
In January 2003, Treasury announced the Offshore
Voluntary Compliance Initiative (``OVCI'') to encourage the
voluntary disclosure of previously unreported income placed by
taxpayers in offshore accounts and accessed through credit card
or other financial arrangements. A taxpayer had to comply with
various requirements in order to participate in OVCI, including
sending a written request to participate in the program by
April 15, 2003. This request had to include information about
the taxpayer, the taxpayer's introduction to the credit card or
other financial arrangements and the names of parties that
promoted the transaction. Taxpayers eligible under OVCI will
not be liable for civil fraud, the fraudulent failure to file
penalty or the civil information return penalties. The taxpayer
will pay back taxes, interest and certain accuracy-related and
delinquency penalties.
Voluntary disclosure initiative
A taxpayer's timely, voluntary disclosure of a
substantial unreported tax liability has long been an important
factor in deciding whether the taxpayer's case should
ultimately be referred for criminal prosecution. The voluntary
disclosure must be truthful, timely, and complete. The taxpayer
must show a willingness to cooperate (as well as actual
cooperation) with the IRS in determining the correct tax
liability. The taxpayer must make good-faith arrangements with
the IRS to pay in full the tax, interest, and any penalties
determined by the IRS to be applicable. A voluntary disclosure
does not guarantee immunity from prosecution. It creates no
substantive or procedural rights for taxpayers.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment would increase the total amount of
civil penalties, interest and fines applicable by a factor of
two for taxpayers who would have been eligible to participate
in either the OVCI or the Treasury Department's voluntary
disclosure initiative, which applies to the taxpayer by reason
of the taxpayer's underpayment of U.S. income tax liability
through certain financing arrangement, but did not participate
in either program.
Effective date.--The Senate amendment generally is
effective with respect to a taxpayer's open tax years on or
after May 8, 2000.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Effectively connected income to include certain foreign source
income (sec. 345 of the Senate amendment and sec. 864 of the
Code)
PRESENT LAW
Nonresident alien individuals and foreign corporations
(collectively, foreign persons) are subject to U.S. tax on
income that is effectively connected with the conduct of a U.S.
trade or business; the U.S. tax on such income is calculated in
the same manner and at the same graduated rates as the tax on
U.S. persons.\224\ Foreign persons also are subject to a 30-
percent gross-basis tax, collected by withholding, on certain
U.S.-source income, such as interest, dividends and other fixed
or determinable annual or periodical (``FDAP'') income, that is
not effectively connected with a U.S. trade or business. This
30-percent withholding tax may be reduced or eliminated
pursuant to an applicable tax treaty. Foreign persons generally
are not subject to U.S. tax on foreign-source income that is
not effectively connected with a U.S. trade or business.
---------------------------------------------------------------------------
\224\ Sections 871(b) and 882.
---------------------------------------------------------------------------
Detailed rules apply for purposes of determining whether
income is treated as effectively connected with a U.S. trade or
business (so-called ``U.S.-effectively connected
income'').\225\ The rules differ depending on whether the
income at issue is U.S-source or foreign-source income. Under
these rules, U.S.-source FDAP income, such as U.S.-source
interest and dividends, and U.S.-source capital gains are
treated as U.S.-effectively connected income if such income is
derived from assets used in or held for use in the active
conduct of a U.S. trade or business, or from business
activities conducted in the United States. All other types of
U.S.-source income are treated as U.S.-effectively connected
income (sometimes referred to as the ``force of attraction
rule'').
---------------------------------------------------------------------------
\225\ Section 864(c).
---------------------------------------------------------------------------
In general, foreign-source income is not treated as U.S.-
effectively connected income.\226\ However, foreign-source
income, gain, deduction, or loss generally is considered to be
effectively connected with a U.S. business only if the person
has an office or other fixed place of business within the
United States to which such income, gain, deduction, or loss is
attributable and such income falls into one of three categories
described below.\227\ For these purposes, income generally is
not considered attributable to an office or other fixed place
of business within the United States unless such office or
fixed place of business is a material factor in the production
of the income, and such office or fixed place of business
regularly carries on activities of the type that generate such
income.\228\
---------------------------------------------------------------------------
\226\ Section 864(c)(4).
\227\ Section 864(c)(4)(B).
\228\ Section 864(c)(5).
---------------------------------------------------------------------------
The first category consists of rents or royalties for the
use of patents, copyrights, secret processes, or formulas, good
will, trademarks, trade brands, franchises, or other like
intangible properties derived in the active conduct of the U.S.
trade or business.\229\ The second category consists of
interest or dividends derived in the active conduct of a
banking, financing, or similar business within the United
States, or received by a corporation whose principal business
is trading in stocks or securities for its own account.\230\
Notwithstanding the foregoing, foreign-source income consisting
of dividends, interest, or royalties is not treated as
effectively connected if the items are paid by a foreign
corporation in which the recipient owns, directly, indirectly,
or constructively, more than 50 percent of the total combined
voting power of the stock.\231\ The third category consists of
income, gain, deduction, or loss derived from the sale or
exchange of inventory or property held by the taxpayer
primarily for sale to customers in the ordinary course of the
trade or business where the property is sold or exchanged
outside the United States through the foreign person's U.S.
office or other fixed place of business.\232\ Such amounts are
not treated as effectively connected if the property is sold or
exchanged for use, consumption, or disposition outside the
United States and an office or other fixed place of business of
the taxpayer in a foreign country materially participated in
the sale or exchange.
---------------------------------------------------------------------------
\229\ Section 864(c)(4)(B)(i).
\230\ Section 864(c)(4)(B)(ii).
\231\ Section 864(c)(4)(D)(i).
\232\ Section 864(c)(4)(B)(iii).
---------------------------------------------------------------------------
The Code provides sourcing rules for enumerated types of
income, including interest, dividends, rents, royalties, and
personal services income.\233\ For example, interest income
generally is sourced based on the residence of the obligor.
Dividend income generally is sourced based on the residence of
the corporation paying the dividend. Thus, interest paid on
obligations of foreign persons and dividends paid by foreign
corporations generally are treated as foreign-source income.
---------------------------------------------------------------------------
\233\ Sections 861 through 865.
---------------------------------------------------------------------------
Other types of income are not specifically covered by the
Code's sourcing rules. For example, fees for accepting or
confirming letters of credit have been sourced under principles
analogous to the interest sourcing rules.\234\ In addition,
under regulations, payments in lieu of dividends and interest
derived from securities lending transactions are sourced in the
same manner as interest and dividends, including for purposes
of determining whether such income is effectively connected
with a U.S. trade or business.\235\ Moreover, income from
notional principal contracts (such as interest rate swaps)
generally is sourced based on the residence of the recipient of
the income.\236\
---------------------------------------------------------------------------
\234\ See Bank of America v. United States, 680 F.2d 142 (Ct. Cl.
1982).
\235\ Treas. Reg. sec. 1.864-5(b)(2)(ii).
\236\ Treas. Reg. sec. 1.863-7.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Each category of foreign-source income that is treated as
effectively connected with a U.S. trade or business is expanded
to include economic equivalents of such income (i.e., economic
equivalents of certain foreign-source (1) rents and royalties,
(2) dividends and interest, and (3) income on sales or
exchanges of goods in the ordinary course of business). Thus,
such economic equivalents are treated as U.S.-effectively
connected income in the same circumstances that foreign-source
rents, royalties, dividends, interest, or certain inventory
sales are treated as U.S.-effectively connected income. For
example, foreign-source interest and dividend equivalents are
treated as U.S.-effectively connected income if the income is
attributable to a U.S. office of the foreign person, and such
income is derived by such foreign person in the active conduct
of a banking, financing, or similar business within the United
States, or the foreign person is a corporation whose principal
business is trading in stocks or securities for its own
account.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Determination of basis amounts paid from foreign pension plans (sec.
346 of the Senate amendment and sec. 72 of the Code)
PRESENT LAW
Distributions from retirement plans are includible in
gross income under the rules relating to annuities \237\ and,
thus, are generally includible in income, except to the extent
the amount received represents investment in the contract
(i.e., the participant's basis). The participant's basis
includes amounts contributed by the participant, together with
certain amounts contributed by the employer, minus the
aggregate amount (if any) previously distributed to the extent
that such amount was excludable from gross income. Amounts
contributed by the employer are included in the calculation of
the participant's basis to the extent that such amounts were
includible in the gross income of the participant, or to the
extent that such amounts would have been excludable from the
participant's gross income if they had been paid directly to
the participant at the time they were contributed.
---------------------------------------------------------------------------
\237\ Sections 72 and 402.
---------------------------------------------------------------------------
Distributions received by nonresidents from U.S.
qualified plans and similar arrangements are generally subject
to tax to the extent that the amount received is otherwise
includible in gross income (i.e., is in excess of the basis)
and is from a U.S. source. Employer contributions to qualified
plans and other payments for services performed outside the
United States generally are not treated as income from a U.S.
source, and therefore generally are not subject to U.S. tax.
Under the 1996 U.S. model income tax treaty and many U.S.
income tax treaties in force, pension distributions
beneficially owned by a resident of a treaty country in
consideration for past employment generally are taxable only by
the individual recipient's country of residence.\238\ Under the
1996 U.S. model income tax treaty and some U.S. income tax
treaties, this exclusive residence-based taxation rule is
limited to the taxation of amounts that were not previously
included in taxable income in the other country. For example,
if a treaty country had imposed tax on a resident individual
with respect to some portion of a pension plan's earnings,
subsequent distributions to a resident of the other country
would not be taxable in that country to the extent the
distributions were attributable to such amounts.
---------------------------------------------------------------------------
\238\ Some treaties permit source-country taxation but merely
reduce the rate of tax imposed on pension benefits.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
An amount distributed from a foreign pension plan is
included in the calculation of the recipient's basis only to
the extent that the recipient previously has been subject to
taxation, either in the United States or the foreign
jurisdiction, on such amount.
Effective date.--The Senate amendment provision is
effective for distributions occurring on or after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Recapture of overall foreign losses on sale of controlled foreign
corporation stock (sec. 347 of the Senate amendment 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
may 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. The amount of foreign tax
credits generally is limited to the portion of the taxpayer's
U.S. tax which the taxpayer's foreign-source taxable income
(i.e., foreign-source gross income less allocable expenses or
deductions) bears to the taxpayer's worldwide taxable income
for the year.\239\ Separate limitations are applied to specific
categories of income.
---------------------------------------------------------------------------
\239\ Section 904(a).
---------------------------------------------------------------------------
Special recapture rules apply in the case of foreign
losses for purposes of applying the foreign tax credit
limitation.\240\ Under these rules, losses for any taxable year
in a limitation category which exceed the aggregate amount of
foreign income earned in other limitation categories (a so-
called ``overall foreign loss'') are recaptured by resourcing
foreign-source income earned in a subsequent year as U.S.-
source income.\241\ The amount resourced as U.S.-source income
generally is limited to the lesser of the amount of the overall
foreign losses not previously recaptured, or 50 percent of the
taxpayer's foreign-source income in a given year (the ``50-
percent limit''). Taxpayers may elect to recapture a larger
percentage of such losses.
---------------------------------------------------------------------------
\240\ Section 904(f).
\241\ Section 904(f)(1).
---------------------------------------------------------------------------
A special recapture rule applies to ensure the recapture
of an overall foreign loss where property which was used in a
trade or business predominantly outside the United States is
disposed of prior to the time the loss has been
recaptured.\242\ In this regard, dispositions of trade or
business property used predominantly outside the United States
are treated as having been recognized as foreign-source income
(regardless of whether gain would otherwise be recognized upon
disposition of the assets), in an amount equal to the lesser of
the excess of the fair market value of such property over its
adjusted basis, or the amount of unrecaptured overall foreign
losses. Such foreign-source income is resourced as U.S.-source
income without regard to the 50-percent limit. For example, if
a U.S. corporation transfers its foreign branch business assets
to a foreign corporation in a nontaxable section 351
transaction, the taxpayer would be treated for purposes of the
recapture rules as having recognized foreign-source income in
the year of the transfer in an amount equal to the excess of
the fair market value of the property disposed over its
adjusted basis (or the amount of unrecaptured foreign losses,
if smaller). Such income would be recaptured as U.S.-source
income to the extent of any prior unrecaptured overall foreign
losses.\243\
---------------------------------------------------------------------------
\242\ Section 904(f)(3).
\243\ Coordination rules apply in the case of losses recaptured
under the branch loss recapture rules. Section 367(a)(3)(C).
---------------------------------------------------------------------------
Detailed rules apply in allocating and apportioning
deductions and losses for foreign tax credit limitation
purposes. In the case of interest expense, such amounts
generally are apportioned to all gross income under an asset
method, under which the taxpayer's assets are characterized as
producing income in statutory or residual groupings (i.e.,
foreign-source income in the various limitation categories or
U.S.-source income).\244\ Interest expense is apportioned among
these groupings based on the relative asset values in each.
Taxpayers may elect to value assets based on either tax book
value or fair market value.
---------------------------------------------------------------------------
\244\ Section 864(e) and Temp. Treas. Reg. sec. 1.861-9T.
---------------------------------------------------------------------------
Each corporation that is a member of an affiliated group
is required to apportion its interest expense using
apportionment fractions determined by reference to all assets
of the affiliated group. For this purpose, an affiliated group
generally is defined to include only domestic corporations.
Stock in a foreign subsidiary, however, is treated as a foreign
asset that may attract the allocation of U.S. interest expense
for these purposes. If tax basis is used to value assets, the
adjusted basis of the stock of certain 10-percent or greater
owned foreign corporations or other non-affiliated corporations
must be increased by the amount of earnings and profits of such
corporation accumulated during the period the U.S. shareholder
held the stock.
HOUSE BILL
No provision.
SENATE AMENDMENT
The special recapture rule for overall foreign losses
that currently applies to dispositions of foreign trade or
business assets is to apply to the disposition of controlled
foreign corporation stock. Thus, dispositions of controlled
foreign corporation stock are recognized as foreign-source
income in an amount equal to the lesser of the fair market
value of the stock over its adjusted basis, or the amount of
prior unrecaptured overall foreign losses. Such income is
resourced as U.S.-source income for foreign tax credit
limitation purposes without regard to the 50-percent limit.
Effective date.--The Senate amendment provision is
effective as of the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
7. Prevention of mismatching of interest and original issue discount
deductions and income inclusions in transactions with related
foreign persons (sec. 348 of the Senate amendment and secs. 163
and 267 of the Code)
PRESENT LAW
Income earned by a foreign corporation from its foreign
operations generally is subject to U.S. tax only when such
income is distributed to any U.S. person that holds stock in
such corporation. Accordingly, a U.S. person that conducts
foreign operations through a foreign corporation generally is
subject to U.S. tax on the income from such operations when the
income is repatriated to the United States through a dividend
distribution to the U.S. person. The income is reported on the
U.S. person's tax return for the year the distribution is
received, and the United States imposes tax on such income at
that time. However, certain anti-deferral regimes may cause the
U.S. person to be taxed on a current basis in the United States
with respect to certain categories of passive or highly mobile
income earned by the foreign corporations in which the U.S.
person holds stock. The main anti-deferral regimes are the
controlled foreign corporation rules of subpart F (sections
951-964), the passive foreign investment company rules
(sections 1291-1298), and the foreign personal holding company
rules (sections 551-558).
As a general rule, there is allowed as a deduction all
interest paid or accrued within the taxable year with respect
to indebtedness, including the aggregate daily portions of
original issue discount (``OID'') of the issuer for the days
during such taxable year. However, if a debt instrument is held
by a related foreign person, any portion of such OID is not
allowable as a deduction to the payor of such instrument until
paid (``related-foreign-person rule''). This related-foreign-
person rule does not apply to the extent that the OID is
effectively connected with the conduct by such foreign related
person of a trade or business within the United States (unless
such OID is exempt from taxation or is subject to a reduced
rate of taxation under a treaty obligation). Treasury
regulations further modify the related-foreign-person rule by
providing that in the case of a debt owed to a foreign personal
holding company (``FPHC''), controlled foreign corporation
(``CFC'') or passive foreign investment company (``PFIC''), a
deduction is allowed for OID as of the day on which the amount
is includible in the income of the FPHC, CFC or PFIC,
respectively.
In the case of unpaid stated interest and expenses of
related persons, where, by reason of a payee's method of
accounting, an amount is not includible in the payee's gross
income until it is paid but the unpaid amounts are deductible
currently by the payor, the amount generally is allowable as a
deduction when such amount is includible in the gross income of
the payee. With respect to stated interest and other expenses
owed to related foreign corporations, Treasury regulations
provide a general rule that requires a taxpayer to use the cash
method of accounting with respect to the deduction of amounts
owed to such related foreign persons (with an exception for
income of a related foreign person that is effectively
connected with the conduct of a U.S. trade or business and that
is not exempt from taxation or subject to a reduced rate of
taxation under a treaty obligation). As in the case of OID, the
Treasury regulations additionally provide that in the case of
states interest owed to a FPHC, CFC, or PFIC, a deduction is
allowed as of the day on which the amount is includible in the
income of the FPHC, CFC or PFIC.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment generally provides that deductions
for amounts accrued but unpaid (whether by U.S. or foreign
persons) to related FPHCs, CFCs, or PFICs are allowable only to
the extent that the amounts accrued by the payor are, for U.S.
tax purposes, currently included in the income of the direct or
indirect U.S. owners of the related foreign person. Deductions
that have accrued but are not allowable under this provision
are allowed when the amounts are paid.
Effective date.--The Senate amendment provision is
effective for payments accrued on or after May 8, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
8. Sale of gasoline and diesel fuel at duty-free sales enterprises
(Sec. 349 of the Senate amendment)
PRESENT LAW
A duty-free sales enterprise that meets certain
conditions may sell and deliver for export from the customs
territory of the United States duty-free merchandise. Duty-free
merchandise is merchandise sold by a duty-free sales enterprise
on which neither federal duty nor federal tax has been assessed
pending exportation from the customs territory of the United
States. The duty-free statute does not contain any limitation
on what goods may qualify for duty-free treatment.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment amends Section 555(b) of the Tariff
Act of 1930 (19 U.S.C. 1555(b)) to provide that gasoline or
diesel fuel sold at duty-free enterprises shall be considered
to entered for consumption into the United States and thus
ineligible for classification as duty-free merchandise.
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
9. Repeal of earned income exclusion for citizens or residents living
abroad (sec. 350 of the Senate amendment and sec. 911 of the
Code)
PRESENT LAW
U.S. citizens generally are subject to U.S. income tax on
all their income, whether derived in the United States or
elsewhere. A U.S. citizen who earns income in a foreign country
also may be taxed on such income by that foreign country.
However, the United States generally cedes the primary right to
tax income derived by a U.S. citizen from sources outside the
United States to the foreign country where such income is
derived. Accordingly, a credit against the U.S. income tax
imposed on foreign source taxable income is provided for
foreign taxes paid on that income.
U.S. citizens living abroad may be eligible to exclude
from their income for U.S. tax purposes certain foreign earned
income and foreign housing costs. In order to qualify for these
exclusions, a U.S. citizen must be either: (1) a bona fide
resident of a foreign country for an uninterrupted period that
includes an entire taxable year; or (2) present overseas for
330 days out of any 12-consecutive-month period. In addition,
the taxpayer must have his or her tax home in a foreign
country.
The exclusion for foreign earned income generally applies
to income earned from sources outside the United States as
compensation for personal services actually rendered by the
taxpayer. The maximum exclusion for foreign earned income for a
taxable year is $80,000 (for 2002 and thereafter). For taxable
years beginning after 2007, the maximum exclusion amount is
indexed for inflation.
The exclusion for housing costs applies to reasonable
expenses, other than deductible interest and taxes, paid or
incurred by or on behalf of the taxpayer for housing for the
taxpayer and his or her spouse and dependents in a foreign
country. The exclusion amount for housing costs for a taxable
year is equal to the excess of such housing costs for the
taxable year over an amount computed pursuant to a specified
formula. In the case of housing costs that are not paid or
reimbursed by the taxpayer's employer, the amount that would be
excludible is treated instead as a deduction.
The combined earned income exclusion and housing cost
exclusion may not exceed the taxpayer's total foreign earned
income. The taxpayer's foreign tax credit is reduced by the
amount of such credit that is attributable to excluded income.
Special exclusions apply in the case of taxpayers who
reside in one of the U.S. possessions.
HOUSE BILL
No provision.
SENATE AMENDMENT
The exclusion for foreign earned income and the exclusion
or deduction for housing expenses is repealed.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
E. Other Revenue Provisions
1. Extension of IRS user fees (sec. 351 of the Senate amendment and new
sec. 7529 of the Code)
PRESENT LAW
The IRS provides written responses to questions of
individuals, corporations, and organizations relating to their
tax status or the effects of particular transactions for tax
purposes. The IRS generally charges a fee for requests for a
letter ruling, determination letter, opinion letter, or other
similar ruling or determination. Public Law 104-117 \245\
extended the statutory authorization for these user fees \246\
through September 30, 2003.
---------------------------------------------------------------------------
\245\ An Act to provide that members of the Armed Forces performing
services for the peacekeeping efforts in Bosnia and Herzegovina,
Croatia, and Macedonia shall be entitled to tax benefits in the same
manner as if such services were performed in a combat zone, and for
other purposes (March 20, 1996).
\246\ These user fees were originally enacted in section 10511 of
the Revenue Act of 1987 (Pub. Law No. 100-203, December 22, 1987).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the statutory authorization
for these user fees through September 30, 2013. The Senate
amendment also moves the statutory authorization for these fees
into the Code.\247\
---------------------------------------------------------------------------
\247\ The provision also moves into the Code the user fee provision
relating to pension plans that was enacted in section 620 of the
Economic Growth and Tax Relief Reconciliation Act of 2001 (Pub. L. 107-
16, June 7, 2001).
---------------------------------------------------------------------------
Effective date.--The Senate amendment provision,
including moving the statutory authorization for these fees
into the Code and repealing the off-Code statutory
authorization for these fees, is effective for requests made
after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Add vaccines against hepatitis A to the list of taxable vaccines
(sec. 352 of the Senate amendment and sec. 4132 of the Code)
PRESENT LAW
A manufacturer's excise tax is imposed at the rate of 75
cents per dose \248\ on the following vaccines routinely
recommended for administration to children: diphtheria,
pertussis, tetanus, measles, mumps, rubella, polio, HIB
(haemophilus influenza type B), hepatitis B, varicella (chicken
pox), rotavirus gastroenteritis, and streptococcus pneumoniae.
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.
---------------------------------------------------------------------------
\248\ Sec. 4131.
---------------------------------------------------------------------------
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.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment adds any vaccine against hepatitis A
to the list of taxable vaccines. The Senate amendment also
makes a conforming amendment to the trust fund expenditure
purposes.
Effective date.--The Senate amendment provision is
effective for vaccines sold beginning on the first day of the
first month beginning more than four weeks after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Disallowance of certain partnership loss transfers (sec. 353 of the
Senate Amendment and secs. 704, 734, and 743 of the Code)
PRESENT LAW
Contributions of property
Under present law, if a partner contributes property to a
partnership, no gain or loss generally is recognized to the
contributing partner at the time of contribution.\249\ The
partnership takes the property at an adjusted basis equal to
the contributing partner's adjusted basis in the property.\250\
The contributing partner increases its basis in its partnership
interest by the adjusted basis of the contributed
property.\251\ Any items of partnership income, gain, loss, and
deduction with respect to the contributed property is allocated
among the partners to take into account any built-in gain or
loss at the time of the contribution.\252\ This rule is
intended to prevent the transfer of built-in gain or loss from
the contributing partner to the other partners by generally
allocating items to the noncontributing partners based on the
value of their contributions and by allocating to the
contributing partner the remainder of each item.\253\
---------------------------------------------------------------------------
\249\ Sec. 721.
\250\ Sec. 723.
\251\ Sec. 722.
\252\ Sec. 704(c)(1)(A).
\253\ Where there is an insufficient amount of an item to allocate
to the noncontributing partners, Treasury regulations allow for
reasonable allocations to remedy this insufficiency. Treas. Reg. sec.
1-704(c) and (d).
---------------------------------------------------------------------------
If the contributing partner transfers its partnership
interest, the built-in gain or loss will be allocated to the
transferee partner as it would have been allocated to the
contributing partner.\254\ If the contributing partner's
interest is liquidated, there is no specific guidance
preventing the allocation of the built-in loss to the remaining
partners. Thus, it appears that losses can be ``transferred''
to other partners where the contributing partner no longer
remains a partner.
---------------------------------------------------------------------------
\254\ Treas. Reg. 1.704-3(a)(7).
---------------------------------------------------------------------------
Transfers of partnership interests
Under present law, a partnership does not adjust the
basis of partnership property following the transfer of a
partnership interest unless the partnership has made a one-time
election under section 754 to make basis adjustments.\255\ If
an election is in effect, adjustments are made with respect to
the transferee partner in order to account for the difference
between the transferee partner's proportionate share of the
adjusted basis of the partnership property and the transferee's
basis in its partnership interest.\256\ These adjustments are
intended to adjust the basis of partnership property to
approximate the result of a direct purchase of the property by
the transferee partner. Under these rules, if a partner
purchases an interest in a partnership with an existing built-
in loss and no election under section 754 in effect, the
transferee partner may be allocated a share of the loss when
the partnership disposes of the property (or depreciates the
property).
---------------------------------------------------------------------------
\255\ Sec. 743(a).
\256\ Sec. 743(b).
---------------------------------------------------------------------------
Distributions of partnership property
With certain exceptions, partners may receive
distributions of certain partnership property without
recognition of gain or loss by either the partner or the
partnership.\257\ In the case of a distribution in liquidation
of a partner's interest, the basis of the property distributed
in the liquidation is equal to the partner's adjusted basis in
its partnership interest (reduced by any money distributed in
the transaction).\258\ In a distribution other than in
liquidation of a partner's interest, the distributee partner's
basis in the distributed property is equal to the partnership's
adjusted basis in the property immediately before the
distribution, but not to exceed the partner's adjusted basis in
the partnership interest (reduced by any money distributed in
the same transaction).\259\
---------------------------------------------------------------------------
\257\ Sec. 731(a) and (b).
\258\ Sec. 732(b).
\259\ Sec. 732(a).
---------------------------------------------------------------------------
Adjustments to the basis of the partnership's
undistributed properties are not required unless the
partnership has made the election under section 754 to make
basis adjustments.\260\ If an election is in effect under
section 754, adjustments are made by a partnership to increase
or decrease the remaining partnership assets to reflect any
increase or decrease in the adjusted basis of the distributed
properties in the hands of the distributee partner (or gain or
loss recognized by the disributee partner).\261\ To the extent
the adjusted basis of the distributed properties increases (or
loss is recognized), the partnership's adjusted basis in its
properties is decreased by a like amount; likewise, to the
extent the adjusted basis of the distributed properties
decrease (or gain is recognized), the partnership's adjusted
basis in its properties is increased by a like amount. Under
these rules, a partnership with no election in effect under
section 754 may distribute property with an adjusted basis
lower than the distributee partner's proportionate share of the
adjusted basis of all partnership property and leave the
remaining partners with a smaller net built-in gain or a larger
net built-in loss than before the distribution.
---------------------------------------------------------------------------
\260\ Sec. 734(a).
\261\ Sec. 734(b).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Contributions of property
Under the Senate amendment, a built-in loss may be taken
into account only by the contributing partner and not by other
partners. Except as provided in regulations, in determining the
amount of items allocated to partners other than the
contributing partner, the basis of the contributed property is
treated as the fair market value on the date of contribution.
Thus, if the contributing partner's partnership interest is
transferred or liquidated, the partnership's adjusted basis in
the property is based on its fair market value at the date of
contribution, and the built-in loss will be eliminated.\262\
---------------------------------------------------------------------------
\262\ It is intended that a corporation succeeding to attributes of
the contributing corporate partner under section 381 shall be treated
in the same manner as the contributing partner.
---------------------------------------------------------------------------
Transfers of partnership interests
The Senate amendment provides that the basis adjustment
rules under section 743 are mandatory in the case of the
transfer of a partnership interest with respect to which there
is a substantial built-in loss (rather than being elective as
under present law). For this purpose, a substantial built-in
loss exists if the transferee partner's proportionate share of
the adjusted basis of the partnership property exceeds by more
than $250,000 the transferee partner's basis in the partnership
interest.
Thus, for example, assume that partner A sells his
partnership interest to B for its fair market value of $1
million. Also assume that B's proportionate share of the
adjusted basis of the partnership assets is $1.3 million. Under
the bill, section 743(b) applies, so that a $300,000 decrease
is required to the adjusted basis of the partnership assets
with respect to B. As a result, B would recognize no gain or
loss if the partnership immediately sold all its assets for
their fair market values.
Distribution of partnership property
The Senate amendment provides that a basis adjustment
under section 734(b) is required in the case of a distribution
with respect to which there is a substantial basis reduction. A
substantial basis reduction means a downward adjustment of more
than $250,000 that would be made to the basis of partnership
assets if a section 754 election were in effect.
Thus, for example, assume that A and B each contributed
$2.5 million to a newly formed partnership and C contributed $5
million, and that the partnership purchased LMN stock for $3
million and XYZ stock for $7 million. Assume that the value of
each stock declined to $1 million. Assume LMN stock is
distributed to C in liquidation of its partnership interest.
Under present law, the basis of LMN stock in C's hands is $5
million. Under present law, C would recognize a loss of $4
million if the LMN stock were sold for $1 million.
Under the Senate amendment, however, there is a
substantial basis adjustment because the $2 million increase in
the adjusted basis of LMN stock (sec. 734(b)(2)(B)) is greater
than $250,000. Thus, the partnership is required to decrease
the basis of XYZ stock (under section 734(b)(2)) by $2 million
(the amount by which the basis LMN stock was increased),
leaving a basis of $5 million. If the XYZ stock were then sold
by the partnership for $1 million, A and B would each recognize
a loss of $2 million.
Effective date.--The provision applies to contributions,
transfers, and distributions (as the case may be) after the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not contain the provision
in the Senate amendment.
4. Treatment of stripped bonds to apply to stripped interests in bond
and preferred stock funds (sec. 354 of the Senate amendment and
secs. 305 and 1286 of the Code)
PRESENT LAW
Assignment of income in general
In general, an ``income stripping'' transaction involves
a transaction in which the right to receive future income from
income-producing property is separated from the property
itself. In such transactions, it may be possible to generate
artificial losses from the disposition of certain property or
to defer the recognition of taxable income associated with such
property.
Common law has developed a rule (referred to as the
``assignment of income'' doctrine) that income may not be
transferred without also transferring the underlying property.
A leading judicial decision relating to the assignment of
income doctrine involved a case in which a taxpayer made a gift
of detachable interest coupons before their due date while
retaining the bearer bond. The U.S. Supreme Court ruled that
the donor was taxable on the entire amount of interest when
paid to the donee on the grounds that the transferor had
``assigned'' to the donee the right to receive the income.\263\
---------------------------------------------------------------------------
\263\ Helvering v. Horst, 311 U.S. 112 (1940).
---------------------------------------------------------------------------
In addition to general common law assignment of income
principles, specific statutory rules have been enacted to
address certain specific types of stripping transactions, such
as transactions involving stripped bonds and stripped preferred
stock (which are discussed below).\264\ However, there are no
specific statutory rules that address stripping transactions
with respect to common stock or other equity interests (other
than preferred stock).\265\
---------------------------------------------------------------------------
\264\ Depending on the facts, the IRS also could determine that a
variety of other Code-based and common law-based authorities could
apply to income stripping transactions, including: (1) sections 269,
382, 446(b), 482, 701, or 704 and the regulations thereunder; (2)
authorities that recharacterize certain assignments or accelerations of
future payments as financings; (3) business purpose, economic
substance, and sham transaction doctrines; (4) the step transaction
doctrine; and (5) the substance-over-form doctrine. See Notice 95-53,
1995-2 C.B. 334 (accounting for lease strips and other stripping
transactions).
\265\ However, in Estate of Stranahan v. Commissioner, 472 F.2d 867
(6th Cir. 1973), the court held that where a taxpayer sold an interest
in stock dividends, with no personal obligation to produce the income
supporting the dividends, the transaction was treated as a sale of an
income interest.
---------------------------------------------------------------------------
Stripped bonds
Special rules are provided with respect to the purchaser
and ``stripper'' of stripped bonds.\266\ A ``stripped bond'' is
defined as a debt instrument in which there has been a
separation in ownership between the underlying debt instrument
and any interest coupon that has not yet become payable.\267\
In general, upon the disposition of either the stripped bond or
the detached interest coupons, the retained portion and the
portion that is disposed of each is treated as a new bond that
is purchased at a discount and is payable at a fixed amount on
a future date. Accordingly, section 1286 treats both the
stripped bond and the detached interest coupons as individual
bonds that are newly issued with original issue discount
(``OID'') on the date of disposition. Consequently, section
1286 effectively subjects the stripped bond and the detached
interest coupons to the general OID periodic income inclusion
rules.
---------------------------------------------------------------------------
\266\ Sec. 1286.
\267\ Sec. 1286(e).
---------------------------------------------------------------------------
A taxpayer who purchases a stripped bond or one or more
stripped coupons is treated as holding a new bond that is
issued on the purchase date with OID in an amount that is equal
to the excess of the stated redemption price at maturity (or in
the case of a coupon, the amount payable on the due date) over
the ratable share of the purchase price of the stripped bond or
coupon, determined on the basis of the respective fair market
values of the stripped bond and coupons on the purchase
date.\268\ The OID on the stripped bond or coupon is includible
in gross income under the general OID periodic income inclusion
rules.
---------------------------------------------------------------------------
\268\ Sec. 1286(a).
---------------------------------------------------------------------------
A taxpayer who strips a bond and disposes of either the
stripped bond or one or more stripped coupons must allocate his
basis, immediately before the disposition, in the bond (with
the coupons attached) between the retained and disposed
items.\269\ Special rules apply to require that interest or
market discount accrued on the bond prior to such disposition
must be included in the taxpayer's gross income (to the extent
that it had not been previously included in income) at the time
the stripping occurs, and the taxpayer increases his basis in
the bond by the amount of such accrued interest or market
discount. The adjusted basis (as increased by any accrued
interest or market discount) is then allocated between the
stripped bond and the stripped interest coupons in relation to
their respective fair market values. Amounts realized from the
sale of stripped coupons or bonds constitute income to the
taxpayer only to the extent such amounts exceed the basis
allocated to the stripped coupons or bond. With respect to
retained items (either the detached coupons or stripped bond),
to the extent that the price payable on maturity, or on the due
date of the coupons, exceeds the portion of the taxpayer's
basis allocable to such retained items, the difference is
treated as OID that is required to be included under the
general OID periodic income inclusion rules.\270\
---------------------------------------------------------------------------
\269\ Sec. 1286(b). Similar rules apply in the case of any person
whose basis in any bond or coupon is determined by reference to the
basis in the hands of a person who strips the bond.
\270\ Special rules are provided with respect to stripping
transactions involving tax-exempt obligations that treat OID (computed
under the stripping rules) in excess of OID computed on the basis of
the bond's coupon rate (or higher rate if originally issued at a
discount) as income from a non-tax-exempt debt instrument (sec.
1286(d)).
---------------------------------------------------------------------------
Stripped preferred stock
``Stripped preferred stock'' is defined as preferred
stock in which there has been a separation in ownership between
such stock and any dividend on such stock that has not become
payable.\271\ A taxpayer who purchases stripped preferred stock
is required to include in gross income, as ordinary income, the
amounts that would have been includible if the stripped
preferred stock was a bond issued on the purchase date with OID
equal to the excess of the redemption price of the stock over
the purchase price.\272\ This treatment is extended to any
taxpayer whose basis in the stock is determined by reference to
the basis in the hands of the purchaser. A taxpayer who strips
and disposes the future dividends is treated as having
purchased the stripped preferred stock on the date of such
disposition for a purchase price equal to the taxpayer's
adjusted basis in the stripped preferred stock.\273\
---------------------------------------------------------------------------
\271\ Sec. 305(e)(5).
\272\ Sec. 305(e)(1).
\273\ Sec. 305(e)(3).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment authorizes the Treasury Department
to promulgate regulations that, in appropriate cases, apply
rules that are similar to the present-law rules for stripped
bonds and stripped preferred stock to direct or indirect
interests in an entity or account substantially all of the
assets of which consist of bonds (as defined in section
1286(e)(1)), preferred stock (as defined in section
305(e)(5)(B)), or any combination thereof. The Senate amendment
applies only to cases in which the present-law rules for
stripped bonds and stripped preferred stock do not already
apply to such interests.
For example, such Treasury regulations could apply to a
transaction in which a person effectively strips future
dividends from shares in a money market mutual fund (and
disposes either the stripped shares or stripped future
dividends) by contributing the shares (with the future
dividends) to a custodial account through which another person
purchases rights to either the stripped shares or the stripped
future dividends. However, it is intended that Treasury
regulations issued under the Senate amendment would not apply
to certain transactions involving direct or indirect interests
in an entity or account substantially all the assets of which
consist of tax-exempt obligations (as defined in section
1275(a)(3)), such as a tax-exempt bond partnership described in
Rev. Proc. 2002-68,\274\ modifying and superceding Rev. Proc.
2002-16.\275\
---------------------------------------------------------------------------
\274\ 2002-43 I.R.B. 753.
\275\ 2002-9 I.R.B. 572.
---------------------------------------------------------------------------
No inference is intended as to the treatment under the
present-law rules for stripped bonds and stripped preferred
stock, or under any other provisions or doctrines of present
law, of interests in an entity or account substantially all of
the assets of which consist of bonds, preferred stock, or any
combination thereof. The Treasury regulations, when issued,
would be applied prospectively, except in cases to prevent
abuse.
Effective date.--The Senate amendment provision is
effective for purchases and dispositions occurring after the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Reporting of taxable mergers and acquisitions (sec. 355 of the
Senate amendment and new sec. 6043A of the Code)
PRESENT LAW
Under section 6045 and the regulations thereunder,
brokers (defined to include stock transfer agents) are required
to make information returns and to provide corresponding payee
statements as to sales made on behalf of their customers,
subject to the penalty provisions of sections 6721-6724. Under
the regulations issued under section 6045, this requirement
generally does not apply with respect to taxable transactions
other than exchanges for cash (e.g., stock inversion
transactions taxable to shareholders by reason of section
367(a)).
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, if gain or loss is recognized
in whole or in part by shareholders of a corporation by reason
of a second corporation's acquisition of the stock or assets of
the first corporation, then the acquiring corporation (or the
acquired corporation, if so prescribed by the Treasury
Secretary) is required to make a return containing:
(1) A description of the transaction;
(2) The name and address of each shareholder of the
acquired corporation that recognizes gain as a result
of the transaction (or would recognize gain, if there
was a built-in gain on the shareholder's shares);
(3) The amount of money and the value of stock or
other consideration paid to each shareholder described
above; and
(4) Such other information as the Treasury
Secretary may prescribe.
Alternatively, a stock transfer agent who records
transfers of stock in such transaction may make the return
described above in lieu of the second corporation.
In addition, every person required to make a return
described above is required to furnish to each shareholder
whose name is required to be set forth in such return a written
statement showing:
(1) The name, address, and phone number of the
information contact of the person required to make such
return;
(2) The information required to be shown on that
return; and
(3) Such other information as the Treasury
Secretary may prescribe.
This written statement is required to be furnished to the
shareholder on or before January 31 of the year following the
calendar year during which the transaction occurred.
The present-law penalties for failure to comply with
information reporting requirements are extended to failures to
comply with the requirements set forth under this proposal.
Effective date.--The Senate amendment provision is
effective for acquisitions after the date of enactment of the
proposal.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Minimum holding period for foreign tax credit with respect to
withholding taxes on income other than dividends (sec. 356 of
the Senate amendment and sec. 901 of the Code)
PRESENT LAW
In general, U.S. persons may credit foreign taxes against
U.S. tax on foreign-source income. The amount of foreign tax
credits that may 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.
Present law denies a U.S. shareholder the foreign tax
credits normally available with respect to a dividend from a
corporation or a regulated investment company (``RIC'') if the
shareholder has not held the stock for more than 15 days
(within a 30-day testing period) in the case of common stock or
more than 45 days (within a 90-day testing period) in the case
of preferred stock.\276\ The disallowance applies both to
foreign tax credits for foreign withholding taxes that are paid
on the dividend where the dividend-paying stock is held for
less than these holding periods, and to indirect foreign tax
credits for taxes paid by a lower-tier foreign corporation or a
RIC where any of the required stock in the chain of ownership
is held for less than these holding periods. Periods during
which a taxpayer is protected from risk of loss (e.g., by
purchasing a put option or entering into a short sale with
respect to the stock) generally are not counted toward the
holding period requirement. In the case of a bona fide contract
to sell stock, a special rule applies for purposes of indirect
foreign tax credits. The disallowance does not apply to foreign
tax credits with respect to certain dividends received by
active dealers in securities. If a taxpayer is denied foreign
tax credits because the applicable holding period is not
satisfied, the taxpayer is entitled to a deduction for the
foreign taxes for which the credit is disallowed.
---------------------------------------------------------------------------
\276\ Sec. 901(k).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment expands the present-law disallowance
of foreign tax credits to include credits for gross-basis
foreign withholding taxes with respect to any item of income or
gain from property if the taxpayer who receives the income or
gain has not held the property for more than 15 days (within a
30-day testing period), exclusive of periods during which the
taxpayer is protected from risk of loss. The Senate amendment
does not apply to foreign tax credits that are subject to the
present-law disallowance with respect to dividends. The Senate
amendment also does not apply to certain income or gain that is
received with respect to property held by active dealers. Rules
similar to the present-law disallowance for foreign tax credits
with respect to dividends apply to foreign tax credits that are
subject to the Senate amendment. In addition, the Senate
amendment authorizes the Treasury Department to issue
regulations providing that the Senate amendment does not apply
in appropriate cases.
Effective date.--The Senate amendment provision is
effective for amounts that are paid or accrued more than 30
days after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
7. Qualified tax collection contracts (sec. 357 of the Senate amendment
and new sec. 6306 of the Code)
PRESENT LAW
In fiscal years 1996 and 1997, the Congress earmarked $13
million for IRS to test the use of private debt collection
companies. There were several constraints on this pilot
project. First, because both IRS and OMB considered the
collection of taxes to be an inherently governmental function,
only government employees were permitted to collect the
taxes.\277\ The private debt collection companies were utilized
to assist the IRS in locating and contacting taxpayers,
reminding them of their outstanding tax liability, and
suggesting payment options. If the taxpayer agreed at that
point to make a payment, the taxpayer was transferred from the
private debt collection company to the IRS. Second, the private
debt collection companies were paid a flat fee for services
rendered; the amount that was ultimately collected by the IRS
was not taken into account in the payment mechanism.
---------------------------------------------------------------------------
\277\ Sec. 7801(a).
---------------------------------------------------------------------------
The pilot program was discontinued because of
disappointing results. GAO reported \278\ that IRS collected
$3.1 million attributable to the private debt collection
company efforts; expenses were also $3.1 million. In addition,
there were lost opportunity costs of $17 million to the IRS
because collection personnel were diverted from their usual
collection responsibilities to work on the pilot.
---------------------------------------------------------------------------
\278\ GAO/GGD-97-129R Issues Affecting IRS' Collection Pilot (July
18, 1997).
---------------------------------------------------------------------------
The IRS has in the last several years expressed renewed
interest in the possible use of private debt collection
companies; for example, IRS recently revised its extensive
Request for Information concerning its possible use of private
debt collection companies.\279\
---------------------------------------------------------------------------
\279\ TIRNO-03-H-0001 (February 14, 2003), at
www.procurement.irs.treas.gov. The basic request for information is 104
pages, and there are 16 additional attachments.
---------------------------------------------------------------------------
In general, Federal agencies are permitted to enter into
contracts with private debt collection companies for collection
services to recover indebtedness owed to the United
States.\280\ That provision does not apply to the collection of
debts under the Internal Revenue Code.\281\
---------------------------------------------------------------------------
\280\ 31 U.S.C. sec. 3718.
\281\ 31 U.S.C. sec. 3718(f).
---------------------------------------------------------------------------
On February 3, 2003, the President submitted to the
Congress his fiscal year 2004 budget proposal,\282\ which
proposed the use of private debt collection companies to
collect Federal tax debts.
---------------------------------------------------------------------------
\282\ See Office of Management and Budget, Budget of the United
States Government, Fiscal Year 2004 (H. Doc. 108-3, Vol. I), p. 274.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment permits the IRS to use private debt
collection companies to locate and contact taxpayers owing
outstanding tax liabilities \283\ of any type \284\ and to
arrange payment of those taxes by the taxpayers. Several steps
are involved. First, the private debt collection company
contacts the taxpayer by letter.\285\ If the taxpayer's last
known address is incorrect, the private debt collection company
searches for the correct address. The private debt collection
company is not permitted to contact either individuals or
employers to locate a taxpayer. Second, the private debt
collection company telephones the taxpayer to request full
payment.\286\ If the taxpayer cannot pay in full immediately,
the private debt collection company offers the taxpayer an
installment agreement providing for full payment of the taxes
over a period of as long as three years. If the taxpayer is
unable to pay the outstanding tax liability in full over a
three-year period, the private debt collection company obtains
financial information from the taxpayer and will provide this
information to the IRS for further processing and action by the
IRS.
---------------------------------------------------------------------------
\283\ There must be an assessment pursuant to section 6201 in order
for there to be an outstanding tax liability.
\284\ The Senate amendment generally applies to any type of tax
imposed under the Internal Revenue Code. It is anticipated that the
focus in implementing the provision will be: (a) taxpayers who have
filed a return showing a balance due but who have failed to pay that
balance in full; and (b) taxpayers who have been assessed additional
tax by the IRS and who have made several voluntary payments toward
satisfying their obligation but have not paid in full.
\285\ Several portions of the provision require that the IRS
disclose confidential taxpayer information to the private debt
collection company. Section 6103(n) permits disclosure for ``the
providing of other services * * * for purposes of tax administration.''
Accordingly, no amendment to 6103 is necessary to implement the
provision. It is intended, however, that the IRS vigorously protect the
privacy of confidential taxpayer information by disclosing the least
amount of information possible to contractors consistent with the
effective operation of the provision.
\286\ The private debt collection company is not permitted to
accept payment directly. Payments are required to be processed by IRS
employees.
---------------------------------------------------------------------------
The Senate amendment specifies several procedural
conditions under which the provision would operate. First,
provisions of the Fair Debt Collection Practices Act apply to
the private debt collection company. Second, taxpayer
protections that are statutorily applicable to the IRS are also
made statutorily applicable to the private sector debt
collection companies. Third, the private sector debt collection
companies are required to inform taxpayers of the availability
of assistance from the Taxpayer Advocate.
The Senate amendment provides that the United States
shall not be liable for any act or omission of any person
performing services under a qualified debt collection contract.
This is designed to encourage these persons to protect
taxpayers' rights to the maximum extent possible, since they
and their employers will be liable for violations; they will
not be able to transfer liability for violations to the United
States, which might cause them to be more lax in preventing
violations.
The Senate amendment creates a revolving fund from the
amounts collected by the private debt collection companies. The
private debt collection companies would be paid out of this
fund. The provision prohibits the payment of fees for all
services in excess of 25 percent of the amount collected under
a tax collection contract.\287\
---------------------------------------------------------------------------
\287\ It is assumed that there will be competitive bidding for
these contracts by private sector tax collection agencies and that
vigorous bidding will drive the overhead costs down.
---------------------------------------------------------------------------
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
8. Extension of customs user fees (sec. 358 of the Senate amendment)
PRESENT LAW
Section 13031 of the Consolidated Omnibus Budget
Reconciliation Act of 1985 (COBRA) (P.L. 99-272), authorized
the Secretary of the Treasury to collect certain service fees.
Section 412 (P.L 107-296) of the Homeland Security Act of 2002
authorized the Secretary of the Treasury to delegate such
authority to the Secretary of Homeland Security. Provided for
under 19 U.S.C. 58c, these fees include: processing fees for
air and sea passengers, commercial trucks, rail cars, private
aircraft and vessels, commercial vessels, dutiable mail
packages, barges and bulk carriers, merchandise, and Customs
broker permits. COBRA was amended on several occasions but most
recently by P.L. 103-182 which extended authorization for the
collection of these fees through fiscal year 2003.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the fees authorized under
the Consolidated Omnibus Budget Reconciliation Act of 1985
through December 31, 2013.
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
9. Modify qualification rules for tax-exempt property and casualty
insurance companies (sec. 359 of the Senate amendment and secs.
501 and 831 of the Code)
PRESENT LAW
A property and casualty insurance company is eligible to
be exempt from Federal income tax if its net written premiums
or direct written premiums (whichever is greater) for the
taxable year do not exceed $350,000 (sec. 501(c)(15)).
A property and casualty insurance company may elect to be
taxed only on taxable investment income if its net written
premiums or direct written premiums (whichever is greater) for
the taxable year exceed $350,000, but do not exceed $1.2
million (sec. 831(b)).
For purposes of determining the amount of a company's net
written premiums or direct written premiums under these rules,
premiums received by all members of a controlled group of
corporations of which the company is a part are taken into
account. For this purpose, a more-than-50-percent threshhold
applies under the vote and value requirements with respect to
stock ownership for determining a controlled group, and rules
treating a life insurance company as part of a separate
controlled group or as an excluded member of a group do not
apply (secs. 501(c)(15), 831(b)(2)(B) and 1563).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision modifies the requirements
for a property and casualty insurance company to be eligible
for tax-exempt status, and to elect to be taxed only on taxable
investment income.
Under the Senate amendment provision, a property and
casualty insurance company is eligible to be exempt from
Federal income tax if (a) its gross receipts for the taxable
year do not exceed $600,000, and (b) the premiums received for
the taxable year are greater than 50 percent of the gross
receipts. For purposes of determining gross receipts, the gross
receipts of all members of a controlled group of corporations
of which the company is a part are taken into account. The
provision expands the present-law controlled group rule so that
it also takes into account gross receipts of foreign and tax-
exempt corporations.
The Senate amendment provision also provides that a
property and casualty insurance company may elect to be taxed
only on taxable investment income if its net written premiums
or direct written premiums (whichever is greater) do not exceed
$1.2 million (without regard to whether such premiums exceed
$350,000) (sec. 831(b)). The provision retains the present-law
rule that, for purposes of determining the amount of a
company's net written premiums or direct written premiums under
this rule, premiums received by all members of a controlled
group of corporations of which the company is a part are taken
into account.
No inference is intended that any company that is not an
insurance company (i.e., any company that is not a company
whose primary and predominant business activity during the
taxable year is the issuing of insurance or annuity contracts
or the reinsuring of risks underwritten by insurance companies)
can be eligible for tax-exempt status under present-law section
501(c)(15), or under the provision. It is intended that IRS
enforcement activities address the misuse of present-law
section 501(c)(15).
Further, it is not intended that the provision permitting
a property and casualty insurance company to elect to be taxed
only on taxable investment income become an area of abuse.
While the bill retains the eligibility test based on premiums
(rather than gross receipts), it is intended that regulations
or other Treasury guidance provide for anti-abuse rules so as
to prevent improper use of the provision, including by
characterizing as premiums income that is other than premium
income.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
10. Authorize IRS to enter into installment agreements that provide for
partial payment (sec. 360 of the Senate amendment and sec. 6159
of the Code)
PRESENT LAW
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 (sec. 6159). An
installment agreement does not reduce the amount of taxes,
interest, or penalties owed. Generally, during the period
installment payments are being made, other IRS enforcement
actions (such as levies or seizures) with respect to the taxes
included in that agreement are held in abeyance.
Prior to 1998, the IRS administratively entered into
installment agreements that provided for partial payment
(rather than full payment) of the total amount owed over the
period of the agreement. In that year, the IRS Chief Counsel
issued a memorandum concluding that partial payment installment
agreements were not permitted.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision clarifies that the IRS is
authorized to enter into installment agreements with taxpayers
that do not provide for full payment of the taxpayer's
liability over the life of the agreement. The Senate amendment
provision also requires the IRS to review partial payment
installment agreements at least every two years. The primary
purpose of this review is to determine whether the financial
condition of the taxpayer has significantly changed so as to
warrant an increase in the value of the payments being made.
Effective date.--The Senate amendment provision is
effective for installment agreements entered into on or after
the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
11. Extend intangible amortization provisions to sports franchises
(sec. 361 of the Senate amendment and sec. 197 of the Code)
PRESENT LAW
The purchase price allocated to intangible assets
(including franchise rights) acquired in connection with the
acquisition of a trade or business generally must be
capitalized and amortized over a 15-year period.\288\ These
rules were enacted in 1993 to minimize disputes regarding the
proper treatment of acquired intangible assets. The rules do
not apply to a franchise to engage in professional sports and
any intangible asset acquired in connection with such a
franchise.\289\ However, other special rules apply to certain
of these intangible assets.
---------------------------------------------------------------------------
\288\ Sec. 197.
\289\ Sec. 197(e)(6).
---------------------------------------------------------------------------
Under section 1056, when a franchise to conduct a sports
enterprise is sold or exchanged, the basis of a player contract
acquired as part of the transaction is generally limited to the
adjusted basis of such contract in the hands of the transferor,
increased by the amount of gain, if any, recognized by the
transferor on the transfer of the contract. Moreover, not more
than 50 percent of the consideration from the transaction may
be allocated to player contracts unless the transferee
establishes to the satisfaction of the Commissioner that a
specific allocation in excess of 50 percent is proper. However,
these basis rules may not apply if a sale or exchange of a
franchise to conduct a sports enterprise is effected through a
partnership.\290\ Basis allocated to the franchise or to other
valuable intangible assets acquired with the franchise may not
be amortizable if these assets lack a determinable useful life.
---------------------------------------------------------------------------
\290\ P.D.B. Sports, Ltd. v. Comm., 109 T.C. 423 (1997).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the 15-year recovery period
for intangible assets to franchises to engage in professional
sports and any intangible asset acquired in connection with
such a franchise acquisitions of sports franchises (including
player contracts). Thus, the same rules for amortization of
intangibles that apply to other acquisitions under present law
will apply to acquisitions of sports franchises.
Effective date.--The Senate amendment provision is
effective for acquisitions occurring after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
12. Deposits made to suspend the running of interest on potential
underpayments (sec. 362 of the Senate amendment and new sec.
6603 of the Code)
PRESENT LAW
Generally, interest on underpayments and overpayments
continues to accrue during the period that a taxpayer and the
IRS dispute a liability. The accrual of interest on an
underpayment is suspended if the IRS fails to notify an
individual taxpayer in a timely manner, but interest will begin
to accrue once the taxpayer is properly notified. No similar
suspension is available for other taxpayers.
A taxpayer that wants to limit its exposure to
underpayment interest has a limited number of options. The
taxpayer can continue to dispute the amount owed and risk
paying a significant amount of interest. If the taxpayer
continues to dispute the amount and ultimately loses, the
taxpayer will be required to pay interest on the underpayment
from the original due date of the return until the date of
payment.
In order to avoid the accrual of underpayment interest,
the taxpayer may choose to pay the disputed amount and
immediately file a claim for refund. Payment of the disputed
amount will prevent further interest from accruing if the
taxpayer loses (since there is no longer any underpayment) and
the taxpayer will earn interest on the resultant overpayment if
the taxpayerwins. However, the taxpayer will generally lose
access to the Tax Court if it follows this alternative. Amounts paid
generally cannot be recovered by the taxpayer on demand, but must await
final determination of the taxpayer's liability. Even if an overpayment
is ultimately determined, overpaid amounts may not be refunded if they
are eligible to be offset against other liabilities of the taxpayer.
The taxpayer may also make a deposit in the nature of a
cash bond. The procedures for making a deposit in the nature of
a cash bond are provided in Rev. Proc. 84-58.
A deposit in the nature of a cash bond will stop the
running of interest on an amount of underpayment equal to the
deposit, but the deposit does not itself earn interest. A
deposit in the nature of a cash bond is not a payment of tax
and is not subject to a claim for credit or refund. A deposit
in the nature of a cash bond may be made for all or part of the
disputed liability and generally may be recovered by the
taxpayer prior to a final determination. However, a deposit in
the nature of a cash bond need not be refunded to the extent
the Secretary determines that the assessment or collection of
the tax determined would be in jeopardy, or that the deposit
should be applied against another liability of the taxpayer in
the same manner as an overpayment of tax. If the taxpayer
recovers the deposit prior to final determination and a
deficiency is later determined, the taxpayer will not receive
credit for the period in which the funds were held as a
deposit. The taxable year to which the deposit in the nature of
a cash bond relates must be designated, but the taxpayer may
request that the deposit be applied to a different year under
certain circumstances.
HOUSE BILL
No provision.
SENATE AMENDMENT
In general
The Senate amendment allows a taxpayer to deposit cash
with the IRS that may subsequently be used to pay an
underpayment of income, gift, estate, generation-skipping, or
certain excise taxes. Interest will not be charged on the
portion of the underpayment that is paid by the deposited
amount for the period the amount is on deposit. Generally,
deposited amounts that have not been used to pay a tax may be
withdrawn at any time if the taxpayer so requests in writing.
The withdrawn amounts will earn interest at the applicable
Federal rate to the extent they are attributable to a
disputable tax.
The Secretary may issue rules relating to the making,
use, and return of the deposits.
Use of a deposit to offset underpayments of tax
Any amount on deposit may be used to pay an underpayment
of tax that is ultimately assessed. If an underpayment is paid
in this manner, the taxpayer will not be charged underpayment
interest on the portion of the underpayment that is so paid for
the period the funds were on deposit.
For example, assume a calendar year individual taxpayer
deposits $20,000 on May 15, 2005, with respect to a disputable
item on its 2004 income tax return. On April 15, 2007, an
examination of the taxpayer's year 2004 income tax return is
completed, and the taxpayer and the IRS agree that the taxable
year 2004 taxes were underpaid by $25,000. The $20,000 on
deposit is used to pay $20,000 of the underpayment, and the
taxpayer also pays the remaining $5,000. In this case, the
taxpayer will owe underpayment interest from April 15, 2005
(the original due date of the return) to the date of payment
(April 15, 2007) only with respect to the $5,000 of the
underpayment that is not paid by the deposit. The taxpayer will
owe underpayment interest on the remaining $20,000 of the
underpayment only from April 15, 2005, to May 15, 2005, the
date the $20,000 was deposited.
Withdrawal of amounts
A taxpayer may request the withdrawal of any amount of
deposit at any time. The Secretary must comply with the
withdrawal request unless the amount has already been used to
pay tax or the Secretary properly determines that collection of
tax is in jeopardy. Interest will be paid on deposited amounts
that are withdrawn at a rate equal to the short-term applicable
Federal rate for the period from the date of deposit to a date
not more than 30 days preceding the date of the check paying
the withdrawal. Interest is not payable to the extent the
deposit was not attributable to a disputable tax.
For example, assume a calendar year individual taxpayer
receives a 30-day letter showing a deficiency of $20,000 for
taxable year 2004 and deposits $20,000 on May 15, 2006. On
April 15, 2007, an administrative appeal is completed, and the
taxpayer and the IRS agree that the 2004 taxes were underpaid
by $15,000. $15,000 of the deposit is used to pay the
underpayment. In this case, the taxpayer will owe underpayment
interest from April 15, 2005 (the original due date of the
return) to May 15, 2006, the date the $20,000 was deposited.
Simultaneously with the use of the $15,000 to offset the
underpayment, the taxpayer requests the return of the remaining
amount of the deposit (after reduction for the underpayment
interest owed by the taxpayer from April 15, 2005, to May 15,
2006). This amount must be returned to the taxpayer with
interest determined at the short-term applicable Federal rate
from the May 15, 2006, to a date not more than 30 days
preceding the date of the check repaying the deposit to the
taxpayer.
Limitation on amounts for which interest may be allowed
Interest on a deposit that is returned to a taxpayer
shall be allowed for any period only to the extent attributable
to a disputable item for that period. A disputable item is any
item for which the taxpayer 1) has a reasonable basis for the
treatment used on its return and 2) reasonably believes that
the Secretary also has a reasonable basis for disallowing the
taxpayer's treatment of such item.
All items included in a 30-day letter to a taxpayer are
deemed disputable for this purpose. Thus, once a 30-day letter
has been issued, the disputable amount cannot be less than the
amount of the deficiency shown in the 30-day letter. A 30-day
letter is the first letter of proposed deficiency that allows
the taxpayer an opportunity for administrative review in the
Internal Revenue Service Office of Appeals.
Deposits are not payments of tax
A deposit is not a payment of tax prior to the time the
deposited amount is used to pay a tax. Thus, the interest
received on withdrawn deposits will not be eligible for the
proposed exclusion from income of an individual. Similarly,
withdrawal of a deposit will not establish a period for which
interest was allowable at the short-term applicable Federal
rate for the purpose of establishing a net zero interest rate
on a similar amount of underpayment for the same period.
Effective date
The Senate amendment provision applies to deposits made
after the date of enactment. Amounts already on deposit as of
the date of enactment are treated as deposited (for purposes of
applying this provision) on the date the taxpayer identifies
the amount as a deposit made pursuant to this provision.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
13. Clarification of rules for payment of estimated tax for certain
deemed asset sales (sec. 363 of the Senate amendment and sec.
338 of the Code)
PRESENT LAW
In certain circumstances, taxpayers can make an election
under section 338(h)(10) to treat a qualifying purchase of 80
percent of the stock of a target corporation by a corporation
from a corporation that is a member of an affiliated group (or
a qualifying purchase of 80 percent of the stock of an S
corporation by a corporation from S corporation shareholders)
as a sale of the assets of the target corporation, rather than
as a stock sale. The election must be made jointly by the buyer
and seller of the stock and is due by the 15th day of the ninth
month beginning after the month in which the acquisition date
occurs. An agreement for the purchase and sale of stock often
may contain an agreement of the parties to make a section
338(h)(10) election.
Section 338(a) also permits a unilateral election by a
buyer corporation to treat a qualified stock purchase of a
corporation as a deemed asset acquisition, whether or not the
seller of the stock is a corporation (or an S corporation is
the target). In such a case, the seller or sellers recognize
gain or loss on the stock sale (including any estimated taxes
with respect to the stock sale), and the target corporation
recognizes gain or loss on the deemed asset sale.
Section 338(h)(13) provides that, for purposes of section
6655 (relating to additions to tax for failure by a corporation
to pay estimated income tax), tax attributable to a deemed
asset sale under section 338(a)(1) shall not be taken into
account.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment clarifies section 338(h)(13) to
provide that the exception for estimated tax purposes with
respect to tax attributable to a deemed asset sale does not
apply with respect to a qualified stock purchase for which an
election is made under section 338(h)(10).
Under the Senate amendment, if a transaction eligible for
the election under section 338(h)(10) occurs, estimated tax
would be determined based on the stock sale unless and until
there is an agreement of the parties to make a section
338(h)(10) election.
If at the time of the sale there is an agreement of the
parties to make a section 338(h)(10) election, then estimated
tax is computed based on an asset sale. If the agreement to
make a section 338(h)(10) election is concluded after the stock
sale, such that the original computation was based on a stock
sale, estimated tax is recomputed based on the asset sale
election.
No inference is intended as to present law.
Effective date.--The Senate amendment is effective for
transactions that occur after the date of enactment of the
provision.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
14. Limit deduction for charitable contributions of patents and similar
property (sec. 364 of the Senate amendment and sec. 170 of the
Code)
PRESENT LAW
In general, a deduction is permitted for charitable
contributions, subject to certain limitations that depend on
the type of taxpayer, the property contributed, and the donee
organization.\291\ The amount of deduction generally equals the
fair market value of the contributed cash or property on the
date of the contribution.
---------------------------------------------------------------------------
\291\ Charitable deductions are provided for income, estate, and
gift tax purposes. Secs. 170, 2055, and 2522, respectively.
---------------------------------------------------------------------------
For certain contributions of property, the taxpayer is
required to reduce the deduction amount by any gain, generally
resulting in a deduction equal to the taxpayer's basis. This
rule applies to contributions of: (1) property that, at the
time of contribution, would have resulted in short-term capital
gain if the property was sold by the taxpayer on the
contribution date; (2) tangible personal property that is used
by the donee in a manner unrelated to the donee's exempt (or
governmental) purpose; and (3) property to or for the use of a
private foundation (other than a foundation defined in section
170(b)(1)(E)).
Charitable contributions of capital gain property
generally are deductible at fair market value. Capital gain
property means any capital asset or property used in the
taxpayer's trade orbusiness the sale of which at its fair
market value, at the time of contribution, would have resulted in gain
that would have been long-term capital gain. Contributions of capital
gain property are subject to different percentage limitations than
other contributions of property.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision provides that the amount
of the deduction for charitable contributions of patents,
copyrights, trademarks, trade names, trade secrets, know-how,
software, similar property, or applications or registrations of
such property may not exceed the taxpayer's basis in the
contributed property.
The Senate amendment provision provides the Secretary of
the Treasury with the authority to issue regulations or other
guidance to prevent avoidance of the purposes of the provision.
In general, the provision is intended to prevent taxpayers from
claiming a deduction in excess of basis with respect to
charitable contributions of patents or similar property. A
taxpayer would contravene the purposes of the provision, for
example, by engaging in transactions or other activity that
manipulated the basis of the contributed property or changed
the form of the contributed property in order to increase the
amount of the deduction. This might occur, for instance, if a
taxpayer, for the purpose of claiming a larger deduction,
engaged in activity that increased the basis of the contributed
property by using related parties, pass-thru entities, or other
intermediaries or means. The purpose of the provision also
would be abused if a taxpayer changed the form of the property
by, for example, embedding the property into a product,
contributing the product, and claiming a fair market value
deduction based in part on the fair market value of the
embedded property. In such a case, any guidance issued by the
Secretary of the Treasury may provide that the taxpayer is
required to separate the embedded property from the related
product and treat the charitable contribution as contributions
of distinct properties, with each property subject to the
applicable deduction rules.
Effective date.--The Senate amendment provision is
effective for contributions made after May 7, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
15. Extension of provision permitting qualified transfers of excess
pension assets to retiree health accounts (sec. 365 of the
Senate amendment, sec. 420 of the Code, and secs. 101, 403, and
408 of ERISA)
PRESENT LAW
Defined benefit plan assets generally may not revert to
an employer prior to termination of the plan and satisfaction
of all plan liabilities. In addition, a reversion may occur
only if the plan so provides. A reversion prior to plan
termination may constitute a prohibited transaction and may
result in plan disqualification. Any assets that revert to the
employer upon plan termination are includible in the gross
income of the employer and subject to an excise tax. The excise
tax rate is 20 percent if the employer maintains a replacement
plan or makes certain benefit increases in connection with the
termination; if not, the excise tax rate is 50 percent. Upon
plan termination, the accrued benefits of all plan participants
are required to be 100-percent vested.
A pension plan may provide medical benefits to retired
employees through a separate account that is part of such plan.
A qualified transfer of excess assets of a defined benefit plan
to such a separate account within the plan may be made in order
to fund retiree health benefits.\292\ A qualified transfer does
not result in plan disqualification, is not a prohibited
transaction, and is not treated as a reversion. Thus,
transferred assets are not includible in the gross income of
the employer and are not subject to the excise tax on
reversions. No more than one qualified transfer may be made in
any taxable year.
---------------------------------------------------------------------------
\292\ Sec. 420.
---------------------------------------------------------------------------
Excess assets generally means the excess, if any, of the
value of the plan's assets \293\ over the greater of (1) the
plan's full funding limit \294\ or (2) 125 percent of the
plan's current liability. In addition, excess assets
transferred in a qualified transfer may not exceed the amount
reasonably estimated to be the amount that the employer will
pay out of such account during the taxable year of the transfer
for qualified current retiree health liabilities. No deduction
is allowed to the employer for (1) a qualified transfer or (2)
the payment of qualified current retiree health liabilities out
of transferred funds (and any income thereon).
---------------------------------------------------------------------------
\293\ The value of plan assets for this purpose is the lesser of
fair market value or actuarial value.
\294\ A plan's full funding limit is the lesser of (1) for years
beginning before January 1, 2004, the applicable percentage of current
liability and (2) the plan's accrued liability. The applicable
percentage of current liability is 170 percent for 2003. The current
liability full funding limit is repealed for years beginning after
2003. Under the general sunset provision of EGTRRA, the limit is
reinstated for years after 2010.
---------------------------------------------------------------------------
Transferred assets (and any income thereon) must be used
to pay qualified current retiree health liabilities for the
taxable year of the transfer. Transferred amounts generally
must benefit pension plan participants, other than key
employees, who are entitled upon retirement to receiveretiree
medical benefits through the separate account. Retiree health benefits
of key employees may not be paid out of transferred assets.
Amounts not used to pay qualified current retiree health
liabilities for the taxable year of the transfer are to be
returned to the general assets of the plan. These amounts are
not includible in the gross income of the employer, but are
treated as an employer reversion and are subject to the 20-
percent reversion tax.
In order for the transfer to be qualified, accrued
retirement benefits under the pension plan generally must be
100-percent vested as if the plan terminated immediately before
the transfer (or in the case of a participant who separated in
the one-year period ending on the date of the transfer,
immediately before the separation).
In order for a transfer to be qualified, the employer
generally must maintain retiree health benefit costs at the
same level for the taxable year of the transfer and the
following four years.
In addition, the Employee Retirement Income Security Act
of 1974 (``ERISA'') provides that, at least 60 days before the
date of a qualified transfer, the employer must notify the
Secretary of Labor, the Secretary of the Treasury, employee
representatives, and the plan administrator of the transfer,
and the plan administrator must notify each plan participant
and beneficiary of the transfer.\295\
---------------------------------------------------------------------------
\295\ ERISA sec. 101(e). ERISA also provides that a qualified
transfer is not a prohibited transaction under ERISA or a prohibited
reversion.
---------------------------------------------------------------------------
No qualified transfer may be made after December 31,
2005.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment allows qualified transfers of excess
defined benefit plan assets through December 31, 2013.
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
16. Proration rules for life insurance business of property and
casualty insurance companies (sec. 366 of the Senate amendment
and sec. 832 of the Code)
PRESENT LAW
Life insurance company proration rules
A life insurance company is subject to tax on its life
insurance company taxable income (LICTI) (sec. 801). LICTI is
life insurance gross income reduced by life insurance
deductions. For this purpose, a life insurance company includes
in gross income any net decrease in reserves, and deducts a net
increase in reserves. Because deductible reserve increases
might be viewed as being funded proportionately out of taxable
and tax-exempt income, the net increase and net decrease in
reserves are computed by reducing the ending balance of the
reserve items by the policyholders' share of tax-exempt
interest (secs. 807(b)(2)(B) and (b)(1)(B)). Similarly, a life
insurance company is allowed a dividends-received deduction for
intercorporate dividends from nonaffiliates only in proportion
to the company's share of such dividends (secs. 805(a)(4),
812). Fully deductible dividends from affiliates are excluded
from the application of this proration formula, if such
dividends are not themselves distributions from tax-exempt
interest or from dividend income that would not be fully
deductible if received directly by the taxpayer. In addition,
the proration rule includes in prorated amounts the increase
for the taxable year in policy cash values of life insurance
policies and annuity and endowment contracts.
Property and casualty insurance company proration rules
The taxable income of a property and casualty insurance
company is determined as the sum of its underwriting income and
investment income (as well as gains and other income items),
reduced by allowable deductions (sec. 832). Underwriting income
means premiums earned during the taxable year less losses
incurred and expenses incurred. In calculating its reserve for
losses incurred, a property and casualty insurance company must
reduce the amount of losses incurred by 15 percent of (1) the
insurer's tax-exempt interest, (2) the deductible portion of
dividends received (with special rules for dividends from
affiliates), and (3) the increase for the taxable year in the
cash value of life insurance, endowment or annuity contract
(sec. 832(b)(5)(B)).
This 15-percent proration requirement was enacted in
1986. The reason the provision was adopted was Congress' belief
that ``it is not appropriate to fund loss reserves on a fully
deductible basis out of income which may be, in whole or in
part, exempt from tax. The amount of the reserves that is
deductible should be reduced by a portion of such tax-exempt
income to reflect the fact that reserves are generally funded
in part from tax-exempt interest or from wholly or partially
deductible dividends.'' \296\
---------------------------------------------------------------------------
\296\ H.R. Rep. No. 99-426, Report of the Committee on Ways and
Means on H.R. 3838, The Tax Reform Act of 1985 (99th Cong., 1st
Sess.,), 670.
---------------------------------------------------------------------------
Property and casualty insurance companies with life insurance reserves
Present law provides that a life insurance company means
an insurance company engaged in the business of issuing life
insurance, annuity, or noncancellable accident and health
insurance, provided its reserves meet a 50-percent threshhold
for its reserves (sec. 816). More than 50 percent of its
reserves must constitute life insurance reserves or reserves
for noncancellable accident and health policies. An insurance
company that does not meet this 50-percent threshold for
reserves generally is subject to tax as a property and casualty
insurance company. In determining the amount of premiums earned
for purposes of calculating its taxable income, a property and
casualty insurance company includes in unearned premiums the
amount of life insurance reserves determined under the rules
applicable to life insurance companies (secs. 832(b)(4), 807).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision provides that the life
insurance company proration rules, rather than the property and
casualty insurance proration rules, apply with respect to life
insurance reserves of a property and casualty company.
Specifically, the Senate amendment provision provides
that any deduction attributable to life insurance reserves
included in unearned premiums of a property and casualty
company under section 832(b)(4) is reduced in the same manner
as dividends received deductions of a life insurance company
are reduced under the proration rules of section
805(a)(4).\297\ In applying the policyholder's share and the
company's share under this reduction, section 812 applies with
respect to the life insurance business of the property and
casualty company. For purposes of applying section 812(d), only
the gross investment income attributable to the life insurance
reserves referred to in section 832(b)(4) are taken into
account. It is expected that Treasury will provide guidance as
to reasonable methods of attributing gross investment income to
such life insurance reserves.
---------------------------------------------------------------------------
\297\ As under present law, the reserve deduction determined under
section 807 for life insurance reserves included in unearned premiums
is reduced by the policyholder's share of tax-exempt interest and of
the increase in policy cash values (sec. 807 (b)(1)(B)).
---------------------------------------------------------------------------
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
17. Modify treatment of transfers to creditors in divisive
reorganizations (sec. 367 of the Senate amendment and secs. 357
and 361 of the Code)
PRESENT LAW
Section 355 of the Code permits a corporation
(``distributing'') to separate its businesses by distributing a
subsidiary tax-free, if certain conditions are met. In cases
where the distributing corporation contributes property to the
corporation (``controlled') that is to be distributed, no gain
or loss is recognized if the property is contributed solely in
exchange for stock or securities of the controlled corporation
(which are subsequently distributed to distributing's
shareholders). The contribution of property to a controlled
corporation that is followed by a distribution of its stock and
securities may qualify as a reorganization described in section
368(a)(1)(D). That section also applies to certain transactions
that do not involve a distribution under section 355 and that
are considered ``acquisitive'' rather than ``divisive''
reorganizations.
The contribution in the course of a divisive section
368(a)(1)(D) reorganization is also subject to the rules of
section 357(c). That section provides that the transferor
corporation will recognize gain if the amount of liabilities
assumed by controlled exceeds the basis of the property
transferred to it.
Because the contribution transaction in connection with a
section 355 distribution is a reorganization under section
368(a)(1)(D), it is also subject to certain rules applicable to
both divisive and acquisitive reorganizations. One such rule,
in section 361(b), states that a transferor corporation will
not recognize gain if it receives money or other property and
distributes that money or other property to its shareholders or
creditors. The amount of property that may be distributed to
creditors without gain recognition is unlimited under this
provision.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment limits the amount of money or other
property that a distributing corporation can distribute to its
creditors without gain recognition under section 361(b) to the
amount of the basis of the assets contributed to a controlled
corporation in a divisive reorganization. In addition, the
Senate amendment provides that acquisitive reorganizations
under section 368(a)(1)(D) are no longer subject to the
liabilities assumption rules of section 357(c).
Effective date.--The Senate amendment provision is
effective for transactions on or after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
18. Taxation of minor children (sec. 368 of the Senate amendment and
sec. 1 of the Code)
PRESENT LAW
Filing requirements for children
Single unmarried individuals eligible to be claimed as a
dependent on another taxpayer's return generally must file an
individual income tax return if he or she has (1) earned income
only over $4,750 (for 2003), (2) unearned income only over the
minimum standard deduction amount for dependents ($750 in
2003), or (3) both earned income and unearned income totaling
more than the smaller of (a) $4,750 (for 2003) or (b) the
larger of (i) $750 (for 2003), or (ii) earned income plus
$250.\298\ Thus, if a dependent child has less than $750 in
gross income, the child does not have to file an individual
income tax return for 2003.
---------------------------------------------------------------------------
\298\ Sec. 6012(a)(1)(C). Other filing requirements apply to
dependents who are married, elderly, or blind. See, Internal Revenue
Service, Publication 929, Tax Rules for Children and Dependents, at 3,
Table 1 (2002).
---------------------------------------------------------------------------
A child who cannot be claimed as a dependent on another
person's tax return (e.g., because the support test is not
satisfied by any other person) is subject to the generally
applicable filing requirements. That is, such an individual
generally must file a return if the individual's gross income
exceeds the sum of the standard deduction and the personal
exemption amounts applicable to the individual.
Taxation of unearned income of minor children
Special rules apply to the unearned income of a child
under age 14. These rules, generally referred to as the
``kiddie tax,'' tax certain unearned income of a child at the
parent's rate, regardless of whether the child can be claimed
as a dependent on the parent's return.\299\ The kiddie tax
applies if: (1) the child has not reached the age of 14 by the
close of the taxable year, (2) the child's investment income
was more than $1,500 (for 2003) and (3) the child is required
to file a return for the year. The kiddie tax applies
regardless of the source of the property generating the income
or when the property giving rise to the income was transferred
to or otherwise acquired by the child. Thus, for example, the
kiddie tax may apply to income from property acquired by the
child with compensation derived from the child's personal
services or from property given to the child by someone other
than the child's parent.
---------------------------------------------------------------------------
\299\ Sec. 1(g).
---------------------------------------------------------------------------
The kiddie tax is calculated by computing the ``allocable
parental tax.'' This involves adding the net unearned income of
the child to the parent's income and then applying the parent's
tax rate. A child's ``net unearned income'' is the child's
unearned income less the sum of (1) the minimum standard
deduction allowed to dependents ($750 for 2003), and (2) the
greater of (a) such minimum standard deduction amount or (b)
the amount of allowable itemized deductions that are directly
connected with the production of the unearned income.\300\ A
child's net unearned income cannot exceed the child's taxable
income.
---------------------------------------------------------------------------
\300\ Sec. 1(g)(4).
---------------------------------------------------------------------------
The allocable parental tax equals the hypothetical
increase in tax to the parent that results from adding the
child's net unearned income to the parent's taxable income. If
a parent has more than one child subject to the kiddie tax, the
net unearned income of all children is combined, and a single
kiddie tax is calculated. Each child is then allocated a
proportionate share of the hypothetical increase.
If the parents file a joint return, the allocable
parental tax is calculated using the income reported on the
joint return. In the case of parents who are married but file
separate returns, the allocable parental tax is calculated
using the income of the parent with the greater amount of
taxable income. In the case of unmarried parents, the child's
custodial parent is the parent whose taxable income is taken
into account in determining the child's liability. If the
custodial parent has remarried, the stepparent is treated as
the child's other parent. Thus, if the custodial parent and
stepparent file a joint return, the kiddie tax is calculated
using that joint return. If the custodial parent and stepparent
file separate returns, the return of the one with the greater
taxable income is used. If the parents are unmarried but lived
together all year, the return of the parent with the greater
taxable income is used.\301\
---------------------------------------------------------------------------
\301\ Sec. 1(g)(5); Internal Revenue Service, Publication 929, Tax
Rules for Children and Dependents, at 6 (2002).
---------------------------------------------------------------------------
Unless the parent elects to include the child's income on
the parent's return (as described below) the child files a
separate return. In this case, items on the parent's return are
not affected by the child's income. The total tax due from a
child is the greater of:
(1) the sum of (a) the tax payable by the child on
the child's earned income plus (b) the allocable
parental tax or;
(2) the tax on the child's income without regard to
the kiddie tax provisions.
Parental election to include child's unearned income
Under certain circumstances, a parent may elect to report
a child's unearned income on the parent's return. If the
election is made, the child is treated as having no income for
the year and the child does not have to file a return. The
requirements for the election are that:
(1) the child has gross income only from interest
and dividends (including capital gains distributions
and Alaska Permanent Fund Dividends); \302\
---------------------------------------------------------------------------
\302\ Internal Revenue Service, Publication 929, Tax Rules for
children and Dependents, at 7 (2002).
---------------------------------------------------------------------------
(2) such income is more than the minimum standard
deduction amount for dependents ($750 in 2003) and less
than 10 times that amount;
(3) no estimated tax payments for the year were
made in the child's name and taxpayer identification
number;
(4) no backup withholding occurred; and
(5) the child is required to file a return if the
parent does not make the election.
Only the parent whose return must be used when
calculating the kiddie tax may make the election. The parent
includes in income the child's gross income in excess of twice
the minimum standard deduction amount for dependents (i.e., the
child's gross income in excess of $1,500 for 2003). This amount
is taxed at the parent's rate. The parent also must report an
additional tax liability equal to the lesser of: (1) $75 (in
2003), or (2) 10 percent of the child's gross income exceeding
the child's standard deduction ($750 in 2003).
Including the child's income on the parent's return can
affect the parent's deductions and credits that are based on
adjusted gross income, as well as income-based phaseouts,
limitations, and floors.\303\ In addition, certain deductions
that the child would have been entitled to take on his or her
own return are lost.\304\ Further, if the child received tax-
exempt interest from a private activity bond, that item is
considered a tax preference of the parent for alternative
minimum tax purposes.\305\
---------------------------------------------------------------------------
\303\ Internal Revenue Service, Publication 929, Tax Rules for
Children and Dependents, at 8 (2002).
\304\ Internal Revenue Service, Publication 929, Tax Rules for
Children and Dependents, at 7 (2002).
\305\ Sec. 1(g)(7)(B).
---------------------------------------------------------------------------
Taxation of child's compensation for services
Compensation for a child's services, even though not
retained by the child, is considered the gross income of the
child, not the parent, even if the compensation is not received
by the child (e.g. is the parent's income under local
law).\306\ If the child's income tax is not paid, however, an
assessment against the child will be considered as also made
against the parent to the extent the assessment is attributable
to amounts received for the child's services.\307\
---------------------------------------------------------------------------
\306\ Sec. 73(a).
\307\ Sec. 6201(c).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision increases the age of
minors to which the kiddie tax provisions apply from under 14
to under 18.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
19. Provide consistent amortization period for intangibles (sec. 369 of
the Senate amendment and secs. 195, 248, and 709 of the Code)
PRESENT LAW
At the election of the taxpayer, start-up
expenditures\308\ and organizational expenditures\309\ may be
amortized over a period of not less than 60 months, beginning
with the month in which the trade or business begins. Start-up
expenditures are amounts that would have been deductible as
trade or business expenses, had they not been paid or incurred
before business began. Organizational expenditures are
expenditures that are incident to the creation of a corporation
(sec. 248) or the organization of a partnership (sec. 709), are
chargeable to capital, and that would be eligible for
amortization had they been paid or incurred in connection with
the organization of a corporation or partnership with a limited
or ascertainable life.
---------------------------------------------------------------------------
\308\ Sec. 195
\309\ Secs. 248 and 709.
---------------------------------------------------------------------------
Treasury regulations\310\ require that a taxpayer file an
election to amortize start-up expenditures no later than the
due date for the taxable year in which the trade or business
begins. The election must describe the trade or business,
indicate the period of amortization (not less than 60 months),
describe each start-up expenditure incurred, and indicate the
month in which the trade or business began. Similar
requirements apply to the election to amortize organizational
expenditures. A revised statement may be filed to include
start-up and organizational expenditures that were not included
on the original statement, but a taxpayer may not include as a
start-up expenditure any amount that was previously claimed as
a deduction.
---------------------------------------------------------------------------
\310\ Treas. Reg. sec. 1.195-1.
---------------------------------------------------------------------------
Section 197 requires most acquired intangible assets
(such as goodwill, trademarks, franchises, and patents) that
are held in connection with the conduct of a trade or business
or an activity for the production of income to be amortized
over 15 years beginning with the month in which the intangible
was acquired.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment modifies the treatment of start-up
and organizational expeditures. A taxpayer would be allowed to
elect to deduct up to $5,000 each of start-up and
organizational expenditures in the taxable year in which the
trade or business begins. However, each $5,000 amount is
reduced (but not below zero) by the amount by which the
cumulative cost of start-up or organizational expenditures
exceeds $50,000, respectively. Start-up and organizational
expenditures that are not deductible in the year in which the
trade or business begins would be amortized over a 15-year
period consistent with the amortization period for section 197
intangibles.
Effective date.--The Senate amendment provision is
effective for start-up and organizational expenditures incurred
after the date of enactment. Start-up and organizational
expenditures that are incurred on or before the date of
enactment would continue to be eligible to be amortized over a
period not to exceed 60 months. However, all start-up and
organizational expenditures related to a particular trade or
business, whether incurred before or after the date of
enactment, would be considered in determining whether the
cumulative cost of start-up or organizational expenditures
exceeds $50,000.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
20. Clarify definition of nonqualified preferred stock (sec. 370 of the
Senate amendment and sec. 351 of the Code)
PRESENT LAW
The Taxpayer Relief Act of 1997 amended sections 351,
354, 355, 356, and 1036 to treat ``nonqualified preferred
stock'' as boot in corporate transactions, subject to certain
exceptions. For this purpose, preferred stock is defined as
stock that is ``limited and preferred as to dividends and does
not participate in corporate growth to any significant
extent.'' Nonqualified preferred stock is defined as any
preferred stock if (1) the holder has the right to require the
issuer or a related person to redeem or purchase the stock, (2)
the issuer or a related person is required to redeem or
purchase, (3) the issuer or a related person has the right to
redeem or repurchase, and, as of the issue date, it is more
likely than nor that such right will be exercised, or (4) the
dividend rate varies in whole or in part (directly or
indirectly) with reference to interest rates, commodity prices,
or similar indices, regardless of whether such varying rate is
provided as an express term of the stock (as in the case of an
adjustable rate stock) or as a practical result of other
aspects of the stock (as in the case of auction stock). For
this purpose, clauses (1), (2), and (3) apply if the right or
obligation may be exercised within 20 years of the issue date
and is not subject to a contingency which, as of the issue
date, makes remote the likelihood of the redemption or
purchase.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision clarifies the definition
of nonqualified preferred stock to ensure that stock for which
there is not a real and meaningful likelihood of actually
participating in the earnings and profits of the corporation is
not considered to be outside the definition of stock that is
limited and preferred as to dividends and does not participate
in corporate growth to any significant extent.
As one example, instruments that are preferred on
liquidation and that are entitled to the same dividends as may
be declared on common stock do not escape being nonqualified
preferred stock by reason of that right if the corporation does
not in fact pay dividends either to its common or preferred
stockholders. As another example, stock that entitles the
holder to a dividend that is the greater of 7 percent or the
dividends common shareholders receive does not avoid being
preferred stock if the common shareholders are not expected to
receive dividends greater than 7 percent.
No inference is intended as to the characterization of
stock under present law that has terms providing for unlimited
dividends or participation rights but, based on all the facts
and circumstances, is limited and preferred as to dividends and
does not participate in corporate growth to any significant
extent.
Effective date.--The Senate amendment provision is
effective for transactions after May 14, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
21. Establish specific class lives for utility grading costs (sec. 371
of the Senate amendment and sec. 168 of the Code)
PRESENT LAW
A taxpayer is allowed a depreciation deduction for the
exhaustion, wear and tear, and obsolescence of property that is
used in a trade or business or held for the production of
income. For most tangible property placed in service after
1986, the amount of the depreciation deduction is determined
under the modified accelerated cost recovery system (MACRS)
using a statutorily prescribed depreciation method, recovery
period, and placed in service convention. For some assets, the
recovery period for the asset is provided in section 168. In
other cases, the recovery period of an asset is determined by
reference to its class life. The class lives of assets placed
in service after 1986 are generally set forth in Revenue
Procedure 87-56.\311\ If no class life is provided, the asset
is allowed a 7-year recovery period under MACRS.
---------------------------------------------------------------------------
\311\ 1987-2 C.B. 674 (as clarified and modified by Rev. Proc. 88-
22, 1988-1 C.B. 785).
---------------------------------------------------------------------------
Assets that are used in the transmission and distribution
of electricity for sale are included in asset class 49.14, with
a class life of 30 years and a MACRS recovery period of 20
years. The cost of initially clearing and grading land
improvements are specifically excluded from asset class 49.14.
Prior to adoption of the accelerated cost recovery system, the
IRS ruled that an average useful life of 84 years for the
initial clearing and grading relating to electric transmission
lines and 46 years for the initial clearing and grading
relating to electric distribution lines, would be accepted.
However, the result in this ruling was not incorporated in the
asset classes included in Rev. Proc. 87-56 or its predecessors.
Accordingly such costs are depreciated over a 7-year recovery
period under MACRS as assets for which no class life is
provided.
A similar situation exists with regard to gas utility
trunk pipelines and related storage facilities. Such assets are
included in asset class 49.24, with a class life of 22 years
and a MACRS recovery period of 15 years. Initial clearing and
grade improvements are specifically excluded from the asset
class, and no separate asset class is provided for such costs.
Accordingly, such costs are depreciated over a 7-year recovery
period under MACRS as assets for which no class life is
provided.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment assigns a class life to depreciable
electric and gas utility clearing and grading costs incurred to
locate transmission and distribution lines and pipelines. The
provision includes these assets in the asset classes of the
property to which the clearing and grading costs relate
(generally, asset class 49.14 for electric utilities and asset
class 49.24 for gas utilities, giving these assets a recovery
period of 20 years and 15 years, respectively).
Effective date.--The Senate amendment provision is
effective for electric and gas utility clearing and grading
costs incurred after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
22. Prohibition on nonrecognition of gain through complete liquidation
of holding company (sec. 372 of the Senate amendment and secs.
331 and 332 of the Code)
PRESENT LAW
A U.S. corporation owned by foreign persons is subject to
U.S. income tax on its net income. In addition, the earnings of
the U.S. corporation are subject to a second tax, when
dividends are paid to the corporation's shareholders.
In general, dividends paid by a U.S. corporation to
nonresident alien individuals and foreign corporations that are
not effectively connected with a U.S. trade or business are
subject to a U.S. withholding tax on the gross amount of such
income at a rate of 30 percent. The 30-percent withholding tax
may be reduced pursuant to an income tax treaty between the
United States and the foreign country where the foreign person
is resident.
In addition, the United States imposes a branch profits
tax on U.S. earnings of a foreign corporation that are shifted
out of a U.S. branch of the foreign corporation. The branch
profits tax is comparable to the second-level taxes imposed on
dividends paid by a U.S. corporation to foreign shareholders.
The branch profits tax is 30 percent (subject to possible
income tax treaty reduction) of a foreign corporation's
dividend equivalent amount. The ``dividend equivalent amount''
generally is the earnings and profits of a U.S. branch of a
foreign corporation attributable to its income effectively
connected with a U.S. trade or business.
In general, U.S. withholding tax is not imposed with
respect to a distribution of a U.S. corporation's earnings to a
foreign corporation in complete liquidation of the subsidiary,
because the distribution is treated as made in exchange for
stock and not as a dividend. In addition, detailed rules apply
for purposes of exempting foreign corporations from the branch
profits tax for the year in which it completely terminates its
U.S. business conducted in branch form. The exemption from the
branch profits tax generally applies if, among other things,
for three years after the termination of the U.S. branch, the
foreign corporation has no income effectively connected with a
U.S. trade or business, and the U.S. assets of the terminated
branch are not used by the foreign corporation or a related
corporation in a U.S. trade or business.
Regulations under section 367(e) provide that the
Commissioner may require a domestic liquidating corporation to
recognize gain on distributions in liquidation made to a
foreign corporation if a principal purpose of the liquidation
is the avoidance of U.S. tax. Avoidance of U.S. tax for this
purpose includes, but is not limited to, the distribution of a
liquidating corporation's earnings and profits with a principal
purpose of avoiding U.S. tax.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment generally would treat as a dividend
any distribution of earnings by a U.S. holding company to a
foreign corporation in a complete liquidation, if the U.S.
holding company was in existence for less than five years
Effective date.--The Senate amendment would be effective
for liquidations and terminations occurring on or after the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
23. Lease term to include certain service contracts (sec. 373 of the
Senate amendment and sec. 168 of the Code)
PRESENT LAW
Under present law, ``tax-exempt use property'' must be
depreciated on a straight-line basis over a recovery period
equal to the longer of the property's class life or 125 percent
of the lease term.\312\ For purposes of this rule, ``tax-exempt
use property'' is property that is leased (other than under a
short-term lease) to a tax-exempt entity.\313\ For this
purpose, the term ``tax-exempt entity'' includes Federal, state
and local governmental units, charities, and, foreign entities
or persons.\314\
---------------------------------------------------------------------------
\312\ Sec. 168(g)(3)(A).
\313\ Sec. 168(h)(1).
\314\ Sec. 168(h)(2).
---------------------------------------------------------------------------
In determining the length of the lease term for purposes
of the 125 percent calculation, a number of special rules
apply. In addition to the stated term of the lease, the lease
term includes: (1) any additional period of time in the
realistic contemplation of the parties at the time the property
is first put in service; (2) any additional period of time for
which either the lessor or lessee has the option to renew the
lease (whether or not it is expected that the option will be
exercised); (3) any additional period of any successive leases
which are part of the same transaction (or series of related
transactions) with respect to the same or substantially similar
property; and (4) any additional period of time (even if the
lessee may not continue to be the lessee during that period),
if the lessee (a) has agreed to make a payment in the nature of
rent with respect to such period or (b) has assumed or retained
any risk of loss with respect to such property for such period.
Tax-exempt use property does not include property that is
used by a taxpayer to provide a service to a tax-exempt entity.
So long as the relationship between the parties is a bona fide
service contract, the taxpayer will be allowed to depreciate
the property used in satisfying the contract under normal MACRS
rules, rather than the rules applicable to tax-exempt use
property.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment requires lessors of tax-exempt use
property to include the term of optional service contracts and
other similar arrangements in the lease term for purposes of
determining the recovery period.
Effective date.--The Senate amendment provision is
effective for leases and other similar arrangements entered
into after the date of enactment. No inference is intended with
respect to the tax treatment of leases and other similar
arrangements entered into before such date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
24. Exclusion of like-kind exchange property from nonrecognition
treatment on the sale or exchange of a principal residence
(sec. 374 of the Senate amendment and sec. 121 of the Code)
PRESENT LAW
Under present law, a taxpayer may 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.\315\ To be
eligible for the exclusion, the taxpayer must have owned and
used the residence 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, to the extent provided under
regulations, unforeseen circumstances is able to exclude an
amount equal to the fraction of the $250,000 ($500,000 if
married filing a joint return) that is equal to the fraction of
the two years that the ownership and use requirements are met.
There are no special rules relating to the sale or exchange of
a principal residence that was acquired in a like-kind exchange
within the prior five years.
---------------------------------------------------------------------------
\315\ Sec. 121.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides that the exclusion for gain
on the sale or exchange of a principal residence does not apply
if the principal residence was acquired in a like-kind exchange
in which any gain was not recognized within the prior five
years.
Effective date.--The Senate amendment provision is
effective for sales or exchanges of principal residences after
the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
F. Other Provisions
1. Temporary State and local fiscal relief (sec. 381 of the Senate
amendment)
PRESENT LAW
No provision.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends relief to States by
establishing a temporary fund to provide $10 billion, divided
among State and local governments, to be used for health care,
education or job training; transportation or infrastructure;
law enforcement or public safety; and other essential
governmental services, and $10 billion for Medicaid (FMAP).
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement provides relief to States by
establishing a temporary fund to provide $10 billion divided
among the States to be used for essential government services,
and $10 billion for Medicaid (FMAP). Nothing in this subsection
shall be construed to preclude consideration of reforms to
improve the Medicaid program.
Effective date.--The Senate amendment provision is
effective on the date of enactment.
2. Review of State agency blindness and disability determinations (sec.
382 of the Senate amendment)
PRESENT LAW
State agencies are required to conduct blindness and
disability determinations to establish an individual's
eligibility for: (1) Title II (Federal Old-Age, Survivors, and
Disability Insurance (OASDI) benefits); and (2) Title XVI
(Supplemental Security Income (SSI)). Disability determinations
are made in accordance with disability criteria defined in
statute as well as standards promulgated under regulations or
other guidance.
Under present law, the Commissioner of Social Security is
required to review the State agencies' Title II initial
blindness and disability determinations in advance of awarding
payment to individuals determined eligible. This requirement
for review is met when: (1) at least 50 percent of all such
determinations have been reviewed, or (2) other such
determinations have been reviewed as necessary to ensure a high
level of accuracy. Under present law, there is no similar
review for Title XVI.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the initial review
requirements for Title XVI SSI blindness and disability
determinations with those currently required under Title II.
Effective date.--The Senate amendment provision is
effective on October 1, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Prohibition on use of SCHIP funds to provide coverage for childless
adults (sec. 383 of the Senate amendment)
PRESENT LAW
Title XXI of the Social Security Act provides states with
allocations to provide health insurance for children through
State Children Health Insurance Program (SCHIP). In this
statute, Congress specified that SCHIP allocations could only
be used ``to enable [States] to initiate and expand the
provision of child health assistance to uninsured, low-income
children in an effective and efficient manner.'' \316\
---------------------------------------------------------------------------
\316\ Social Security Act section 2101(a).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment clarifies that SCHIP funds cannot be
used for childless adults.
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Increase Medicaid payments to states with extremely low
disproportionate share hospitals (sec. 384 of the Senate
amendment)
PRESENT LAW
Since 1981, States have been required to recognize, in
establishing their Medicaid payment rates, the situation of
hospitals that serve a disproportionate number of Medicaid
beneficiaries and low-income patients. These hospitals are
known as Disproportionate Share Hospitals (``DSH''). In States
defined as extremely low DSH States, DSH payments are
statutorily capped at one percent.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment increases the one percent cap on
Medicaid payments to States defined as extremely low DSH
States. The amendment increases that cap to three percent for
fiscal year 2004. Twenty states benefit from this provision.
Effective date.--The Senate amendment provision is
effective on the date of enactment for payments made in fiscal
year 2004.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
VI. Small Business and Agricultural Provisions
A. Small Business Provisions
1. Exclusion of certain indebtedness of small business investment
companies from acquisition indebtedness (sec. 401 of the bill
and sec. 514 of the Code)
PRESENT LAW
In general, an organization that is otherwise exempt from
Federal income tax is taxed on income from a trade or business
that is unrelated to the organization's exempt purposes.
Certain types of income, such as rents, royalties, dividends,
and interest, generally are excluded from unrelated business
taxable income except when such income is derived from ``debt-
financed property.'' Debt-financed property generally means any
property that is held to produce income and with respect to
which there is acquisition indebtedness at any time during the
taxable year.
In general, income of a tax-exempt organization that is
produced by debt-financed property is treated as unrelated
business income in proportion to the acquisition indebtedness
on the income-producing property. Acquisition indebtedness
generally means the amount of unpaid indebtedness incurred by
an organization to acquire or improve the property and
indebtedness that would not have been incurred but for the
acquisition or improvement of the property.\317\ Acquisition
indebtedness does not include, however, (1) certain
indebtedness incurred in the performance or exercise of a
purpose or function constituting the basis of the
organization's exemption, (2) obligations to pay certain types
of annuities, (3) an obligation, to the extent it is insured by
the Federal Housing Administration, to finance the purchase,
rehabilitation, or construction of housing for low and moderate
income persons, or (4) indebtedness incurred by certain
qualified organizations to acquire or improve real property. An
extension, renewal, or refinancing of an obligation evidencing
a pre-existing indebtedness is not treated as the creation of a
new indebtedness.
---------------------------------------------------------------------------
\317\ Special rules apply in the case of an exempt organization
that owns a partnership interest in a partnership that holds debt-
financed income-producing property. An exempt organization's share of
partnership income that is derived from such debt-financed property
generally is taxed as debt-financed income unless an exception provides
otherwise.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision modifies the debt-financed
property provisions by excluding from the definition of
acquisition indebtedness any indebtedness incurred by a small
business investment company licensed under the Small Business
Investment Act of 1958 that is evidenced by a debenture (1)
issued by such company under section 303(a) of said Act, or (2)
held or guaranteed by the Small Business Administration.
Effective date.--The Senate amendment provision applies
to debt incurred after December 31, 2002, by a small business
investment company described in the provision, with respect to
property acquired by such company after such date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Repeal of occupational taxes relating to distilled spirits, wine,
and beer (sec. 402 of the Senate amendment and secs. 5081,
5091, 5111, 5121, 5131, and 5276 of the Code)
PRESENT LAW
Under present law, special occupational taxes are imposed
on producers and others engaged in the marketing of distilled
spirits, wine, and beer. These excise taxes are imposed as part
of a broader Federal tax and regulatory engine governing the
production and marketing of alcoholic beverages. The special
occupational taxes are payable annually, on July 1 of each
year. The present tax rates are as follows:
Producers \318\:
---------------------------------------------------------------------------
\318\ A reduced rate of tax in the amount of $500.00 is imposed on
small proprietors (secs. 5081(b) and 5091(b)).
---------------------------------------------------------------------------
Distilled spirits and wines (sec. 5081)--$1,000 per year,
per premise.
Brewers (sec. 5091)--$1,000 per year, per premise.
Wholesale dealers (sec. 5111): Liquors, wines, or beer--$500
per year.
Retail dealers (sec. 5121): Liquors, wines, or beer--$250 per
year.
Nonbeverage use of distilled spirits (sec. 5131)--$500 per
year.
Industrial use of distilled spirits (sec. 5276)--$250 per year.
HOUSE BILL
No provision.
SENATE AMENDMENT
The special occupational taxes on producers and marketers
of alcoholic beverages are repealed. The recordkeeping and
inspection authorities applicable to wholesalers and retailers
are retained. For purposes of the recordkeeping requirements
for wholesale and retail liquordealers, the provision provides
a rebuttable presumption that a person who sells, or offers for sale,
distilled spirits, wine, or beer, in quantities of 20 wine gallons or
more to the same person at the same time is engaged in the business of
a wholesale dealer in liquors or a wholesale dealer in beer. In
addition, the provision retains present-law in that it continues to
make it unlawful for any liquor dealer to purchase distilled spirits
for resale from any person other than a wholesale liquor dealer subject
to the recordkeeping requirements. Existing general criminal penalties
relating to records and reports apply to wholesalers and retailers who
fail to comply with these requirements.
Effective date.--The Senate amendment provision is
effective on July 1, 2003. The provision does not affect
liability for taxes imposed with respect to periods before July
1, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Custom gunsmiths (sec. 403 of the Senate amendment and sec. 4182 of
the Code)
PRESENT LAW
The Code imposes an excise tax upon the sale by the
manufacturer, producer or importer of certain firearms and
ammunition (sec. 4181). Pistols and revolvers are taxable at 10
percent. Firearms (other than pistols and revolvers), shells,
and cartridges are taxable at 11 percent. The excise tax for
firearms imposed on manufacturers, producers, and importers
does not apply to machine guns and short barreled firearms
(sec. 4182(a)). Sales of firearms, pistols, revolvers, shells
and cartridges to the Department of Defense also are exempt
from the tax (sec. 4182(b)).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment exempts from the firearms excise tax
articles manufactured, produced, or imported by a person who
manufactures, produces, and imports less than 50 of such
articles during the calendar year. Controlled groups are
treated as a single person in determining the 50-article limit.
Effective date.--The Senate amendment provision is
effective for articles sold by the manufacturer, producer, or
importer on or before the date the first day of the month
beginning at least two weeks after the date of enactment. No
inference is intended from the prospective effective date of
this provision as to the proper treatment of pre-effective date
sales.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Simplification of excise tax imposed on bows and arrows (sec. 404 of
the Senate amendment and sec. 4161 of the Code)
PRESENT LAW
The Code imposes an excise tax of 11 percent on the sale
by a manufacturer, producer or importer of any bow with a draw
rate of 10 pounds or more (sec. 4161(b)(1)(A)). An excise tax
of 12.4 percent is imposed on the sale by a manufacturer or
importer of any shaft, point, nock, or vane designed for use as
part of an arrow which after its assembly (1) is over 18 inches
long, or (2) is designed for use with a taxable bow (if shorter
than 18 inches) (sec. 4161(b)(2)). No tax is imposed on
finished arrows. An 11-percent excise tax also is imposed on
any part of an accessory for taxable bows and on quivers for
use with arrows (1) over 18 inches long or (2) designed for use
with a taxable bow (if shorter than 18 inches) (sec.
4161(b)(1)(B)).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment increases the minimum draw weight
for a taxable bow from 10 pounds to 30 pounds. The Senate
amendment also imposes an excise tax of 12 percent on arrows
generally. An arrow for this purpose is defined as an arrow
shaft to which additional components are attached. The present
law 12.4-percent excise tax on certain arrow components is
unchanged by the provision. The Senate amendment provides that
the 12-percent excise tax on arrows does not apply if the arrow
contains an arrow shaft that was subject to the tax on arrow
components. Finally, the Senate amendment subjects certain
broadheads (a type of arrow point) to an excise tax equal to 11
percent of the sales price instead of 12.4 percent.
Effective date.--The Senate amendment provision is
effective on the date of enactment for articles sold by the
manufacturer, producer, or importer.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
B. Agricultural Provisions
1. Capital gains treatment to apply to outright sales of timber by
landowner (sec. 411 of the Senate Amendment and sec. 631 of the
Code)
PRESENT LAW
Under present law, a taxpayer disposing of timber held
for more than one year is eligible for capital gains treatment
in three situations. First, if the taxpayer sells or exchanges
timber that is a capital asset (sec. 1221) or property used in
the trade or business (sec. 1231), the gain generally is long-
term capital gain; however, if the timber is held for sale to
customers in the taxpayer's business, the gain will be ordinary
income. Second, if the taxpayer disposes of the timber with a
retained economic interest, the gain is eligible for capital
gain treatment (sec. 631(b)). Third, if the taxpayer cuts
standing timber, the taxpayer may elect to treat the cutting as
a sale or exchange eligible for capital gains treatment (sec.
631(a)).
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, in the case of a sale of
timber by the owner of the land from which the timber is cut,
the requirement that a taxpayer retain an economic interest in
the timber in order to treat gains as capital gain under
section 631(b) does not apply. Outright sales of timber by the
landowner will qualify for capital gains treatment in the same
manner as sales with a retained economic interest qualify under
present law, except that the usual tax rules relating to the
timing of the income from the sale of the timber will apply
(rather than the special rule of section 631(b) treating the
disposal as occurring on the date the timber is cut).
Effective date.--The Senate amendment provision is
effective for sales of timber after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not contain the provision
in the Senate amendment.
2. Special rules for livestock sold on account of weather-related
conditions (sec. 412 of the Senate amendment and secs. 1033 and
451 of the Code)
PRESENT LAW
A taxpayer generally recognizes gain on the sale of
property to the extent the sales price (and any other
consideration received) exceeds the seller's basis in the
property. The recognized gain is subject to current income tax
unless the gain is deferred or not recognized under a special
tax provision.
Under section 1033, gain realized by a taxpayer from an
involuntary conversion of property is deferred to the extent
the taxpayer purchases property similar or related in service
or use to the converted property within the applicable period.
The taxpayer's basis in the replacement property generally is
the same as the taxpayer's basis in the converted property,
decreased by the amount of any money or loss recognized on the
conversion, and increased by the amount of any gain recognized
on the conversion.
The applicable period for the taxpayer to replace the
converted property begins with the date of the disposition of
the converted property (or if earlier, the earliest date of the
threat or imminence of requisition or condemnation of the
converted property) and ends two years after the close of the
first taxable year in which any part of the gain upon
conversion is realized (the ``replacement period''). Special
rules extend the replacement period for certain real property
and principal residences damaged by a Presidentially declared
disaster to three years and four years, respectively, after the
close of the first taxable year in which gain is realized.
Section 1033(e) provides that the sale of livestock
(other than poultry) that is held for draft, breeding, or dairy
purposes in excess of the number of livestock that would have
been sold but for drought, flood, or other weather-related
conditions is treated as an involuntary conversion.
Consequently, gain from the sale of such livestock could be
deferred by reinvesting the proceeds of the sale in similar
property within a two-year period.
In general, cash-method taxpayers report income in the
year it is actually or constructively received. However,
section 451(e) provides that a cash-method taxpayer whose
principal trade or business is farming who is forced to sell
livestock due to drought, flood, or other weather-related
conditions may elect to include income from the sale of the
livestock in the taxable year following the taxable year of the
sale. This elective deferral of income is available only if the
taxpayer establishes that, under the taxpayer's usual business
practices, the sale would not have occurred but for drought,
flood, or weather-related conditions that resulted in the area
being designated as eligible for Federal assistance. This
exception is generally intended to put taxpayers who receive an
unusually high amount of income in one year in the position
they would have been in absent the weather-related condition.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the applicable period for a
taxpayer to replace livestock sold on account of drought,
flood, or other weather-related conditions from two years to
four years after the close of the first taxable year in which
any part of the gain on conversion is realized. The extension
is only available if the taxpayer establishes that, under the
taxpayer's usual business practices, the sale would not have
occurred but for drought, flood, or weather-related conditions
that resulted in the area being designated as eligible for
Federal assistance. In addition, the Secretary of the Treasury
is granted authority to further extend the replacement period
on a regional basis should the weather-related conditions
continue longer than three years. For property eligible for the
provision's extended replacement period, the provision provides
thatthe taxpayer can make an election under section 451(e)
until the period for reinvestment of such property under section 1033
expires.
Effective date.--The Senate amendment provision is
effective for any taxable year with respect to which the due
date (without regard to extensions) for the return is after
December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Exclusion from gross income for amounts paid under National Health
Service Corps loan repayment program (sec. 413 of the Senate
amendment and sec. 108 of the Code)
PRESENT LAW
The National Health Service Corps Loan Repayment Program
(the ``NHSC Loan Repayment Program'') provides loan repayments
to participants on condition that the participants provide
certain services. In the case of the NHSC Loan Repayment
Program, the recipient of the loan repayment is obligated to
provide medical services in a geographic area identified by the
Public Health Service as having a shortage of health-care
professionals. Loan repayments may be as much as $35,000 per
year of service plus a tax assistance payment of 39 percent of
the repayment amount.
Generally, gross income means all income from whatever
source derived including income for the discharge of
indebtedness. However, gross income does not include discharge
of indebtedness income if: (1) the discharge occurs in a Title
11 case; (2) the discharge occurs when the taxpayer is
insolvent; (3) the indebtedness discharged is qualified farm
indebtedness; or (4) except in the case of a C corporation, the
indebtedness discharged is qualified real property business
indebtedness.
Because the loan repayments provided under the NHSC Loan
Repayment Program are not specifically excluded from gross
income, they are gross income to the recipient.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision excludes from gross income
loan repayments provided under the NHSC Loan Repayment Program.
Effective date.--The Senate amendment provision is
effective with respect to amounts received by an individual in
taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The Conference agreement does not include the Senate
amendment provision.
4. Payment of dividends on stock of cooperatives without reducing
patronage dividends (sec. 414 of the Senate amendment and sec.
1388 of the Code)
PRESENT LAW
Under present law, cooperatives generally are entitled to
deduct or exclude amounts distributed as patronage dividends in
accordance with Subchapter T of the Code. In general, patronage
dividends are comprised of amounts that are paid to patrons (1)
on the basis of the quantity or value of business done with or
for patrons, (2) under a valid and enforceable obligation to
pay such amounts that was in existence before the cooperative
received the amounts paid, and (3) which are determined by
reference to the net earnings of the cooperative from business
done with or for patrons.
Treasury Regulations provide that net earnings are
reduced by dividends paid on capital stock or other proprietary
capital interests (referred to as the ``dividend allocation
rule'').\319\ The dividend allocation rule has been interpreted
to require that such dividends be allocated between a
cooperative's patronage and nonpatronage operations, with the
amount allocated to the patronage operations reducing the net
earnings available for the payment of patronage dividends.
---------------------------------------------------------------------------
\319\ Treas. Reg. sec. 1.1388-1(a)(1).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides a special rule for
dividends on capital stock of a cooperative. To the extent
provided in organizational documents of the cooperative,
dividends on capital stock do not reduce patronage income and
do not prevent the cooperative from being treated as operating
on a cooperative basis.
Effective date.--The Senate amendment provision is
effective for distributions made in taxable years ending after
the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
VII. Simplification and Other Provisions
A. Establish Uniform Definition of a Qualifying Child (Secs. 501
Through 508 of the Senate Amendment and Secs. 2, 21, 24, 32, 151, and
152 of the Code)
PRESENT LAW
In general
Present law contains five commonly used provisions that
provide benefits to taxpayers with children: (1) the dependency
exemption; (2) the child credit; (3) the earned income credit;
(4) the dependent care credit; and (5) head of household filing
status. Each provision has separate criteria for determining
whether the taxpayer qualifies for the applicable tax benefit
with respect to a particular child. The separate criteria
include factors such as the relationship (if any) the child
must bear to the taxpayer, the age of the child, and whether
the child must live with the taxpayer. Thus, a taxpayer is
required to apply different definitions to the same individual
when determining eligibility for these provisions, and an
individual who qualifies a taxpayer for one provision does not
automatically qualify the taxpayer for another provision.
Dependency exemption \320\
---------------------------------------------------------------------------
\320\ Secs. 151 and 152. Under the statutory structure, section 151
provides for the deduction for personal exemptions with respect to
``dependents.'' The term ``dependent'' is defined in section 152. Most
of the requirements regarding dependents are contained in section 152;
section 151 contains additional requirements that must be satisfied in
order to obtain a dependency exemption with respect to a dependent (as
so defined). In particular, section 151 contains the gross income test,
the rules relating to married dependents filing a joint return, and the
requirement for a taxpayer identification number. The other rules
discussed here are contained in section 151.
---------------------------------------------------------------------------
In general
Taxpayers are entitled to a personal exemption deduction
for the taxpayer, his or her spouse, and each dependent. For
2003, the amount deductible for each personal exemption is
$3,050. The deduction for personal exemptions is phased out for
taxpayers with incomes above certain thresholds.\321\
---------------------------------------------------------------------------
\321\ Sec. 151(d)(3).
---------------------------------------------------------------------------
In general, a taxpayer is entitled to a dependency
exemption for an individual if the individual: (1) satisfies a
relationship test or is a member of the taxpayer's household
for the entire taxable year; (2) satisfies a support test; (3)
satisfies a gross income test or is a child of the taxpayer
under a certain age; (4) is a citizen or resident of the U.S.
or resident of Canada or Mexico; \322\ and (5) did not file a
joint return with his or her spouse for the year.\323\ In
addition, the taxpayer identification number of the individual
must be included on the taxpayer's return.
---------------------------------------------------------------------------
\322\ A legally adopted child who does not satisfy the residency or
citizenship requirement may nevertheless qualify as a dependent
(provided other applicable requirements are met) if (1) the child's
principal place of abode is the taxpayer's home and (2) the taxpayer is
a citizen or national of the United States. Sec. 152(b)(3).
\323\ This restriction does not apply if the return was filed
solely to obtain a refund and no tax liability would exist for either
spouse if they filed separate returns. Rev. Rul. 54-567, 1954-2 C.B.
108.
---------------------------------------------------------------------------
Relationship or member of household test
Relationship test.--The relationship test is satisfied if
an individual is the taxpayer's (1) son or daughter or a
descendant of either (e.g., grandchild or great-grandchild);
(2) stepson or stepdaughter; (3) brother or sister (including
half brother, half sister, stepbrother, or stepsister); (4)
parent, grandparent, or other direct ancestor (but not foster
parent); (5) stepfather or stepmother; (6) brother or sister of
the taxpayer's father or mother; (7) son or daughter of the
taxpayer's brother or sister; or (8) the taxpayer's father-in-
law, mother-in-law, son-in-law, daughter-in-law, brother-in-
law, or sister-in-law.
An adopted child (or a child who is a member of the
taxpayer's household and who has been placed with the taxpayer
for adoption) is treated as a child of the taxpayer. A foster
child is treated as a child of the taxpayer if the foster child
is a member of the taxpayer's household for the entire taxable
year.
Member of household test.--If the relationship test is
not satisfied, then the individual may be considered the
dependent of the taxpayer if the individual is a member of the
taxpayer's household for the entire year. Thus, a taxpayer may
be eligible to claim a dependency exemption with respect to an
unrelated child who lives with the taxpayer for the entire
year.
For the member of household test to be satisfied, the
taxpayer must both maintain the household and occupy the
household with the individual.\324\ A taxpayer or other
individual does not fail to be considered a member of a
household because of ``temporary'' absences due to special
circumstances, including absences due to illness, education,
business, vacation, and military service.\325\ Similarly, an
individual does not fail to be considered a member of the
taxpayer's household due to a custody agreement under which the
individual is absent for less than six months.\326\ Indefinite
absences that last for more than the taxable year may be
considered ``temporary.'' For example, the IRS has ruled that
an elderly woman who was indefinitely confined to a nursing
home was temporarily absent from a taxpayer's household. Under
the facts of the ruling, the woman had been an occupant of the
household before being confined to a nursing home, the
confinement had extended for several years, and it was possible
that the woman would die before becoming well enough to return
to the taxpayer's household. There was no intent on the part of
the taxpayer or the woman to change her principal place of
abode.\327\
---------------------------------------------------------------------------
\324\ Treas. Reg. sec. 1.152-1(b).
\325\ Id.
\326\ Id.
\327\ Rev. Rul. 66-28, 1966-1 C.B. 31.
---------------------------------------------------------------------------
Support test
In general.--The support test is satisfied if the
taxpayer provides over one half of the support of the
individual for the taxable year. To determine whether a
taxpayer has provided more than one half of an individual's
support, the amount the taxpayer contributed to the
individual's support is compared with the entire amount of
support the individual received from all sources, including the
individual's own funds.\328\ Governmental payments and
subsidies (e.g., Temporary Assistance to Needy Families, food
stamps, and housing) generally are treated as support provided
by a third party. Expenses that are not directly related to any
one member of a household, such as the cost of food for the
household, must be divided among the members of the household.
If any person furnishes support in kind (e.g., in the form of
housing), then the fair market value of that support must be
determined.
---------------------------------------------------------------------------
\328\ In the case of a son, daughter, stepson, or stepdaughter of
the taxpayer who is a full-time student, scholarships are not taken
into account for purpose of the support test. Sec. 152(d).
---------------------------------------------------------------------------
Multiple support agreements.--In some cases, no one
taxpayer provides more than one half of the support of an
individual. Instead, two or more taxpayers, each of whom would
be able to claim a dependency exemption but for the support
test, together provide more than one half of the individual's
support. If this occurs, the taxpayers may agree to designate
that one of the taxpayers who individually provides more than
10 percent of the individual's support can claim a dependency
exemption for the child. Each of the others must sign a written
statement agreeing not to claim the exemption for that year.
The statements must be filed with the income tax return of the
taxpayer who claims the exemption.
Special rules for divorced or legally separated
parents.--Special rules apply in the case of a child of
divorced or legally separated parents (or parents who live
apart at all times during the last six months of the year) who
provide over one half the child's support during the calendar
year.\329\ If such a child is in the custody of one or both of
the parents for more than one half of the year, then the parent
having custody for the greater portion of the year is deemed to
satisfy the support test; however, the custodial parent may
release the dependency exemption to the noncustodial parent by
filing a written declaration with the IRS.\330\
---------------------------------------------------------------------------
\329\ For purposes of this rule, a ``child'' means a son, daughter,
stepson, or stepdaughter (including an adopted child or foster child,
or child placed with the taxpayer for adoption). Sec. 152(e)(1)(A).
\330\ Special support rules also apply in the case of certain pre-
1985 agreements between divorced or legally separated parents. Sec.
152(e)(4).
---------------------------------------------------------------------------
Gross income test
In general, an individual may not be claimed as a
dependent of a taxpayer if the individual has gross income that
is at least equal to the personal exemption amount for the
taxable year.\331\ If the individual is the child of the
taxpayer and under age 19 (or under age 24, if a full-time
student), the gross income test does not apply.\332\ For
purposes of this rule, a ``child'' means a son, daughter,
stepson, or stepdaughter (including an adopted child of the
taxpayer, a foster child who resides with the taxpayer for the
entire year, or a child placed with the taxpayer for adoption
by an authorized adoption agency).
---------------------------------------------------------------------------
\331\ Certain income from sheltered workshops is not taken into
account in determining the gross income of permanently and totally
disabled individuals. Sec. 151(c)(5).
\332\ Sec. 151(c).
---------------------------------------------------------------------------
Earned income credit \333\
---------------------------------------------------------------------------
\333\ Sec. 32.
---------------------------------------------------------------------------
In general
In general, the earned income credit is a refundable
credit for low-income workers. The amount of the credit depends
on the earned income of the taxpayer and whether the taxpayer
has one, more than one, or no ``qualifying children.'' In order
to be a qualifying child for the earned income credit, an
individual must satisfy a relationship test, a residency test,
and an age test. In addition, the name, age, and taxpayer
identification number of the qualifying child must be included
on the return.
Relationship test
An individual satisfies the relationship test under the
earned income credit if the individual is the taxpayer's: (1)
son, daughter, stepson, or stepdaughter, or a descendant of any
such individual;\334\ (2) brother, sister, stepbrother, or
stepsister, or a descendant of any such individual, who the
taxpayer cares for as the taxpayer's own child; or (3) eligible
foster child. An eligible foster child is an individual (1) who
is placed with the taxpayer by an authorized placement agency,
and (2) who the taxpayer cares for as her or his own child. A
married child of the taxpayer is not treated as meeting the
relationship test unless the taxpayer is entitled to a
dependency exemption with respect to the married child (e.g.,
the support test is satisfied) or would be entitled to the
exemption if the taxpayer had not waived the exemption to the
noncustodial parent.\335\
---------------------------------------------------------------------------
\334\ A child who is legally adopted or placed with the taxpayer
for adoption by an authorized adoption agency is treated as the
taxpayer's own child. Sec. 32(c)(3)(B)(iv).
\335\ Sec. 32(c)(3)(B)(ii).
---------------------------------------------------------------------------
Residency test
The residency test is satisfied if the individual has the
same principal place of abode as the taxpayer for more than one
half of the taxable year. The residence must be in the United
States.\336\ As under the dependency exemption (and head of
household filing status), temporary absences due to special
circumstances, including absences due to illness, education,
business, vacation, and military service are not treated as
absences for purposes of determining whether the residency test
is satisfied.\337\ Under the earned income credit, there is no
requirement that the taxpayer maintain the household in which
the taxpayer and the qualifying individual reside.
---------------------------------------------------------------------------
\336\ The principal place of abode of a member of the Armed
Services is treated as in the United States during any period during
which the individual is stationed outside the United States on active
duty. Sec. 32(c)(4).
\337\ IRS Publication 596, Earned Income Credit (EIC), at 13. H.
Rep. 101-964 (October 27, 1990), at 1037.
---------------------------------------------------------------------------
Age test
In general, the age test is satisfied if the individual
has not attained age 19 as of the close of the calendar year.
In the case of a full-time student, the age test is satisfied
if the individual has not attained age 24 as of the close of
the calendar year. In the case of an individual who is
permanently and totally disabled, no age limit applies.
Child credit \338\
---------------------------------------------------------------------------
\338\ Sec. 24.
---------------------------------------------------------------------------
Taxpayers with incomes below certain amounts are eligible
for a child credit for each qualifying child of the taxpayer.
The amount of the child credit is up to $600, in the case of
taxable years beginning in 2003 or 2004. The child credit
increases to $700 for taxable years beginning in 2005 through
2008, $800 for taxable years beginning in 2009, and $1,000 for
taxable years beginning in 2010. The credit declines to $500 in
taxable year 2011.\339\ For purposes of this credit, a
qualifying child is an individual: (1) with respect to whom the
taxpayer is entitled to a dependency exemption for the year;
(2) who satisfies the same relationship test applicable to the
earned income credit; and (3) who has not attained age 17 as of
the close of the calendar year. In addition, the child must be
a citizen or resident of the United States.\340\ A portion of
the child credit is refundable under certain
circumstances.\341\
---------------------------------------------------------------------------
\339\ Economic Growth and Tax Relief Reconciliation Act of 2001
(``EGTRRA''), Pub. L. No. 107-16, sec. 901(a) (2001) (making, by way of
the EGTRRA sunset provision, the increase in the child credit
inapplicable to taxable years beginning after December 31, 2010).
\340\ The child credit does not apply with respect to a child who
is a resident of Canada or Mexico and is not a U.S. citizen, even if a
dependency exemption is available with respect to the child. Sec.
24(c)(2). The child credit is, however, available with respect to a
child dependent who is not a resident or citizen of the United States
if: (1) the child has been legally adopted by the taxpayer; (2) the
child's principal place of abode is the taxpayer's home; and (3) the
taxpayer is a U.S. citizen or national. See sec. 24(c)(2) and sec.
152(b)(3).
\341\ Sec. 24(d).
---------------------------------------------------------------------------
Dependent care credit \342\
---------------------------------------------------------------------------
\342\ Sec. 21.
---------------------------------------------------------------------------
The dependent care credit may be claimed by a taxpayer
who maintains a household that includes one or more qualifying
individuals and who has employment-related expenses. A
qualifying individual means (1) a dependent of the taxpayer
under age 13 for whom the taxpayer is entitled to a dependency
exemption, (2) a dependent of the taxpayer who is physically or
mentally incapable of caring for himself or herself,\343\ or
(3) the spouse of the taxpayer, if the spouse is physically or
mentally incapable of caring for himself or herself. In
addition, a taxpayer identification number for the qualifying
individual must be included on the return.
---------------------------------------------------------------------------
\343\ Although such an individual must be a dependent of the
taxpayer as defined in section 152, it is not required that the
taxpayer be entitled to a dependency exemption with respect to the
individual under section 151. Thus, such an individual may be a
qualifying individual for purposes of the dependent care credit, even
though the taxpayer is not entitled to a dependency exemption because
the individual does not meet the gross income test.
---------------------------------------------------------------------------
A taxpayer is considered to maintain a household for a
period if over one half the cost of maintaining the household
for the period is furnished by the taxpayer (or, if married,
the taxpayer and his or her spouse). Costs of maintaining the
household include expenses such as rent, mortgage interest (but
not principal), real estate taxes, insurance on the home,
repairs (but not home improvements), utilities, and food eaten
in the home.
A special rule applies in the case of a child who is
under age 13 or is physically or mentally incapable of caring
for himself or herself if the custodial parent has waived his
or her dependency exemption to the noncustodial parent.\344\
For the dependent care credit, the child is treated as a
qualifying individual with respect to the custodial parent, not
the parent entitled to claim the dependency exemption.
---------------------------------------------------------------------------
\344\ Sec. 21(e)(5).
---------------------------------------------------------------------------
Head of household filing status \345\
---------------------------------------------------------------------------
\345\ Sec. 2(b).
---------------------------------------------------------------------------
A taxpayer may claim head of household filing status if
the taxpayer is unmarried (and not a surviving spouse) and pays
more than one half of the cost of maintaining as his or her
home a household which is the principal place of abode for more
than one half of the year of (1) an unmarried son, daughter,
stepson or stepdaughter of the taxpayer or an unmarried
descendant of the taxpayer's son or daughter, (2) an individual
described in (1) who is married, if the taxpayer may claim a
dependency exemption with respect to the individual (or could
claim the exemption if the taxpayer had not waived the
exemption to the noncustodial parent), or (3) a relative with
respect to whom the taxpayer may claim a dependency
exemption.\346\ If certain other requirements are satisfied,
head of household filing status also may be claimed if the
taxpayer is entitled to a dependency exemption with respect to
one of the taxpayer's parents.
---------------------------------------------------------------------------
\346\ Sec. 2(b)(1)(A)(ii), as qualified by sec. 2(b)(3)(B). An
individual for whom the taxpayer is entitled to claim a dependency
exemption by reason of a multiple support agreement does not qualify
the taxpayer for head of household filing status.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Description of provision
In general
The Senate amendment provision establishes a uniform
definition of qualifying child for purposes of the dependency
exemption, the child credit, the earned income credit, the
dependent care credit, and head of household filing status. A
taxpayer may claim an individual who does not meet the uniform
definition of qualifying child (with respect to any taxpayer)
as a dependent if the present-law dependency requirements are
satisfied. The Senate amendment provision does not modify other
parameters of each tax benefit (e.g., the earned income
requirements of the earned income credit) or the rules for
determining whether individuals other than children qualify for
each tax benefit.
Under the uniform definition, in general, a child is a
qualifying child of a taxpayer if the child satisfies each of
three tests: (1) the child has the same principal place of
abode as the taxpayer for more than one half the taxable year;
(2) the child has a specified relationship to the taxpayer; and
(3) the child has not yet attained a specified age. A tie-
breaking rule applies if more than one taxpayer claims a child
as a qualifying child.
Under the Senate amendment provision, the present-law
support and gross income tests for determining whether an
individual is a dependent generally do not apply to a child who
meets the requirements of the uniform definition of qualifying
child.
Residency test
Under the uniform definition's residency test, a child
must have the same principal place of abode as the taxpayer for
more than one half of the taxable year. It is intended that, as
is the case under present law, temporary absences due to
special circumstances, including absences due to illness,
education, business, vacation, or military service, would not
be treated as absences.
Relationship test
In order to be a qualifying child under the Senate
amendment provision, the child must be the taxpayer's son,
daughter, stepson, stepdaughter, brother, sister, stepbrother,
stepsister, or a descendant of any such individual. A legally
adopted individual of the taxpayer, or an individual who is
placed with the taxpayer by an authorized placement agency for
adoption by the taxpayer, is treated as a child of such
taxpayer by blood. A foster child who is placed with the
taxpayer by an authorized placement agency or by judgment,
decree, or other order of any court of competent jurisdiction
is treated as the taxpayer's child.\347\
---------------------------------------------------------------------------
\347\ The provision eliminates the present-law rule requiring that
if a child is the taxpayer's sibling or stepsibling or a descendant of
any such individual, the taxpayer must care for the child as if the
child were his or her own child.
---------------------------------------------------------------------------
Age test
Under the Senate amendment provision, the age test varies
depending upon the tax benefit involved. In general, a child
must be under age 19 (or under age 24 in the case of a full-
time student) in order to be a qualifying child.\348\ In
general, no age limit applies with respect to individuals who
are totally and permanently disabled within the meaning of
section 22(e)(3) at any time during the calendar year. The
Senate amendment provision retains the present-law requirements
that a child must be under age 13 (if he or she is not
disabled) for purposes of the dependent care credit, and under
age 17 (whether or not disabled) for purposes of the child
credit.
---------------------------------------------------------------------------
\348\ The provision retains the present-law definition of full-time
student set forth in section 151(c)(4).
---------------------------------------------------------------------------
Children who support themselves
Under the Senate amendment provision, a child who
provides over one half of his or her own support generally is
not considered a qualifying child of another taxpayer. The
Senate amendment provision retains the present-law rule,
however, that a child who provides over one half of his or her
own support may constitute a qualifying child of another
taxpayer for purposes of the earned income credit.
Tie-breaking rules
If a child would be a qualifying child with respect to
more than one individual (e.g., a child lives with his or her
mother and grandmother in the same residence) and more than one
person claims a benefit with respect to that child, then the
following ``tie-breaking'' rules apply. First, if only one of
the individuals claiming the child as a qualifying child is the
child's parent, the child is deemed the qualifying child of the
parent. Second, if both parents claim the child and the parents
do not file a joint return, then the child is deemed a
qualifying child first with respect to the parent with whom the
child resides for the longest period of time, and second with
respect to the parent with the highest adjusted gross income.
Third, if the child's parents do not claim the child, then the
child is deemed a qualifying child with respect to the claimant
with the highest adjusted gross income.
Interaction with present-law rules
Taxpayers may claim an individual who does not meet the
uniform definition of qualifying child with respect to any
taxpayer as a dependent if the present-law dependency
requirements (including the gross income and support tests) are
satisfied.\349\ Thus, for example, a taxpayer may claim a
parent as a dependent if the taxpayer provides more than one
half of the support of the parent and the parent's gross income
is less than the exemption amount.
---------------------------------------------------------------------------
\349\ Individuals who satisfy the present-law dependency tests and
who are not qualifying children are referred to as ``qualifying
relatives'' under the provision.
---------------------------------------------------------------------------
Children who are U.S. citizens living abroad or non-U.S.
citizens living in Canada or Mexico may qualify as a qualifying
child, as is the case under the present-law dependency tests. A
legally adopted child who does not satisfy the residency or
citizenship requirement may nevertheless qualify as a
qualifying child (provided other applicable requirements are
met) if (1) the child's principal place of abode is the
taxpayer's home and (2) the taxpayer is a citizen or national
of the United States.
Children of divorced or legally separated parents
The Senate amendment provision generally retains the
present-law rule that allows a custodial parent to release the
claim to a dependency exemption and the child credit to a
noncustodial parent. Thus, the Senate amendment provision
generally grandfathers those custodial waivers that are in
place and effective on the date of enactment, and generally
retains the custodial waiver rule for purposes of the
dependency exemption and the child credit for decrees of
divorce or separate maintenance or written separation
agreements that become effective after the date of enactment.
Under the Senate amendment provision, the custodial waiver
rules do not affect eligibility with respect to children of
divorced or legally separated parents for purposes of the
earned income credit, the dependent care credit, and head of
household filing status.
Other provisions
The Senate amendment provision retains the applicable
present-law requirements that a taxpayer identification number
for a child be provided on the taxpayer's return. For purposes
of the earned income credit, a qualifying child is required to
have a social security number that is valid for employment in
the United States (that is, the child must be a U.S. citizen,
permanent resident, or have a certain type of temporary visa).
Effect of Senate amendment provision on particular tax benefits
Dependency exemption
For purposes of the dependency exemption, the Senate
amendment provision defines a dependent as a qualifying child
or a qualifying relative. The qualifying child test eliminates
the support test (other than in the case of a child who
provides more than one half of his or her own support), and
replaces it with the residency requirement described above.
Further, the present-law gross income test does not apply to a
qualifying child. The rules relating to multiple support
agreements do not apply with respect to qualifying children
because the support test does not apply to them. Special tie-
breaking rules (described above) apply if more than one
taxpayer claims a qualifying child under the Senate amendment
provision. These tie-breaking rules do not apply if a child
constitutes a qualifying child with respect to multiple
taxpayers, but only one eligible taxpayer actually claims the
qualifying child.
The Senate amendment provision permits taxpayers to
continue to apply the present-law dependency exemption rules to
claim a dependency exemption for a qualifying relative who does
not satisfy the qualifying child definition. In such cases, the
present-law gross income and support tests, including the
special rules for multiple support agreements, the special
rules relating to income of handicapped dependents, and the
special support test in case of students, continue to apply for
purposes of the dependency exemption.
As is the case under present law, a child who provides
over half of his or her own support is not considered a
dependent of another taxpayer under the Senate amendment
provision. Further, an individual shall not be treated as a
dependent of a taxpayer if such individual has filed a joint
return with the individual's spouse for the taxable year.
Earned income credit
In general, the Senate amendment provision adopts a
definition of qualifying child that is similar to the present-
law definition under the earned income credit. The present-law
requirement that a foster child and certain other children be
cared for as the taxpayer's own child is eliminated. The
present-law tie-breaker rule applicable to the earned income
credit is used for purposes of the uniform definition of
qualifying child. The Senate amendment provision retains the
present-law requirement that the taxpayer's principal place of
abode must be in the United States.
Child credit
The present-law child credit generally uses the same
relationships to define an eligible child as the uniform
definition. The present-law requirement that a foster child and
certain other children be cared for as the taxpayer's own child
is eliminated. The age limitation under the Senate amendment
provision retains the present-law requirement that the child
must be under age 17, regardless of whether the child is
disabled.
Dependent care credit
The present-law requirement that a taxpayer maintain a
household in order to claim the dependent care credit is
eliminated. Thus, if other applicable requirements are
satisfied, a taxpayer may claim the dependent care credit with
respect to a child who lives with the taxpayer for more than
one half the year, even if the taxpayer does not provide more
than one half of the cost of maintaining the household.
The rules for determining eligibility for the credit with
respect to an individual who is physically or mentally
incapable of caring for himself or herself are amended to
include a requirement that the taxpayer and the dependent have
the same principal place of abode for more than one half the
taxable year.
Head of household filing status
Under the Senate amendment provision, a taxpayer
qualifies for head of household filing status with respect to a
child who is a qualifying child as defined under the Senate
amendment provision. An individual who is not a qualifying
child will qualify the taxpayer for head of household status
only if, as is the case under present law, the individual is a
dependent of the taxpayer and the taxpayer is entitled to a
dependency exemption for such individual, or the individual is
the taxpayer's father or mother and certain other requirements
are satisfied. Thus, under the Senate amendment provision a
taxpayer is eligible for head of household filing status only
with respect to a qualifying child or an individual for whom
the taxpayer is entitled to a dependency exemption.
The Senate amendment provision retains the present-law
requirement that the taxpayer provide over one half the cost of
maintaining the household.
Effective date
The Senate amendment provision is effective for taxable
years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
B. Other Simplification Provisions
1. Consolidation of life insurance and nonlife companies (sec. 511 of
the Senate amendment and sec. 1504 of the Code)
PRESENT LAW
Under present law, an affiliated group of corporations
means one or more chains of includible corporations connected
through stock ownership with a common parent corporation (sec.
1504(a)(1)). The stock ownership requirement consists of an 80-
percent voting and value test. In general, an affiliated group
of corporations may file a consolidated tax return for Federal
income tax purposes.
Life insurance companies (subject to tax under section
801) generally are not treated as includible corporations, and
therefore may not be included in a consolidated return of an
affiliated group including nonlife-insurance companies, unless
the common parent of the group elects to treat the life
insurance companies as includible corporations (sec.
1504(c)(2)).
Under the election to treat life insurance companies as
includible corporations of an affiliated group, two special 5-
year limitation rules apply. The first 5-year rule provides
that a life insurance company may not be treated as an
includible corporation until it has been a member of the group
for the 5 taxable years immediately preceding the taxable year
for which the consolidated return is filed (sec. 1504(c)(2)).
The second 5-year rule provides that any net operating loss of
a nonlife-insurance member of the group may not offset the
taxable income of a life insurance member for any of the first
5 years the life and nonlife-insurance corporations have been
members of the same affiliated group (sec. 1503(c)(2)). This
rule applies to nonlife losses for the current taxable year or
as a carryover or carryback.
A separate 35-percent limitation also applies under the
election to treat life insurance companies as includible
corporations of an affiliated group (sec. 1503(c)(1)). This
rule provides that if the non-life-insurance members of the
group have a net operating loss, then the amount of the loss
that is not absorbed by carrybacks against the nonlife-
insurance members' income may offset the life insurance
members' income only to the extent of the lesser of: (1) 35
percent of the amount of the loss; or (2) 35 percent of the
life insurance members' taxable income. The unused portion of
the loss is available as a carryover and is added to
subsequent-year losses, subject to the same 35-percent
limitation.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision repeals the 5-year
limitation providing that a life insurance company may not be
treated as an includible corporation until it has been a member
of the group for the 5 taxable years immediately preceding the
taxable year for which the consolidated return is filed (sec.
1504(c)(2)). The provision also repeals the rule that a life
insurance corporation is not an includible corporation unless
the common parent makes an election to treat life insurance
companies as includible corporations (sec. 1504(c)(1)). Thus,
under the provision, a life insurance company is treated as an
includible corporation starting with the first taxable year for
which it becomes a member of the affiliated group and otherwise
meets the definition of an includible corporation. The
provision retains the 5-year rule of section 1503(c)(2), as
well as the 35-percent limitation of present-law section
1503(c)(1) with respect to any life insurance company that is
an includible corporation of an affiliated group.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2009.
No affiliated group terminates solely by reason of the
provision. Under regulations, the provision waives the 5-year
waiting period for reconsolidation under section 1504(a)(3), in
the case of any corporation that was previously an includible
corporation, but was subsequently deemed not to be an
includible corporation as a result of becoming a subsidiary of
a corporation that was not an includible corporation solely by
reason of the 5-year rule of section 1504(c)(2) (providing that
a life insurance company may not be treated as an includible
corporation until it has been a member of the group for the 5
taxable years immediately preceding the taxable year for which
the consolidated return is filed).
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Suspension of reduction of deductions for mutual life insurance
companies and of policyholder surplus accounts of life
insurance companies (sec. 512 of the Senate amendment and secs.
809 and 815 of the Code)
PRESENT LAW
Reduction in deductions for policyholder dividends and reserves of
mutual life insurance companies (sec. 809)
In general, a corporation may not deduct amounts
distributed to shareholders with respect to the corporation's
stock. The Deficit Reduction Act of 1984 added a provision to
the rules governing insurance companies that was intended to
remedy the failure of prior law to distinguish between amounts
returned by mutual life insurance companies to policyholders as
customers, and amounts distributed to them as owners of the
mutual company.
Under the provision, section 809, a mutual life insurance
company is required to reduce its deduction for policyholder
dividends by the company's differential earnings amount. If the
company's differential earnings amount exceeds the amount of
its deductible policyholder dividends, the company is required
to reduce its deduction for changes in its reserves by the
excess of its differential earnings amount over the amount of
its deductible policyholder dividends. The differential
earnings amount is the product of the differential earnings
rate and the average equity base of a mutual life insurance
company.
The differential earnings rate is based on the difference
between the average earnings rate of the 50 largest stock life
insurance companies and the earnings rate of all mutual life
insurance companies. The mutual earnings rate applied under the
provision is the rate for the secondcalendar year preceding the
calendar year in which the taxable year begins. Under present law, the
differential earnings rate cannot be a negative number.
A company's equity base equals the sum of: (1) its
surplus and capital increased by 50 percent of the amount of
any provision for policyholder dividends payable in the
following taxable year; (2) the amount of its nonadmitted
financial assets; (3) the excess of its statutory reserves over
its tax reserves; and (4) the amount of any mandatory security
valuation reserves, deficiency reserves, and voluntary
reserves. A company's average equity base is the average of the
company's equity base at the end of the taxable year and its
equity base at the end of the preceding taxable year.
A recomputation or ``true-up'' in the succeeding year is
required if the differential earnings amount for the taxable
year either exceeds, or is less than, the recomputed
differential earnings amount. The recomputed differential
earnings amount is calculated taking into account the average
mutual earnings rate for the calendar year (rather than the
second preceding calendar year, as above). The amount of the
true-up for any taxable year is added to, or deducted from, the
mutual company's income for the succeeding taxable year.
For a mutual life insurance company's taxable years
beginning in 2001, 2002, or 2003, the differential earnings
rate is treated as zero for purposes of computing both the
differential earnings amount and the recomputed differential
earnings amount (true-up).
Distributions to shareholders from policyholders surplus account (sec.
815)
Under the law in effect from 1959 through 1983, a life
insurance company was subject to a three-phase taxable income
computation under Federal tax law. Under the three-phase
system, a company was taxed on the lesser of its gain from
operations or its taxable investment income (Phase I) and, if
its gain from operations exceeded its taxable investment
income, 50 percent of such excess (Phase II). Federal income
tax on the other 50 percent of the gain from operations was
deferred, and was accounted for as part of a policyholder's
surplus account and, subject to certain limitations, taxed only
when distributed to stockholders or upon corporate dissolution
(Phase III). To determine whether amounts had been distributed,
a company maintained a shareholders surplus account, which
generally included the company's previously taxed income that
would be available for distribution to shareholders.
Distributions to shareholders were treated as being first out
of the shareholders surplus account, then out of the
policyholders surplus account, and finally out of other
accounts.
The Deficit Reduction Act of 1984 included provisions
that, for 1984 and later years, eliminated further deferral of
tax on amounts (described above) that previously would have
been deferred under the three-phase system. Although for
taxable years after 1983, life insurance companies may not
enlarge their policyholders surplus account, the companies are
not taxed on previously deferred amounts unless the amounts are
treated as distributed to shareholders or subtracted from the
policyholders surplus account (sec. 815).
Under present law, any direct or indirect distribution to
shareholders from an existing policyholders surplus account of
a stock life insurance company is subject to tax at the
corporate rate in the taxable year of the distribution. Present
law provides that any distribution to shareholders is treated
as made (1) first out of the shareholders surplus account, to
the extent thereof, (2) then out of the policyholders surplus
account, to the extent thereof, and (3) finally, out of other
accounts.
HOUSE BILL
No provision.
SENATE AMENDMENT
Reduction in deductions for policyholder dividends and reserves of
mutual life insurance companies (sec. 809)
The Senate amendment provision provides that for a mutual
life insurance company's taxable years beginning after December
31, 2003, and before January 1, 2009, the differential earnings
rate is treated as zero for purposes of computing both the
differential earnings amount and the recomputed differential
earnings amount (true-up), under the rules requiring reduction
in certain deductions of mutual life insurance companies (sec.
809).
Distributions to shareholders from policyholders surplus account (sec.
815)
The Senate amendment provision suspends for a life
insurance company's taxable year beginning after December 31,
2003, and before January 1, 2009, the application of the rules
imposing income tax on distributions to shareholders from the
policyholders surplus account of a life insurance company (sec.
815). The Senate amendment provision also modifies the order in
which distributions reduce the various accounts, so that
distributions are treated as first made out of the
policyholders surplus account, to the extent thereof, and then
out of the shareholders surplus account, and lastly out of
other accounts.
Effective date.--The Senate amendment provisions relating
to section 809 and section 815 are effective for taxable years
beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provisions.
3. Section 355 ``active business test'' applied to chains of affiliated
corporations (sec. 513 of the Senate amendment and sec. 355 of
the Code)
PRESENT LAW
A corporation generally is required to recognize gain on
the distribution of property (including stock of a subsidiary)
to its shareholders as if such property had been sold for its
fair market value. An exception to this rule applies if the
distribution of the stock of a controlled corporation satisfies
the requirements of section 355 of the Code. To qualify for
tax-free treatment under section 355, both the distributing
corporation and the controlled corporation must be engaged
immediately after the distribution in the active conduct of a
trade or business that has been conducted for at least five
years and was not acquired in a taxable transaction during that
period.\350\ For this purpose, a corporation is engaged in the
active conduct of a trade or business only if (1) the
corporation is directly engaged in the active conduct of a
trade or business, or (2) the corporation is not directly
engaged in an active business, but substantially all of its
assets consist of stock and securities of a corporation it
controls that is engaged in the active conduct of a trade or
business.\351\
---------------------------------------------------------------------------
\350\ Section 355(b). If the distributing corporation had no assets
other than stock or securities in the controlled corporations
immediately before the distribution, then each of the controlled
corporations must be engaged immediately after the distribution in the
active conduct of a trade or business.
\351\ Section 355(b)(2)(A).
---------------------------------------------------------------------------
In determining whether a corporation satisfies the active
trade or business requirement, the IRS position for advance
ruling purposes is that the value of the gross assets of the
trade or business being relied on must ordinarily constitute at
least 5 percent of the total fair market value of the gross
assets of the corporation directly conducting the trade or
business.\352\ However, if the corporation is not directly
engaged in an active trade or business, then the IRS takes the
position that the ``substantially all'' test requires that at
least 90 percent of the fair market value of the corporation's
gross assets consist of stock and securities of a controlled
corporation that is engaged in the active conduct of a trade or
business.\353\
---------------------------------------------------------------------------
\352\ Rev. Proc. 2003-3, sec. 4.01(30), 2003-1 I.R.B. 113.
\353\ Rev. Proc. 96-30, sec. 4.03(5), 1996-1 C.B. 696; Rev. Proc.
77-37, sec. 3.04, 1977-2 C.B. 568.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, the active business test is
determined by reference to the relevant affiliated group. For
the distributing corporation, the relevant affiliated group
consists of the distributing corporation as the common parent
and all corporations affiliated with the distributing
corporation through stock ownership described in section
1504(a)(1)(B) (regardless of whether the corporations are
includible corporations under section 1504(b)). The relevant
affiliated group for a controlled corporation is determined in
a similar manner (with the controlled corporation as the common
parent).
Effective date.--The Senate amendment applies to
distributions after the date of enactment, with three
exceptions. The Senate amendment does not apply to
distributions (1) made pursuant to an agreement which is
binding on the date of enactment and at all times thereafter,
(2) described in a ruling request submitted to the IRS on or
before the date of enactment, or (3) described on or before the
date of enactment in a public announcement or in afiling with
the Securities and Exchange Commission. The distributing corporation
may irrevocably elect not to have the exceptions described above apply.
The Senate amendment also applies to any distribution
prior to the date of enactment, but solely for the purpose of
determining whether, after the date of enactment, the taxpayer
continues to satisfy the requirements of section
355(b)(2)(A).\354\
---------------------------------------------------------------------------
\354\ For example, a holding company taxpayer that had distributed
a controlled corporation in a spin-off prior to the date of enactment,
in which spin-off the taxpayer satisfied the ``substantially all''
active business stock test of present law section 355(b)(2)(A)
immediately after the distribution, would not be deemed to have failed
to satisfy any requirement that it continue that same qualified
structure for any period of time after the distribution, solely because
of a restructuring that occurs after the date of enactment and that
would satisfy the requirements of new section 355(b)(2)(A).
---------------------------------------------------------------------------
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
C. Other Provisions
1. Civil rights tax relief (sec. 521 of the Senate amendment and sec.
62 of the Code)
PRESENT LAW
Under present law, gross income generally does not
include the amount of any damages (other than punitive damages)
received (whether by suit or agreement and whether as lump sums
or as periodic payments) by individuals on account of personal
physical injuries (including death) or physical sickness.\355\
Expenses relating to recovering such damages are generally not
deductible.\356\
---------------------------------------------------------------------------
\355\ Sec. 104(a)(2).
\356\ Sec. 265(a)(1).
---------------------------------------------------------------------------
Other damages are generally included in gross income. The
related expenses to recover the damages, including attorneys'
fees, are generally deductible as expenses for the production
of income,\357\ subject to the two-percent floor on itemized
deductions.\358\ Thus, such expenses are deductible only to the
extent the taxpayer's total miscellaneous itemized deductions
exceed two percent of adjusted gross income. Any amount
allowable as a deduction is subject to reduction under the
overall limitation of itemized deductions if the taxpayer's
adjusted gross income exceeds a threshold amount.\359\ For
purposes of the alternative minimum tax, no deduction is
allowed for any miscellaneous itemized deduction.
---------------------------------------------------------------------------
\357\ Sec. 212.
\358\ Sec. 67.
\359\ Sec. 68.
---------------------------------------------------------------------------
In some cases, claimants will engage an attorney to
represent them on a contingent fee basis. That is, if the
claimant recovers damages, a prearranged percentage of the
damages will be paid to the attorney; if no damages are
recovered, the attorney is not paid a fee. The proper tax
treatment of contingent fee arrangements with attorneys has
been litigated in recent years. Some courts \360\ have held
that the entire amount of damages is income and that the
claimant is entitled to a miscellaneous itemized deduction
subject to both the two-percent floor as an expense for the
production of income for the portion paid to the attorney and
to the overall limitation on itemized deductions. Other courts
have held that the portion of the recovery that is paid
directly to the attorney is not income to the claimant, holding
that the claimant has no claim of right to that portion of the
recovery.\361\
---------------------------------------------------------------------------
\360\ Kenseth v. Commissioner, 114 T.C. 399 (2000), aff'd 259 F.3d
881 (7th Cir. 2001); Coady v. Commissioner, 213 F.3d 1187 (9th Cir.
2000); Benci-Woodward v. Commissioner, 219 F.3d 941 (9th Cir. 2000);
Baylin v. United States, 43 F.3d 1451 (Fed. Cir. 1995).
\361\ Cotnam v. Commissioner, 263 F.2d 119 (5th Cir. 1959); Estate
of Arthur Clarks v. United States, 202 F.3d 854 (6th Cir. 2000);
Srivastava v. Commissioner, 220 F.3d 353 (5th Cir. 2000). In some of
these cases, such as Cotnam, State law has been an important
consideration in determining that the claimant has no claim of right to
the recovery.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides an above-the-line deduction
for attorneys' fees and costs paid by, or on behalf of, the
taxpayer in connection with any action involving a claim of
unlawful discrimination or certain claims against the Federal
Government. The amount that may be deducted above-the-line may
not exceed the amount includible in the taxpayer's gross income
for the taxable year on account of a judgment or settlement
(whether by suit or agreement and whether as lump sum or
periodic payments) resulting from such claim.
Under the Senate amendment, ``unlawful discrimination''
means an act that is unlawful under certain provisions of any
of the following: the Civil Rights Act of 1991, the
Congressional Accountability Act of 1995, the National Labor
Relations Act, the Fair Labor Standards Act of 1938, the Age
Discrimination in Employment Act of 1967, the Rehabilitation
Act of 1973, the Employee Retirement Security Income Act of
1974, the Education Amendments of 1972, the Employee Polygraph
Protection Act of 1988, the Worker Adjustment and Retraining
Notification Act, the Family and Medical Leave Act of 1993,
chapter 43 of Title 38 of the United States Code, the Revised
Statutes, the Civil Rights Act of 1964, the Fair Housing Act,
the Americans with Disabilities Act of 1990, any provision of
Federal law (popularly known as whistleblower protection
provisions) prohibiting the discharge of an employee,
discrimination against an employee, or any other form of
retaliation or reprisal against an employee for asserting
rights or taking other actions permitted under Federal law, or
any provision of State or local law, or common law claims
permitted under Federal, State, or local law providing for the
enforcement of civil rights or regulating any aspect of the
employment relationship, including prohibiting the discharge of
an employee, discrimination against an employee, or any other
form of retaliation or reprisal against an employee for
asserting rights or taking other actions permitted by law.
Effective date.--The Senate amendment is effective for
fees and costs paid after the date of enactment with respect to
any judgment or settlement occurring after such date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Increase section 382 limitation for certain corporations in
bankruptcy (sec. 522 of the Senate amendment and sec. 382 of
the Code)
PRESENT LAW
If a corporation with net operating losses experiences an
ownership change, then the annual amount of pre-change net
operating loss carryovers that it may use against post-change
income is limited. The basic annual post-change limit is the
value of the corporation's stock at the time of the ownership
change, multiplied by the long-term tax-exempt rate (prescribed
by the Treasury department) applicable to the time of the
change.
In general, an ownership change occurs if, within a
three-year period, there is a 50-percentage point increase in
ownership by any one or more 5-percent shareholders. A special
rule applies to bankruptcy situations. If a corporation is
under the jurisdiction of a court in a title 11 or similar
case, no ownership change will occur if the shareholders and
creditors of the old loss corporation, as a result of owning
stock or debt of the old corporation, own at least 50 percent
of the stock of the new loss corporation. Only indebtedness
held for at least 18 months prior to the date of filing the
title 11 or similar case counts for this purpose. In effect,
such ``old and cold'' creditors are treated as persons who had
effectively become shareholders of the corporation prior to the
ownership change, due to the impending bankruptcy of the
corporation.
If ``old and cold'' creditors dispose of their debt to
new persons and those persons become shareholders as a result
of owning that debt, the receipt of stock by those persons will
be treated as the acquisition of stock by new shareholders, and
can trigger an ownership change that causes the section 382
limitation to apply.
HOUSE BILL
No provision.
SENATE AMENDMENT
For a limited time period, the Senate amendment doubles
the amount of the section 382 limitation applicable to
corporations that experience an ownership change emerging from
bankruptcy in a title 11 or similar case. The Senate amendment
applies for a period of two taxable years to corporations that
experience an ownership change in a title 11 or similar case
after December 31, 2002.
Effective date.--The Senate amendment provision is
effective for taxable years beginning in 2004 and 2005.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Increase in historic rehabilitation credit for residential housing
for the elderly (sec. 523 of the Senate amendment and sec. 47
of the Code)
PRESENT LAW
Rehabilitation credit
Present law provides a credit for rehabilitation
expenditures (sec. 47). A 20-percent credit is provided for
rehabilitation expenditures with respect to a certified
historic structure. For this purpose, a certified historic
structure means any building that is listed in the National
Register, or that is located in a registered historic district
and is certified by the Secretary of the Interior to the
Secretary of the Treasury as being of historic significance to
the district.
A building is treated as having been substantially
rehabilitated only if the rehabilitation expenditures during
the 24-month period selected by the taxpayer and ending within
the taxable year exceed the greater of the adjusted basis of
the building (and its structural components), or $5,000. The
taxpayer's depreciable basis in the property is reduced by any
rehabilitation credit claimed.
Low-income housing credit
The low-income housing tax credit (sec. 42) may be
claimed over a 10-year period for the cost of rental housing
occupied by tenants having incomes below specified levels. The
credit percentage for newly constructed or substantially
rehabilitated housing that is not Federally subsidized is
adjusted monthly by the Internal Revenue Service so that the 10
annual installments have a present value of 70 percent of the
total qualified expenditures. The credit percentage for new
substantially rehabilitated housing that is Federally
subsidized and for existing housing that is substantially
rehabilitated is calculated to have a present value of 30
percent of qualified expenditures. The aggregate credit
authority provided annually to each State is $1.75 per
resident, except in the case of projects that also receive
financing with proceeds of tax-exempt bonds issued subject to
the private activity bond volume limit and certain carry-over
amounts. The $1.75 per resident cap is indexed for inflation.
Qualified basis with respect to which the credit may be
computed is generally determined as the portion of the eligible
basis of the qualified low-income building attributable to the
low-income rental units. Qualified basis generally is the
taxpayer's depreciable basis in a qualified low-income
building. In the case of a taxpayer who claims the
rehabilitation credit for a qualified low-income building, the
taxpayer's depreciable basis in the building is reduced by the
amount of the rehabilitation credit claimed. In addition,
eligible basis is reduced by any Federal grant received with
respect to the building. A qualified low-income building is a
building that meets certain compliance criteria and is
depreciable under the modified accelerated cost recovery system
(``MACRS'').
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment increases the present-law 20-percent
credit for historic rehabilitation expenses to 25 percent in
the case of rehabilitation expenses incurred with respect to a
building which is also a low-income housing credit property in
which substantially all of the tenants, both those tenants in
rent-restricted units and in other residential units, are age
65 or greater. The Senate amendment permits the 25-percent
rehabilitation credit to be claimed with respect to all parts
of the building, not only those parts on which the taxpayer
also claims the low-income housing credit.\362\
---------------------------------------------------------------------------
\362\ The Senate amendment also repeals a transition rule to the
Tax Reform Act of 1986 permitting the taxpayers who own the property
described in sec. 251(d)(4)(X) of the Tax Reform Act of 1986 to use
ACRS depreciation, in lieu of MACRS depreciation. This change enables
such property to qualify for the provision.
---------------------------------------------------------------------------
Effective date.--The Senate amendment provision is
effective for property placed in service after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
4. Modification of application of income forecast method of
depreciation (sec. 524 of the Senate amendment and sec. 167 of
the Code)
PRESENT LAW
The modified Accelerated Cost Recovery System (``MACRS'')
does not apply to certain property, including any motion
picture film, video tape, or sound recording, or to any other
property if the taxpayer elects to exclude such property from
MACRS and the taxpayer properly applies a unit-of-production
method or other method of depreciation not expressed in a term
of years. Section 197 does not apply to certain intangible
property, including property produced by the taxpayer or any
interest in a film, sound recording, video tape, book or
similar property not acquired in a transaction (or a series of
related transactions) involving the acquisition of assets
constituting a trade or business or substantial portion
thereof. Thus, the recovery of the cost of a film, video tape,
or similar property that is produced by the taxpayer or is
acquired on a ``stand-alone'' basis by the taxpayer may not be
determined under either the MACRS depreciation provisions or
under the section 197 amortization provisions. The cost
recovery of such property may be determined under section 167,
which allows a depreciation deduction for the reasonable
allowance for the exhaustion, wear and tear, or obsolescence of
the property. A taxpayer is allowed to recover, through annual
depreciation deductions, the cost of certain property used in a
trade or business or for the production of income. Section
167(g) provides that the cost of motion picture films, sound
recordings, copyrights, books, and patents are eligible to be
recovered using the income forecast method of depreciation.
Under the income forecast method, a property's
depreciation deduction for a taxable year is determined by
multiplying the adjusted basis of the property by a fraction,
the numerator of which is the income generated by the property
during the year and the denominator of which is the total
forecasted or estimated income expected to be generated prior
to the close of the tenth taxable year after the year the
property was placed in service. Any costs that are not
recovered by the end of the tenth taxable year after the
property was placed in service may be taken into account as
depreciation in such year.
The adjusted basis of property that may be taken into
account under the income forecast method only includes amounts
that satisfy the economic performance standard of section
461(h). In addition, taxpayers that claim depreciation
deductions under the income forecast method are required to pay
(or receive) interest based on a recalculation of depreciation
under a ``look-back'' method.
The ``look-back'' method is applied in any
``recomputation year'' by (1) comparing depreciation deductions
that had been claimed in prior periods to depreciation
deductions that would have been claimed had the taxpayer used
actual, rather than estimated, total income from the property;
(2) determining the hypothetical overpayment or underpayment of
tax based on this recalculated depreciation; and (3) applying
the overpayment rate of section 6621 of the Code. Except as
provided in Treasury regulations, a ``recomputation year'' is
the third and tenth taxable year after the taxable year the
property was placed in service, unless the actual income from
the property for each taxable year ending with or before the
close of such years was within 10 percent of the estimated
income from the property for such years.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment clarifies that, solely for purposes
of computing the allowable deduction for property under the
income forecast method of depreciation, participations and
residuals may be included in the adjusted basis of the property
beginning in the year such property is placed in service, but
only if such participations and residuals relate to income to
be derived from the property before the close of the tenth
taxable year following the year the property is placed in
service (as defined in section 167(g)(1)(A)). For purposes of
the provision, participations and residuals are defined as
costs the amount of which, by contract, varies with the amount
of income earned in connection with such property. The Senate
amendment also clarifies that the income from the property to
be taken into account under the income forecast method is the
gross income from such property.
The Senate amendment also grants authority to the
Treasury Department to prescribe appropriate adjustments to the
basis of property (and the look-back method) to reflect the
treatment of participations and residuals under the provision.
In addition, the Senate amendment clarifies that, in the
case of property eligible for the income forecast method that
the holding in the Associated Patentees decision will continue
to constitute a valid method of depreciation and may be used in
connection with the income forecast method of accounting. Thus,
rather than accounting for participations and residuals as a
cost of the property under the income forecast method of
depreciation, the taxpayer may elect todeduct those payments as
they are paid as under the Associated Patentees decision. This election
shall be made on a property-by-property basis and shall be applied
consistently with respect to a given property thereafter. The Senate
amendment also clarifies that distribution costs are not taken into
account for purposes of determining the taxpayer's current and total
forecasted income with respect to a property.
Effective date.--The Senate amendment provision applies
to property placed in service after date of enactment. No
inference is intended as to the appropriate treatment under
present law. It is intended that the Treasury Department and
the IRS expedite the resolution of open cases. In resolving
these cases in an expedited and balanced manner, the Treasury
Department and IRS are encouraged to take into account the
principles of the bill.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Additional advance refunding of certain governmental bonds (sec. 525
of the Senate amendment and sec. 149 of the Code)
PRESENT LAW
Interest on bonds issued by States or local governments
is excluded from income if the proceeds of the borrowing are
used to carry out governmental functions of those entities or
the debt is repaid with governmental funds (section 103).
Interest on bonds that nominally are issued by States or local
governments, but the proceeds of which are used (directly or
indirectly) by a private person and payment of which is derived
from funds of such a private person is taxable unless the
purpose of the borrowing is approved specifically in the Code
or in a non-Code provision of a revenue Act. These bonds are
called private activity bonds. Present law includes several
exceptions permitting States or local governments to act as
conduits providing tax-exempt financing for private activities.
One such exception is the provision of financing for activities
of charitable organizations described in section 501(c)(3) of
the Code (``qualified 501(c)(3) bonds'').
An advance refunding bond is issued to refund another
bond more than 90 days before the redemption of the refunded
bond. Under present law, governmental bonds and qualified
501(c)(3) bonds may be advanced refunded, subject to certain
limitations described below. Private activity bonds (other than
qualified 501(c)(3) bonds) may not be advanced refunded. Bonds
eligible for advance refunding can be advance refunded once if
the original bond was issued after 1985 or advance refunded
twice if the original bond was issued before 1985. Special
rules apply for advance refunding bonds under the New York
Liberty Zone provisions of the Code (sec. 1400L(e)(3)).
``Liberty Advance Refunding Bonds,'' which may be advance
refunded one additional time, are tax-exempt bonds for which
all present-law advance refunding authority was exhausted
before September 12, 2001, and with respect to which the
advance refunding bonds authorized under present law were
outstanding on September 11, 2001. In addition, at least 90
percent of the net proceeds of the original bond must have been
used to finance facilities located in New York City and must be
governmental general obligation bonds issued by either New York
City or certain New York State Authorities.
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, certain governmental bonds
are eligible for an additional advance refunding. To be
eligible for an additional refunding, the original bond has to
have been part of an issue 90 percent or more of the net
proceeds of which were used to finance a public elementary or
secondary school in any State in which the State's highest
court ruled by opinion issued on November 21, 2002, that the
State school funding system violates the State constitution and
is constitutionally inadequate. The additional advance
refunding bond must be issued before the date, which is two
years after the date of enactment of the bill.
Effective date.--The Senate amendment provision is
effective for advance refunding bonds issued after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Exclusion of income derived from certain wagers on horse races from
gross income of nonresident alien individuals (sec. 526 of the
Senate amendment and sec. 872(b) of the Code)
PRESENT LAW
Under section 871, certain items of gross income received
by a nonresident alien from sources within the United States
are subject to a flat 30-percent withholding tax. Gambling
winnings received by a nonresident alien from wagers placed in
the United States are U.S.-source and thus generally are
subject to this withholding tax, unless exempted by treaty.
Currently, several U.S. income tax treaties exempt U.S.-source
gambling winnings of residents of the other treaty country from
U.S. withholding tax. In addition, no withholding tax is
imposed under section 871 on the non-business gambling income
of a nonresident alien from wagers on the following games
(except to the extent that the Secretary determines that
collection of the tax would be administratively feasible):
blackjack, baccarat, craps, roulette, and big-6 wheel. Various
other (non-gambling-related) items of income of a nonresident
alien are excluded from gross income under section 872(b) and
are thereby exempt from the 30-percent withholding tax, without
any authority for the Secretary to impose the tax by
regulation. In cases in which a withholding tax on gambling
winnings applies, section 1441(a) of the Code requires the
party making the winning payout to withhold the appropriate
amount and makes that party responsible for amounts not
withheld.
With respect to gambling winnings of a nonresident alien
resulting from a wager initiated outside the United States on a
pari-mutuel \363\ event taking place within the United States,
the source of the winnings, and thus the applicability of the
30-percent U.S. withholding tax, depends on the type of
wagering pool from which the winnings are paid. If the payout
is made from a separate foreign pool, maintained completely in
a foreign jurisdiction (e.g., a pool maintained by a racetrack
or off-track betting parlor that is showing in a foreign
country a simulcast of a horse race taking place in the United
States), then the winnings paid to a nonresident alien
generally would not be subject to withholding tax, because the
amounts received generally would not be from sources within the
United States. However, if the payout is made from a ``merged''
or ``commingled'' pool, in which betting pools in the United
States and the foreign country are combined for a particular
event, then the portion of the payout attributable to wagers
placed in the United States could be subject to withholding
tax. The party making the payment, in this case a racetrack or
off-track betting parlor in a foreign country, would be
responsible for withholding the tax.
---------------------------------------------------------------------------
\363\ In pari-mutuel wagering (common in horse racing), odds and
payouts are determined by the aggregate bets placed. The money wagered
is placed into a pool, the party maintaining the pool takes a
percentage of the total, and the bettors effectively bet against each
other. Pari-mutuel wagering may be contrasted with fixed-odds wagering
(common in sports wagering), in which odds (or perhaps a point spread)
are agreed to by the bettor and the party taking the bet and are not
affected by the bets placed by other bettors.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides an exclusion from gross
income under section 872(b) for winnings paid to a nonresident
alien resulting from a legal wager initiated outside the United
States in a pari-mutuel pool on a live horse race in the United
States, regardless of whether the pool is a separate foreign
pool or a merged U.S.-foreign pool.
Effective date.--The Senate amendment provision applies
to proceeds from wagering transactions after September 30,
2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
7. Federal reimbursement of emergency health services furnished to
undocumented aliens (sec. 527 of the Senate amendment)
PRESENT LAW
Section 4723 of the Balanced Budget Act of 1997, provided
$25 million a year for fiscal years 1998-2001, with the funds
allotted to the 12 States with the highest number of
undocumented aliens (based on estimates by the Immigration and
Naturalization Service for 1992 or later). From that allotment,
the Secretary reimbursed each State, or political subdivision
thereof, for certain emergency health services furnished to
undocumented aliens.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides an entitlement of $48
million for fiscal year 2004 for the Federal reimbursement for
providers of emergency health services to undocumented aliens.
Effective date.--The Senate amendment provision is
effective beginning in fiscal year 2004.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
8. Treatment of premiums for mortgage insurance (sec. 528 of the Senate
amendment and sec. 163 of the Code)
PRESENT LAW
Present law provides that qualified residence interest is
deductible notwithstanding the general rule that personal
interest is nondeductible (sec. 163(h)).
Qualified residence interest is interest on acquisition
indebtedness and home equity indebtedness with respect to a
principal and a second residence of the taxpayer. The maximum
amount of home equity indebtedness is $100,000. The maximum
amount of acquisition indebtedness is $1 million. Acquisition
indebtedness means debt that is incurred in acquiring
constructing, or substantially improving a qualified residence
of the taxpayer, and that is secured by the residence. Home
equity indebtedness is debt (other than acquisition
indebtedness) that is secured by the taxpayer's principal or
second residence, to the extent the aggregate amount of such
debt does not exceed the difference between the total
acquisition indebtedness with respect to the residence, and the
fair market value of the residence.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision provides that premiums
paid or accrued for qualified mortgage insurance by a taxpayer
during the taxable year in connection with acquisition
indebtedness on a qualified residence of the taxpayer are
treated as qualified residence interest and thus deductible.
The amount allowable as a deduction under the provision is
phased out ratably by 10 percent for each $1,000 by which the
taxpayer's adjusted gross income exceeds $100,000 ($500 and
$50,000, respectively, in the case of a married individual
filing a separate return). Thus, the deduction is not allowed
if the taxpayer's adjusted gross income exceeds $110,000
($55,000 in the case of married individual filing a separate
return).
For this purpose, qualified mortgage insurance means
mortgage insurance provided by the Veterans Administration, the
Federal Housing Administration, or the Rural Housing
Administration, and private mortgage insurance (defined in
section 2 of the Homeowners Protection Act of 1998).
Amounts paid for qualified mortgage insurance that are
properly allocable to periods after the close of the taxable
year are treated as paid in the period to which it is
allocated. No deduction is allowed for the unamortized balance
if the mortgage is paid before its term (except in the case of
qualified mortgage insurance provided by the Veterans
Administration or Rural Housing Administration).
Reporting rules apply under the provision.
Effective date.--The Senate amendment provision is
effective for amounts paid or accrued after the date of
enactment in taxable years ending after that date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
9. Sense of the Senate on repealing the 1993 tax hike on Social
Security Benefits (sec. 529 of the Senate Amendment)
PRESENT LAW
Present law provides for a two-tier system of taxation of
Social Security benefits. Under this system, up to either 50
percent or 85 percent of Social Security benefits and
includible in gross income, depending on the taxpayer's income.
The 85-percent tax was enacted in 1993.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment includes a sense of the Senate that
the Senate Finance Committee should report out the Social
Security Benefits Tax Relief Act of 2003 \364\ to repeal the
tax on seniors not later than July 31, 2003, and that the
Senate will consider such bill not later than September 30,
2003, in a manner consistent with the preservation of the
Medicare Trust Fund.
---------------------------------------------------------------------------
\364\ S. 514.
---------------------------------------------------------------------------
Effective date.--The Senate amendment is effective on the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
10. Sense of the Senate relating to the flat tax (sec. 530 of the
Senate amendment)
PRESENT LAW
No provision.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment includes a sense of the Senate that
the Senate Finance Committee and the Joint Economic Committee
should undertake a comprehensive analysis of simplification or
flat tax proposals, including appropriate hearings, and
consider legislation providing for a flat tax.
Effective date.--The provision is effective on the date
of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
11. Temporary rate reduction for certain dividends received from
controlled foreign corporations (sec. 531 of the Senate
amendment and new sec. 965 of the Code)
PRESENT LAW
The United States employs a ``worldwide'' tax system,
under which domestic corporations generally are taxed on all
income, whether derived in the United States or abroad. Income
earned by a domestic parent corporation from foreign operations
conducted by foreign corporate subsidiaries generally is
subject to U.S. tax when the income is distributed as a
dividend to the domestic corporation. Until such repatriation,
the U.S. tax on such income generally is deferred. However,
certain anti-deferral regimes may cause the domestic parent
corporation to be taxed on a current basis in the United States
with respect to certain categories of passive or highly mobile
income earned by its foreign subsidiaries, regardless of
whether the income has been distributed as a dividend to the
domestic parent corporation. The main anti-deferral regimes in
this context are the controlled foreign corporation rules of
subpart F \365\ and the passive foreign investment company
rules.\366\ A foreign tax credit generally is available to
offset, in whole or in part, the U.S. tax owed on foreign-
source income, whether earned directly by the domestic
corporation, repatriated as an actual dividend, or included
under one of the anti-deferral regimes.\367\
---------------------------------------------------------------------------
\365\ Secs. 951-964.
\366\ Secs. 1291-1298.
\367\ Secs. 901, 902, 960, 1291(g).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, certain actual and deemed
dividends received by a U.S. corporation from a controlled
foreign corporation are subject to tax at a reduced rate of
5.25 percent. For corporations taxed at the top corporate
income tax rate of 35 percent, this rate reduction is
equivalent to an 85-percent dividends-received deduction. This
rate reduction is available only for the first taxable year of
an electing taxpayer ending 120 days or more after the date of
enactment of the provision.
The reduced rate applies only to repatriations in excess
of the taxpayer's average repatriation level over 3 of the 5
most recent taxable years ending on or before December 31,
2002, determined by disregarding the highest-repatriation year
and the lowest-repatriation year among such 5 years.\368\ The
taxpayer may designate which of its dividends are treated as
meeting the base-period average level and which of its
dividends are treated as comprising the excess.
---------------------------------------------------------------------------
\368\ If the taxpayer has fewer than 5 taxable years ending on or
before December 31, 2002, then the base period consists of all such
taxable years, with none disregard.
---------------------------------------------------------------------------
In order to qualify for the reduced rate, dividends must
be described in a ``domestic reinvestment plan'' approved by
the taxpayer's senior management and board of directors. This
plan must provide for the reinvestment of the repatriated
dividends in the United States, ``including as a source for the
funding of worker hiring and training; infrastructure; research
and development; capital investments; or the financial
stabilization of the corporation for the purposes of job
retention or creation.''
The Senate amendment provision disallows 85 percent of
the foreign tax credits attributable to dividends subject to
the reduced rate and removes 85 percent of the underlying
income from the taxpayer's foreign tax credit limitation
fraction under section 904.
In the case of an affiliated group, an election under the
provision is made by the common parent on a group-wide basis,
and all members of the group are treated as a single taxpayer.
The election applies to all controlled foreign corporations
with respect to which an electing taxpayer is a United States
shareholder.
Effective date.--The Senate amendment provision is
effective for the first taxable year of an electing taxpayer
ending 120 days or more after the provision's date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
12. Repeal of 10-percent rehabilitation tax credit (sec. 531 of the
Senate amendment and section 47 of the Code)
PRESENT LAW
Present law provides a two-tier tax credit for
rehabilitation expenditures (sec. 47).
A 20-percent credit is provided for rehabilitation
expenditures with respect to a certified historic structure.
For this purpose, a certified historic structure means any
building that is listed in the National Register, or that is
located in a registered historic district and is certified by
the Secretary of the Interior to the Secretary of the Treasury
as being of historic significance to the district.
A 10-percent credit is provided for rehabilitation
expenditures with respect to buildings first placed in service
before 1936. The pre-1936 building must meet certain
requirements in order for expenditures with respect to it to
qualify for the rehabilitation tax credit. In the
rehabilitation process, certain walls and structures must have
been retained. Specifically, (1) 50 percent or more of the
existing external walls must be retained in place as external
walls, (2) 75 percent or more of the existing external walls of
the building must be retained in place as internal or external
walls, and (3) 75 percent or more of the existing internal
structural framework of the building must be retained in place.
Further, the building must have been substantially
rehabilitated, and it must have been placed in service before
the beginning of the rehabilitation. A building is treated as
having been substantially rehabilitated only if the
rehabilitation expenditures during the 24-month period selected
by the taxpayer and ending with or within the taxable year
exceed the greater of (1) the adjusted basis of the building
(and its structural components), or $5,000.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision repeals the 10-percent
credit for rehabilitation expenditures with respect to
buildings first placed in service before 1936. The provision
retains the present-law 20-percent credit for rehabilitation
expenditures with respect to a certified historic structure.
Effective date.--The provision is effective for
expenditures incurred after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
13. Income inclusion for certain delinquent child support (sec. 532 of
the Senate amendment and sec. 166 of the Code)
PRESENT LAW
Bad debt deduction
Non-business bad debts may be deductible as short-term
capital losses on Schedule D of the Form 1040. Non-business bad
debts generally are debts that the taxpayer did not acquire or
create in the course of operating the taxpayer's business. The
present-law rule that capital losses (both short-term and long-
term) may not exceed the sum of $3,000 plus any capital gains
for any taxable year is applicable.
Non-business bad debts are only deductible only if: (1)
the debt is wholly worthless (partially worthless debts are not
deductible) and (2) the taxpayer has a tax basis in the debt
that becomes bad. If these requirements are satisfied, the
amount of the deductible non-business bad debt is the
individual's basis in the bad debt. Generally, the amount of
basis that a taxpayer has in a debt is the amount of the cash
advance in the case of a loan or the amount of taxable income
recognized by the taxpayer with reference to the debt.
Deductions for bad debts are allowed only for the taxable year
in which the debt becomes wholly worthless.
Custodial parents do not qualify for a non-business bad
debt deduction on unpaid child support because, they have no
basis in the debt and the debt may not be wholly worthless.
Bad debt income inclusion
There is no income inclusion for individuals who are
delinquent in paying their child support obligations.
HOUSE BILL
No provision
SENATE AMENDMENT
The Senate amendment creates an income inclusion for a
non-custodial parent for certain unpaid child support
obligations at the close of a taxable year. The income
inclusion is limited to the amount of unpaid child support at
the end of the taxable year that equals or exceeds one-half of
the non-custodial taxpayer's total child support obligation to
the custodial parent for the year. This test is not applied on
a child-by-child basis. For example, in the case of child
support for two children, the test applies the one-half or more
test to the combined child support obligations for both
children.
Under the bill, any payments from the non-custodial
parent to the custodial parent subsequent to the close of the
taxable year are not deductible by the non-custodial parent
(regardless of whether the non-custodial parent had a previous
income inclusion with regard to such amounts).
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
14. Sense of the Senate regarding the low-income housing tax credit
(sec. 533 of the Senate amendment)
PRESENT LAW
The low-income housing tax credit may be claimed over a
10-year period for the cost of rental housing occupied by
tenants having incomes below specified levels. The credit
percentage for newly constructed or substantially rehabilitated
housing that is not Federally subsidized is adjusted monthly by
the Internal Revenue Service so that the 10 annual installments
have a present value of 70 percent of the total qualified
expenditures. The credit percentage for new substantially
rehabilitated housing that is Federally subsidized and for
existing housing that is substantially rehabilitated is
calculated to have a present value of 30 percent qualified
expenditures.
The aggregate credit authority provided annually to each
State was $1.75 per resident in calendar year 2002. Beginning
in calendar year 2003, the per-capita portion of the credit cap
will be adjusted annually for inflation. For small States, a
minimum annual cap of $2 million was provided for calendar year
2002. Beginning in calendar year 2003, the small State minimum
is adjusted for inflation.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment includes a statement that it is the
sense of the Senate that any reduction or elimination of the
taxation on dividends should include provisions to preserve the
success of the low-income housing tax credit.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
15. Expensing of investment in broadband equipment (sec. 534 of the
Senate amendment and new sec. 191 of the Code)
PRESENT LAW
Under present law, a taxpayer generally must capitalize
the cost of property used in a trade or business and recover
such cost over time through annual deductions for depreciation
or amortization. Tangible property generally is depreciated
under the Modified Accelerated Cost Recovery System (MACRS) of
section 168, which determines depreciation by applying specific
recovery periods, placed-in-service conventions, and
depreciation methods to the cost of various types of
depreciable property.
Personal property is classified under MACRS based on the
property's ``class life'' unless a different classification is
specifically provided in section 168. The class life applicable
for personal property is the asset guideline period (midpoint
class life as of January 1, 1986). Based on the property's
classification, a recovery period is prescribed under MACRS. In
general, there are six classes of recovery periods to which
personal property can be assigned. For example, personal
property that has a class life of four years or less has a
recovery period of three years, whereas personal property with
a class life greater than four years but less than 10 years has
a recovery period of five years. The class lives and recovery
periods for most property are contained in Rev. Proc. 87-56,
1987-2 CB 674 (as clarified and modified by Rev. Proc. 88-22,
1988-1 CB 785).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides that expenses incurred by
the taxpayer for qualified broadband expenditures with respect
to qualified equipment placed in service prior to January 1,
2005 may be deducted in full in the year in which the equipment
is placed in service.
Qualified expenditures are expenditures incurred with
respect to equipment with which the taxpayer offers current
generation broadband services to qualified subscribers. In
addition, qualified expenditures include qualified expenditures
incurred by the taxpayer with respect to qualified equipment
with which the taxpayer offers next generation broadband
services to qualified subscribers. Current generation broadband
services are defined as the transmission ofsignals at a rate of
at least 1 million bits per second to the subscriber and at a rate of
at least 128,000 bits per second from the subscriber. Next generation
broadband services are defined as the transmission of signals at a rate
of at least 22 million bits per second to the subscriber and at a rate
of at least 5 million bits per second from the subscriber.
Qualified subscribers for the purposes of the current
generation broadband deduction include nonresidential
subscribers in rural or underserved areas, and residential
subscribers in rural or underserved areas that are not in a
saturated market. A saturated market is defined as a census
tract in which current generation broadband services have been
provided by a single provider to 85 percent or more of the
total number of potential residential subscribers residing
within such census tracts. For the purposes of the next
generation broadband deduction, qualified subscribers include
nonresidential subscribers in rural or underserved areas or any
residential subscriber. In the case of a taxpayer who incurs
expenditures for equipment capable of serving both subscribers
in qualifying areas and other areas, qualifying expenditures
are determined by multiplying otherwise qualifying expenditures
by the ratio of the number of potential qualifying subscribers
to all potential subscribers the qualifying equipment would be
capable of serving.
Qualifying equipment must be capable of providing
broadband services a majority of the time during periods of
maximum demand. Qualifying equipment is that equipment that
extends from the last point of switching to the outside of the
building in which the subscriber is located, equipment that
extends from the customer side of a mobile telephone switching
office to a transmission/reception antenna (including the
antenna) of the subscriber, equipment that extends from the
customer side of the headend to the outside of the building in
which the subscriber is located, or equipment that extends from
a transmission/reception antenna to a transmission/reception
antenna on the outside of the building used by the subscriber.
Any packet switching equipment deployed in connection with
other qualifying equipment is qualifying equipment, regardless
of location, provided that it is the last such equipment in a
series as part of transmission of a signal to a subscriber or
the first in a series in the transmission of a signal from a
subscriber. Also, multiplexing and demultiplexing equipment
also is qualified equipment.
A rural area is any census tract which is not within 10
miles of any incorporated or census designated place with a
population of more than 25,000 and which is not within a county
with a population density of more than 500 people per square
mile. An underserved area is any census tract which is located
in an empowerment zone or enterprise community or any census
tract in which the poverty level is greater than or equal to 30
percent and in which the median family income is less than 70
percent of the greater of metropolitan area median family
income or Statewide median family income. A residential
subscriber is any individual who purchases broadband service to
be delivered to his or her dwelling.
Effective date.--The Senate amendment provision is
effective for property placed in service after December 31,
2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
16. Income tax credit for cost of carrying tax-paid distilled spirits
in wholesale inventories and in control State bailment
warehouses (sec. 535 of the Senate amendment and new sec. 5011
of the Code)
PRESENT LAW
As is true of most major Federal excise taxes, the excise
tax on distilled spirits is imposed at a point in the chain of
distribution before the product reaches the retail (consumer)
level. Tax on domestically produced and/or bottled distilled
spirits arises upon production (receipt) in a bonded distillery
and is collected based on removals from the distillery during
each semi-monthly period. Distilled spirits that are bottled
before importation into the United States are taxed on removal
from the first U.S. warehouse where they are landed (including
a warehouse located in a foreign trade zone).
No tax credits are allowed under present law for business
costs associated with having tax-paid products in inventory.
Rather, excise tax that is included in the purchase price of a
product is treated the same as the other components of the
product cost, i.e., deductible as a cost of goods sold.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment creates a new income tax credit for
wholesale distributors, distillers, and importers, of distilled
spirits. The credit is calculated by multiplying the number of
cases of bottled distilled spirits by the average tax-financing
cost per case for the most recent calendar year ending before
the beginning of such taxable year. A case is 12 80-proof 750-
milliliter bottles. The average tax-financing cost per case is
the amount of interest that would accrue at corporate
overpayment rates during an assumed 60-day holding period on an
assumed tax rate of $25.68 per case of 12 750-milliliter
bottles.
The wholesaler credit only applies to domestically
bottled distilled spirits \369\ purchased directly from the
bottler of such spirits. For distillers and importers, the
credit is limited to bottled inventory in a warehouse owned and
operated by, or on behalf of, a State when title to such
inventory has not passed unconditionally. The credit for
distillers and importers applies to distilled spirits bottled
both domestically and abroad.
---------------------------------------------------------------------------
\369\ Distilled spirits that are imported in bulk and then bottled
domestically qualify as domestically bottled distilled spirits.
---------------------------------------------------------------------------
The credit is in addition to present-law rules allowing
tax included in inventory costs to be deducted as a cost of
goods sold.
The credit cannot be carried back to a taxable year
beginning before January 1, 2003.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
17. Contribution in aid of construction (sec. 536 of the Senate
amendment and sec. 118 of the Code)
PRESENT LAW
Section 118(a) provides that gross income of a
corporation does not include a contribution to its capital. In
general, section 118(b) provides that a contribution to the
capital of a corporation does not include any contribution in
aid of construction or any other contribution as a customer or
potential customer and, as such, is includible in gross income
of the corporation. However, for any amount of money or
property received by a regulated public utility that provides
water or sewerage disposal services, such amount shall be
considered a contribution to capital (excludible from gross
income) so long as such amount: (1) is a contribution in aid of
construction, and (2) is not included in the taxpayer's rate
base for rate-making purposes. If the contribution is in
property other than water or sewerage disposal facilities, the
amount is generally excludible from gross income only if the
amount is expended to acquire or construct water or sewerage
disposal facilities within a specified time period. A
contribution in aid of construction does not include a customer
connection fee or amounts paid as service charges for starting
or stopping services.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment clarifies that water and sewer
service laterals received by a regulated public utility that
provides water or sewerage disposal services is considered a
contribution to capital and excludible from gross income of
such utility.
Effective date.--The Senate amendment provision is
effective for contributions made after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
18. Travel expenses for spouses (sec. 537 of the Senate amendment and
sec. 274 of the Code)
PRESENT LAW
In general, no deduction is permitted for the travel
expenses of a spouse, dependent, or other individual
accompanying a taxpayer (or an officer or employee of the
taxpayer) on business travel.\370\
---------------------------------------------------------------------------
\370\ Sec. 274(m)(3).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment repeals this provision generally
prohibiting a deduction for the travel expenses of a spouse,
dependent, or other person accompanying a taxpayer (or an
officer or employee of a taxpayer). All other present-law
limitations on these expenses continue to apply.
Effective date.--The Senate amendment provision is
effective for expenses paid or incurred after the date of
enactment and on or before December 31, 2004.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
19. Certain sightseeing flights exempt from taxes on air transportation
(sec. 538 of the Senate amendment and sec. 4281 of the Code)
PRESENT LAW
The Code imposes a tax on amounts paid for the taxable
transportation of persons (``the ticket tax'') (sec. 4261(a)).
Taxable transportation for purposes of imposing the ticket tax
is transportation that begins and ends in the United States
(sec. 4262(a)). Aircrafts having a maximum certificated takeoff
weight of 6,000 pounds or less (``small aircraft'') are not
subject to the ticket tax unless such aircraft is operated on
an established line (sec. 4281).
Treasury regulations define the term ``operated on an
established line'' to mean operated with some degree of
regularity between definite points (Treas. Reg. sec. 49.4263-
5(c)). The term implies that the air carrier maintains control
over the direction, routes, time, number of passengers carried,
etc. The Treasury regulations also provide that transportation
need not be between two definite points to be taxable. A
payment for continuous transportation beginning and ending at
the same point is subject to the tax (Treas. Reg. sec. 49.4261-
1(c)). Thus, the ticket tax applies to regularly conducted
sightseeing air tours that begin and end at the same
point.\371\
---------------------------------------------------------------------------
\371\ See Lake Mead Air Inc. v. United States, 99-1 USTC par.
70,119 (D. Nev. 1997). The Lake Mead court found that that the tours
started and ended at the same point without fail therefore, the flights
were between definite points. Finding that the flights were operated
with some degree of regularity and between definite points, the court
found that the flights were operated on an established line. As a
result, the exemption for small aircraft operating on nonestablished
lines did not apply and the court concluded that the flights were
taxable transportation for purposes of the ticket tax. However, the
court found that Lake Mead was not a responsible person for collecting
the tax for purposes of the 100 percent penalty imposed by section
6672.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, small aircrafts are not
considered as operated on an established line if such aircraft
is operated on a flight the sole purpose of which is
sightseeing.
Effective date.--The Senate amendment provision is
effective with respect to transportation beginning on or after
the date of enactment, but does not apply to any amount paid
before such date.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
20. Required coverage for reconstructive surgery following mastectomies
(sec. 539 of the Senate amendment and new sec. 9813 of the
Code)
PRESENT LAW
The Women's Health and Cancer Rights Act of 1998 amended
ERISA and the Public Health Service Act to provide that health
plans offering mastectomy coverage must also provide coverage
for reconstructive breast surgery. Under ERISA, a group health
plan, and a health insurance issuer providing health insurance
coverage in connection with a group health plan, that provides
medical and surgical benefits with respect to mastectomies is
required to provide coverage for reconstructive surgery
following mastectomies.\372\ In the case of a participant or
beneficiary who is receiving benefits in connection with a
mastectomy and who elects breast reconstruction in connection
with such mastectomy, coverage is required for (1) all stages
of reconstruction of the breast on which the mastectomy has
been performed, (2) surgery and reconstruction of the other
breast to produce a symmetrical appearance, and (3) prostheses
and physical complications of mastectomy, including
lymphedemas, in a manner determined in consultation with the
attending physician and the patient.
---------------------------------------------------------------------------
\372\ ERISA sec. 713. A similar provision is also included in the
Public Health Service Act.
---------------------------------------------------------------------------
Coverage may be subject to annual deductibles and
coinsurance provisions as may be deemed appropriate and as are
consistent with those established for other benefits under the
plan or coverage. Written notice of the availability of the
coverage must be delivered to the participant upon enrollment
and annually thereafter. Notice must be in writing and
prominently positioned in any literature or correspondence made
available or distributed by the plan or issuer and must be
transmitted as specifically required.
A group health plan may not deny a patient eligibility,
or continued eligibility, to enroll or to renew coverage under
the terms of the plan, solely for the purpose of avoiding the
requirements of the provision. In addition, a group health plan
may not penalize or otherwise reduce or limit the reimbursement
of an attending provider, or provide incentives (monetary or
otherwise) to an attending provider, to induce such provider to
provide care to an individual participant or beneficiary in a
manner inconsistent with the provision. Nothing in the section
should be construed to prevent a group health plan from
negotiating the level and type of reimbursement with a provider
for care provided in accordance with the section.
The Code imposes an excise tax on failures to meet
certain group health plan requirements.\373\ The excise tax is
equal to $100 per day during the period of noncompliance and is
generally imposed on the employer sponsoring the plan if the
plan fails to meet the requirements. The maximum tax that can
be imposed during a taxable year cannot exceed the lesser of 10
percent of the employer's group health plan expenses for the
prior year or $500,000. No tax is imposed if the Secretary
determines that the employer did not know, and exercising
reasonable diligence would not have known, that the failure
existed.
---------------------------------------------------------------------------
\373\ Sec. 4980D.
---------------------------------------------------------------------------
Present law does not impose an excise tax relating to
required coverage for reconstructive surgery following
mastectomies.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment adds to the Code a provision
requiring a group health plan that provides medical and
surgical benefits with respect to a mastectomy to provide
coverage for reconstructive surgery following the mastectomy.
The requirements follow those of ERISA. A group health plan
that does not comply with the requirements of the provision is
subject to the excise tax on failures to meet certain group
health plan requirements.\374\
---------------------------------------------------------------------------
\374\ Sec. 4980D.
---------------------------------------------------------------------------
Under the new Code section, a group health plan that
provides medical and surgical benefits with respect to a
mastectomy must provide, in the case of a participant or
beneficiary who is receiving benefits in connection with a
mastectomy and who elects breast reconstruction in connection
with such mastectomy, coverage for (1) all stages of
reconstruction of the breast of which the mastectomy has been
performed, (2) surgery and reconstruction of the other breast
to produce a symmetrical appearance, and (3) prostheses and
physical complications of mastectomy, including lymphedemas, in
a manner determined in consultation with the attending
physician and the patient.
Coverage may be subject to annual deductibles and
coinsurance provisions as deemed appropriate and consistent
with those established for other benefits under the plan.
Written notification of the availability of such coverage must
be delivered to the participant upon enrollment and annually
thereafter. Unlike ERISA, the specific manner in which notice
must be given is not included in the new Code provision.
Under the Senate amendment, a group health plan may not
deny a patient eligibility, or continued eligibility, to enroll
or to renew coverage under the terms of the plan, solely for
the purpose of avoiding the requirements of the provision. In
addition, a group health plan may not penalize or otherwise
reduce or limit the reimbursement of an attending provider, or
provide incentives (monetary or otherwise) to an attending
provider, to induce such provider to provide care to an
individual participant or beneficiary in a manner inconsistent
with the provision. Nothing in the provision should be
construed to prevent a group health plan from negotiating the
level and type of reimbursement with a provider for care
provided in accordance with the provision.
Under the Senate amendment, in the case of a group heath
plan maintained pursuant to one or more collective bargaining
agreements between employee representatives and one or more
employers, any plan amendment made pursuant to a collective
bargaining agreement relating to the plan which amends the plan
solely to conform to any requirement added by the provision
will not be treated as a termination of the collective
bargaining agreement.
Effective date.--The Senate amendment provision is
effective for plan years beginning on or after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
21. Renewal community modifications (secs. 540 and 541 of the Senate
amendment and secs. 1400E and 1400H of the Code)
PRESENT LAW
The Code authorizes the designation of 40 ``renewal
communities'' within which special tax incentives will be
available. The following is a description of the designation
process and the tax incentives that will be available within
the renewal communities.
Designation process
Designation of 40 renewal communities.--The Secretary of
HUD, was authorized to designate up to 40 renewal communities
from areas nominated by States and local governments. At least
12 of the designated communities must be in rural areas. The
designation of an area as a renewal community terminates after
December 31, 2009.
Eligibility criteria.--To be designated as a renewal
community, a nominated area must meet the following criteria:
(1) each census tract must have a poverty rate of at least 20
percent; (2) in the case of an urban area, at least 70 percent
of the households have incomes below 80 percent of the median
income of households within the local government jurisdiction;
(3) the unemployment rate is at least 1.5 times the national
unemployment rate; and (4) the area is one of pervasive
poverty, unemployment, and general distress. Generally, those
areas with the highest average ranking of eligibility factors
(1), (2), and (3) above will be designated as renewal
communities.
The boundary of a renewal community must be continuous.
In addition, the renewal community must have a minimum
population of 4,000 if the community is located within a
metropolitan statistical area (at least 1,000 in all other
cases), and a maximum population of not more than 200,000. The
population limitations do not apply to any renewal community
that is entirely within an Indian reservation.
In addition, certain State and local government
commitments are necessary for an area to receive designation.
Tax incentives for renewal communities
The following tax incentives generally are available
during the period beginning January 1, 2002, and ending
December 31, 2009.
Zero-percent capital gain rate.--A zero-percent capital
gains rate applies with respect to gain from the sale of a
qualified community asset acquired after December 31, 2001, and
before January 1, 2010, and held for more than five years. A
``qualified community asset'' includes: (1) qualified community
stock (meaning original-issue stock purchased for cash in a
renewal community business); (2) a qualified community
partnership interest (meaning a partnership interest acquired
for cash in a renewal community business); and (3) qualified
community business property (meaning tangible property
originally used in a renewal community business by the
taxpayer) that is purchased or substantially improved after
December 31, 2001.
The termination of an area's status as a renewal
community will not affect whether property is a qualified
community asset, but any gain attributable to the period before
January 1, 2002, or after December 31, 2014, is not eligible
for the zero-percent rate.
Renewal community employment credit.--A 15-percent wage
credit is available to employers for the first $10,000 of
qualified wages paid to each employee who (1) is a resident of
the renewal community, and (2) performs substantially all
employment services within the renewal community in a trade or
business of the employer. In general, any taxable business
carrying out activities in the renewal community may claim the
wage credit.
Commercial revitalization deduction.--Each State is
permitted to allocate up to $12 million of ``commercial
revitalization expenditures'' to each renewal community located
within the State for each calendar year after 2001 and before
2010. The appropriate State agency will make the allocations
pursuant to a qualified allocation plan. A ``commercial
revitalization expenditure'' means the cost of a new building
or the cost of substantially rehabilitating an existing
building. The qualifying expenditures for any building cannot
exceed $10 million.
Additional section 179 expensing.--A renewal community
business is allowed an additional $35,000 of section 179
expensing for qualified renewal property placed in service
after December 31, 2001, and before January 1, 2010. The
section 179 expensing allowed to a taxpayer is phased out by
the amount by which 50 percent of the cost of qualified renewal
property placed in service during the year by the taxpayer
exceeds $200,000.
Extension of work opportunity tax credit (``WOTC'').--The
provision expands the high-risk youth and qualified summer
youth categories in the WOTC to include qualified individuals
who live in a renewal community.
Expiration date
The tax benefits available in renewal communities are
effective for the period beginning January 1, 2002, and ending
December 31, 2009.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides that an employee who
resides in one area that is designated as a renewal community,
but who works in a certain other area that also is designated
as a renewal community qualifies for the renewal community
employment credit. To qualify the area of residence and the
area of employment must be in the same State and within five
miles.
In addition, the Senate amendment provides that, at the
request of the local community, the Secretary of Housing and
Urban development may expand the size of an existing renewal
community to include a census tract that satisfy eligibility
standards based on the 2000 Census, but which did not qualify
based on the 1990 Census solely by reason of applicable 1990
population or poverty requirements. The Senate amendment also
permits, upon the request of the local community, the Secretary
of Housing and Urban Development to expand the size of an
existing renewal community to include certain adjacent census
tracts populated with 100 or fewer persons.
Effective date.--The Senate amendment provisions are
effective as if included in the Community Renewal Tax Relief
Act of 2000.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
22. Combat zone expansions (secs. 542 and 543 of the Senate amendment
and sec. 112 of the Code)
PRESENT LAW
In general, gross income does not include compensation
for active service in the armed forces of the United States
below the grade of commissioned officer for any month during
which the service person served in a combat zone.\375\ For
commissioned officers, the maximum excludible under this
provision is the highest level of pay for an enlisted person.
In general, the determination that an area is a combat zone is
made by the President by an Executive Order.\376\
---------------------------------------------------------------------------
\375\ Sec. 112.
\376\ Sec. 112(c)(2).
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment removes the limitation on this
exclusion for commissioned officers, so that their entire basic
pay is excludible. The Senate amendment also provides that
direct transit to and from a combat zone (not to exceed 14
days) is treated as service in a combat zone. The Senate
amendment treats military service as part of Operation Iraqi
Freedom in Guantanamo Bay, Cuba, and Diego Garcia as if it were
in a combat zone.
Effective date.--The Senate amendment provision is
effective on January 1, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
23. Ratable income inclusion for citrus canker tree payments (sec. 544
of the Senate amendment and secs. 451 and 1033 of the Code)
PRESENT LAW
Generally, a taxpayer recognizes gain on the sale or
exchange of property to the extent the sales price (and any
other consideration received) exceeds the seller's basis in the
property. The recognized gain is subject to current income tax
unless the gain is deferred or not recognized under a special
tax provision.
Under section 1033, gain realized by a taxpayer from an
involuntary conversion of property is deferred to the extent
the taxpayer purchases property similar or related in service
or use to the converted property within the applicable period.
The taxpayer's basis in the replacement property generally is
the same as the taxpayer's basis in the converted property,
decreased by the amount of any money or loss recognized on the
conversion, and increased by the amount of any gain recognized
on the conversion. The applicable period for the taxpayer to
replace the converted property begins with the date of the
disposition of the converted property (or the earliest date of
the threat or imminence of requisition or condemnation of the
converted property, whichever is earlier) and generally ends
two years after the close of the first taxable year in which
any part of the gain upon conversion is realized. Longer
replacement periods are available in the case of real property
and principal residences involuntarily converted as a result of
Presidentially declared disaster.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment permits a taxpayer to elect to
recognize any realized gain by reason of receiving a citrus
canker tree payment ratably over a 10-year period beginning
with the taxable year in which such payment is received or
accrued by the taxpayer. The provision defines a citrus canker
tree payment as a payment made to an owner of a commercial
citrus grove to recover income that was lost as a result of the
removal of commercial citrus trees to control canker under the
amendments to the citrus canker regulations made by the final
rule published in the Federal Register by the Secretary of
Agriculture on June 18, 2001. An election under the provision
is made by attaching a statement to that effect in the
taxpayer's return for the taxable year in which the payment is
received or accrued in the manner as the Secretary prescribes.
An election is binding for that taxable year and all subsequent
taxable years.
The Senate amendment also extends the applicable period
under section 1033 for a taxpayer to replace commercial citrus
trees which are involuntarily converted under a public order as
a result of citrus tree canker to four years. In addition, the
Secretary of the Treasury is granted authority to further
extend the replacement period on a regional basis if a State or
Federal health authority determines that the land on which such
trees grew is not free from the bacteria that causes citrus
tree canker.
Effective date.--The Senate amendment provision is
effective for taxable years beginning before, on, or after the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
24. Exclusion of certain punitive damage awards (sec. 545 of the Senate
amendment and sec. 104 of the Code)
PRESENT LAW
Under present law, gross income generally does not
include the amount of any damages received (whether by suit or
agreement and whether as lump sums or as periodic payments) by
individuals on account of personal physical injuries (including
death) or physical sickness.\377\ However, this exclusion does
not apply to punitive damages.\378\
---------------------------------------------------------------------------
\377\ Sec. 104(a)(2).
\378\ Id.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides an exclusion from gross
income for any portion of an award of punitive damages in a
civil action that is paid to a State under a split-award
statute or any attorneys' fees or other costs incurred by the
taxpayer in connection with obtaining such an award which are
allocable to such portion.
Under the Senate amendment, a ``split-award statute'' is
a State law that requires a fixed portion of an award of
punitive damages in a civil action to be paid to the State.
Effective date.--The Senate amendment applies to awards
made in taxable years ending after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
25. Repeal of pre-1997 tax on certain imported recycled halons (sec.
546 of the Senate amendment and sec. 4682 of the Code)
PRESENT LAW
An excise tax is imposed on the sale or use by the
manufacturer or importer of certain ozone-depleting chemicals
(sec. 4681). The amount of tax generally is determined by
multiplying the base tax amount applicable for the calendar
year by an ozone-depleting factor assigned to each taxable
chemical. The base tax amount was $5.80 per pound in 1996 and
$6.25 per pound in 1997, and increased by $0.45 cents per pound
per year thereafter. The ozone-depleting factors for taxable
halons are three for halon-1211, 10 for halon-1301, and six for
halon-2402.
In general, taxable chemicals that are recovered and
recycled within the United States are exempt from tax. In
addition, exemption is provided for imported recycled halon-
1301 and halon-2402 if such chemicals are imported after
December 31, 1996, from countries that are signatories to the
Montreal Protocol on Substances that Deplete the Ozone Layer.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides that no tax is liable for
imported recycled halon-1301 or halon-2402 if such chemicals
were imported after December 31, 1993, from countries that were
signatories to the Montreal Protocol on Substances that Deplete
the Ozone Layer at the time such chemicals were imported. In
addition, the Senate amendment provides that no tax is liable
for imported recycled halon-1211 if such chemicals were
imported after December 31, 1993 and before August 5, 1997,
from countries that were signatories to the Montreal Protocol
on Substances that Deplete the Ozone Layer at the time such
chemicals were imported. If, before the end of the one-year
period commencing with the date of enactment, any taxpayer who
previously paid tax under the then prevailing law files for a
refund or credit of taxes paid, such refund or credit is to be
made.
Effective date.--The Senate amendment provision is
effective upon the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
26. Modification of involuntary conversion rules for businesses
affected by the September 11, 2001 terrorist attacks (sec. 547
of the Senate amendment and sec. 1400L of the Code)
PRESENT LAW
A taxpayer may elect not to recognize gain with respect
to property that is involuntarily converted if the taxpayer
acquires within an applicable period (the ``replacement
period'') property similar or related in service or use
(section 1033). If the taxpayer does not replace the converted
property with property similar or related in service or use,
then gain generally is recognized. If the taxpayer elects to
apply the rules of section 1033, gain on the converted property
is recognized only to the extent that the amount realized on
the conversion exceeds the cost of the replacement property. In
general, the replacement period begins with the date of the
disposition of the converted property and ends two years after
the close of the first taxable year in which any part of the
gain upon conversion is realized.\379\ The replacement period
is extended to three years if the converted property is real
property held for the productive use in a trade or business or
for investment.\380\
---------------------------------------------------------------------------
\379\ Section 1033(a)(2)(B).
\380\ Section 1033(g)(4).
---------------------------------------------------------------------------
The Jobs Creation and Worker Assistance Act of 2002 \381\
extends the replacement period to five years for a taxpayer to
purchase property to replace property that was involuntarily
converted within the New York Liberty Zone \382\ as a result of
the terrorist attacks that occurred on September 11, 2001.
However, the five-year period is available only if
substantially all of the use of the replacement property is in
New York City. In all other cases, the present-law replacement
period rules continue to apply.
---------------------------------------------------------------------------
\381\ Pub. Law No. 107-147, sec. 301 (2002).
\382\ The ``New York Liberty Zone'' generally is the area located
on or south of Canal street, East Broadway (east of its intersection
with Canal Street), or Grand Street (east of its intersection with East
Broadway) in the Borough of Manhattan, New York, New York.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
For property that was involuntarily converted within the
New York Liberty Zone as a result of the terrorist attacks that
occurred on September 11, 2001, the Senate amendment provides
that if a taxpayer is a member of an affiliated group of
corporations filing a consolidated return that replacement
property may be purchased by any member of the affiliated group
(in lieu of the taxpayer).\383\
---------------------------------------------------------------------------
\383\ It is anticipated that the Secretary of the Treasury will
issue guidance as may be necessary to ensure that gain shall not be
recognized under the consolidated return provisions and to ensure that
any investment adjustments, or any other adjustments under the
consolidated regulations, accurately reflect the implications of
permitting another member of the consolidated group to purchase the
replacement property.
---------------------------------------------------------------------------
Effective date.--The Senate amendment provision is
effective for involuntary conversions in the New York Liberty
Zone occurring on or after September 11, 2001.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
D. Medicare Provisions (Secs. 561-576 of the Senate Amendment)
PRESENT LAW
Standardized Amount Equalization
Present law pays rural and small urban facilities 1.6
percent less on every inpatient discharge than their
counterparts in urban areas of a million or more people.
Equalization of Medicare Disproportionate Share (DSH) Payments
Present law differentiates between rural and urban
hospitals that treat vulnerable populations.
Assistance for Low Volume Hospitals
Present law fails to recognize the special costs incurred
by hospitals with less than 2,000 discharges per year.
Revision of Labor Share to 62 percent
Medicare's standardized amounts are apportioned into a
labor-related amount (which is then adjusted by the wage index
value of the area where the hospital is located or to which it
has been reassigned) and a nonlabor-related amount (which is
generally not subject to geographical adjustment). Under
present law, the labor-related amount comprises 71.1 percent of
the national standardized amount.
Extend Hold Harmless for Rural Hospitals under Hospital Outpatient
Prospective Payment System
Present law payments to outpatient hospital departments
vary from year to year.
Critical Access Hospital Improvements
Many rural hospitals have elected to become critical
access hospitals (CAHs) under present law.
10-percent Add-on for Rural Home Health Agencies
Special add-on payment to rural home health agencies
expired on April 1, 2003.
Five-percent Add-on for Clinic and Emergency Room Visits for Small
Rural Hospitals
Present law treats clinic and emergency room visits no
differently than other services provided by the hospital.
Five-percent Add-on for Rural Ground Ambulance Trips
Present law fails to compensate for the long distances
rural ambulances drive to treat patients.
Exclusion of Services Provided By Rural Health Clinic-based
Practitioners from SNF Consolidated Billing
Present law requires providers based in a rural health
clinic to submit their bills for services provided to nursing
home patients to the nursing home rather than to Medicare.
Make 10-percent Bonus Payments under Medicare Incentive Payment Program
Automatic
Present law requires physicians participating in the
Medicare Incentive Payment program to apply for bonus payments
when they elect to serve in Health Professional Shortage Areas.
Two-Year Extension of Reasonable Cost Payments for Laboratory Tests in
Sole Community Hospitals
Present law allows laboratory tests performed in sole
community hospitals to be paid at their reasonable cost, rather
than under a fee schedule.
Set Work, Practice Expense and Malpractice Geographic Indices for
Physician Payments at 1.0
Present law adjusts three components of physician
payments under the physician fee schedule based on geography.
10-Year Freeze in CPI Updates for Durable Medical Equipment,
Prosthetics and Orthotics
Present law produces payment updates equal to CPI for
providers and suppliers in this category.
Collect Coinsurance and Deductible Amounts for Clinical Laboratory
Tests
Present law includes no cost-sharing obligation for
clinical laboratory tests.
Limit Reimbursement for Currently Covered Drugs
Present law pays for limited prescription drugs and
biologicals at 95 percent of the product's average wholesale
price.
HOUSE BILL
No provision.
SENATE AMENDMENT
Standardized Amount Equalization
The Senate amendment raises the inpatient base rate for
hospitals in rural and small urban areas to the same rate as
that in large urban areas.
Equalization of Medicare Disproportionate Share (DSH) Payments
The Senate amendment equalizes payments to both rural and
urban hospitals that receive Medicare DSH payments.
Assistance for Low Volume Hospitals
The Senate amendment improves payments for those
hospitals with extremely low annual patient volume.
Revision of Labor Share to 62 percent
The Senate amendment reduces the labor-related amount to
62 percent of the national standardized amount.
Extend Hold Harmless for Rural Hospitals Under Hospital Outpatient
Prospective Payment System
The Senate amendment protects rural hospitals against
possible reductions due to the new outpatient prospective
payment system through 2006.
Critical Access Hospital Improvements
The Senate amendment (1) reinstates Periodic Interim
Payment (PIP), which provides facilities with a steadier stream
of payment in order to improve their cash flow; (2) eliminates
the current requirement that CAH-based ambulance services be at
least 35 miles from another ambulance service in order to
receive cost-based payment; and (3) provides coverage for
emergency on-call providers, and (4) excludes CAHs from the
wage index calculation.
10-percent Add-on for Rural Home Health Agencies
The Senate amendment extends special add-on payments that
expired April 1, 2003 to rural home health agencies and makes
them permanent.
Five-percent Add-on for Clinic and Emergency Room Visits for Small
Rural Hospitals
The Senate amendment increases Medicare payment for
visits to small rural hospitals' outpatient clinics and
emergency rooms, which serve a critical primary care function
in rural areas.
Five-percent Add-on for Rural Ground Ambulance Trips
The Senate amendment extends a five-percent add-on
payment for all ground ambulance trips provided in a rural
area.
Exclusion of Services Provided By Rural Health Clinic-based
Practitioners From SNF Consolidated Billing
The Senate amendment exempts practitioners based in rural
health clinics from the requirement to submit their bills for
services provided to nursing home patients to the nursing home
rather than to Medicare, reducing administrative burdens and
making their payments more predictable.
Make 10-percent Bonus Payments Under Medicare Incentive Payment Program
Automatic
Present law requires physicians participating in the
Medicare Incentive Payment program to apply for bonus payments
when they elect to serve in Health Professional Shortage Areas.
The Senate amendment makes bonus payments automatic to
physicians participating in the Medicare Incentive Payment
program, eliminating bureaucratic barriers to receipt of such
funds.
Two-Year Extension of Reasonable Cost Payments for Laboratory Tests in
Sole Community Hospitals
The Senate amendment extends the allowance for laboratory
tests performed in sole community hospitals to be paid at their
reasonable cost, rather than under a fee schedule for an
additional two years.
Set Work, Practice Expense and Malpractice Geographic Indices for
Physician Payments at 1.0
The Senate amendment sets a floor of 1.0 on geographic
adjustments to the work, practice expense and professional
liability insurance components of physician payment.
10-Year Freeze in CPI Updates for Durable Medical Equipment,
Prosthetics and Orthotics
The Senate amendment freezes CPI updates for payment for
durable medical equipment, prosthetics, and orthotics for ten
years.
Collect Coinsurance and Deductible Amounts for Clinical Laboratory
Tests
The Senate amendment extends the same coinsurance and
deductible rules to clinical laboratory tests that apply to all
other Part B services.
Limit Reimbursement for Currently Covered Drugs
The Senate amendment lowers that amount paid for limited
prescription drugs and biologicals to 85 percent of the
product's average wholesale price, or the amount payable for
the product during the last quarter of the previous year,
whichever is lower.
CONFERENCE AGREEMENT
The conference agreement does not in the Senate amendment
provisions.
E. Provisions Relating to S Corporations (Secs. 581-594 of the Senate
Amendment and Sections 1361-1379 of the Code)
1. Shareholders of an S corporation
PRESENT LAW
The taxable income or loss of an S corporation is taken
into account by the corporation's shareholders, rather than by
the entity, whether or not such income is distributed. A small
business corporation may elect to be treated as an S
corporation. A ``small business corporation'' is defined as a
domestic corporation which is not an ineligible corporation and
which does not have (1) more than 75-shareholders; (2) as a
shareholder, a person (other than certain trusts, estates,
charities, and qualified retirement plans) who is not an
individual; (3) a nonresident alien as a shareholder; and (4)
more than one class of stock. For purposes of the 75-
shareholder limitation, a husband and wife are treated as one
shareholder. An ``ineligible corporation'' means any
corporation that is a member of an affiliated group, certain
financial institutions that use the reserve method of
accounting for bad debts, certain insurance companies, a
section 936 corporation, or a DISC or former DISC.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision provides that all family
members owning stock can elect to be treated as one
shareholder. A family is defined as the lineal descendants of a
common ancestor (and their spouses). The common ancestor cannot
be more than six generations removed from the youngest
generation of shareholder at the time the S election is made
(or the effective date of this provision, if later). The
election is made available to only one family per corporation,
must be made with the consent of all shareholders of the
corporation and remains in effect until terminated.
The Senate amendment provision increases the maximum
number of eligible shareholders from 75 to 100.
Finally, under the Senate amendment nonresident aliens
are allowed as beneficiaries of an electing small business
trust.
Effective date.--The Senate amendment provisions apply to
taxable years beginning after December 31, 2003, except that
the provision relating to nonresident aliens is effective on
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
2. Termination of election and additions to tax due to passive
investment income
PRESENT LAW
An S corporation is subject to corporate-level tax, at
the highest marginal corporate tax rate, on its net passive
income if the corporation has (1) subchapter C earnings and
profits at the close of the taxable year and (2) gross receipts
more than 25 percent of which are passive investment income.
In addition, an S corporation election is terminated
whenever the corporation has subchapter C earnings and profits
at the close of three consecutive taxable years and has gross
receipts for each of such years more than 25 percent of which
are passive investment income.
For these purposes, ``passive investment income''
generally means gross receipts derived from royalties, rents,
dividends, interest, annuities, and sales or exchanges of stock
or securities (to the extent of gains). ``Passive investment
income'' generally does not include interest on accounts
receivable, gross receipts that are derived directly from the
active and regular conduct of a lending or finance business,
gross receipts from certain liquidations, or gain or loss from
any section 1256 contract (or related property) of an options
or commodity dealer. ``Net passive income'' is defined as
passive investment income reduced by the allowable deductions
that are directly connected with the production of the income.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision increases the 25-percent
threshold to 60 percent.
Also, the Senate amendment repeals capital gain as a
category of passive income.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
3. Treatment of S corporation shareholders
(a) In general
PRESENT LAW
In general, each S corporation shareholder takes into
account its pro rata share of the S corporation income and loss
for the taxable year.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision makes the following
changes in the treatment of S corporation shareholders:
Under the Senate amendment provision, if a shareholder's
stock in an S corporation is transferred incident to a divorce
decree, the pro rata share of any suspended corporate loss is
transferred to the transferee spouse.
Under the Senate amendment provision, the beneficiary of
a qualified subchapter S trust is allowed the suspended losses
under the at-risk rules and the passive loss rules when the
trust disposes of the stock.
Effective date.--The Senate amendment provisions apply to
taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
(b) Electing small business trusts
PRESENT LAW
Under present law, an electing small business trust
(``ESBT'') may be an S corporation shareholder. In general, the
beneficiaries of an ESBT must be individuals and others
taxpayers that may own stock in an S corporation directly. Each
potential current beneficiary of the trust is counted as a
shareholder in determining whether or not the corporation meets
the requirement that an S corporation have no more than 75
shareholders.
The portion of the trust consisting of S corporation
stock is treated as a separate trust. The trust is taxed at the
maximum trust tax rate (which is the same as the maximum
individual tax rate) on the items of income, deduction, gain,
or loss passing through from the S corporation. The remaining
portion of the trust is treated as a separate trust taxed under
the normal rules relating to the taxation of trusts and
beneficiaries. In computing the amount of the distribution
deduction for the trust, no subchapter S items are taken into
account.
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment provision, unexercised powers
of appointment are disregarded in determining the beneficiaries
of an electing small business trust.
Under the Senate amendment provision, the treatment of
distributions from an electing small business trust is
clarified by treating distributions from each portion (i.e.,
the portion attributable to the S corporation stock and the
remaining portion) of the trust as separate distributions.
Effective date.--The Senate amendment provisions apply to
taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the provision
in the Senate amendment provision.
4. Provisions relating to banks
(a) IRAs holding bank stock
PRESENT LAW
An individual retirement arrangement (``IRA'') may not
hold stock in an S corporation.
The Code contains rules prohibiting certain transactions
between disqualified persons and certain tax-favored retirement
arrangements, including IRAs. These rules are designed to
prevent certain self-dealing transactions. For example, the
sale of an asset held by an IRA to the beneficiary of the IRA
is a prohibited transaction. In general, an excise tax is
imposed on prohibited transactions. In the case of an IRA,
however, if the IRA beneficiary engages in a prohibited
transaction, the excise tax does not apply and, instead, the
IRA ceases to be an IRA.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision provides that the sale of
holding bank stock held in an IRA to the beneficiary of the IRA
is not a prohibited transaction, in order to allow the
corporation to be eligible to elect to be an S corporation.
Effective date.--The Senate amendment provision applies
to stock held by an IRA on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
(b) Exclusion of investment securities income from passive
income test for bank S corporations
PRESENT LAW
An S corporation is subject to corporate-level tax, at
the highest marginal corporate tax rate, on its net passive
income if the corporation has (1) subchapter C earnings and
profits at the close of the taxable year and (2) gross receipts
more than 25 percent of which are passive investment income.
In addition, an S corporation election is terminated
whenever the corporation has subchapter C earnings and profits
at the close of three consecutive taxable years and has gross
receipts for each of such years more than 25 percent of which
are passive investment income.
For these purposes, ``passive investment income''
generally means gross receipts derived from royalties, rents,
dividends, interest, annuities, and sales or exchanges of stock
or securities (to the extent of gains). ``Passive investment
income'' generally does not include interest on accounts
receivable, gross receipts that are derived directly from the
active and regular conduct of a lending or finance business,
gross receipts from certain liquidations, or gain or loss from
any section 1256 contract (or related property) of an options
or commodity dealer. ``Net passive income'' is defined as
passive investment income reduced by the allowable deductions
that are directly connected with the production of the income.
HOUSE BILL
No amendment.
SENATE AMENDMENT
The Senate amendment provision provides that, in the case
of a bank or bank holding company, passive income does not
include interest and does not include dividends on assets
required to be held by the bank or bank holding company.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
(c) Treatment of qualifying director shares
PRESENT LAW
A small business corporation may elect to be treated as
an S corporation. A ``small business corporation'' is defined
as a domestic corporation which is not an ineligible
corporation and which does not have (1) more than 75
shareholders; (2) as a shareholder, a person (other than
certain trusts, estates, charities, or qualified retirement
plans) who is not an individual; (3) a nonresident alien as a
shareholder; and (4) more than one class of stock.
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment provision, shares held by
reason of being a bank director that are subject to an
agreement pursuant to which the holder is required to dispose
of the shares upon termination of the holder's status as a
director at the same price the individual acquired the shares
are not treated as a second class of stock. Distributions are
treated like interest payments.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
5. Qualified subchapter S subsidiaries
(a) Relief from inadvertently invalid qualified subchapter
S subsidiaries and elections and terminations
PRESENT LAW
Under present law, inadvertent subchapter S elections and
terminations may be waived.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision allows inadvertent
qualified subchapter S subsidiary elections and terminations to
be waived by the IRS.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
(b) Information returns for qualified subchapter S
subsidiaries
PRESENT LAW
Under present law, a wholly owned subsidiary of an S
corporation may elect to be treated as not a separate
corporation. The assets, liabilities, and items of income,
deduction, and credit of the subsidiary are treated as assets,
liabilities, and items of the parent S corporation.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision provides authority to the
Secretary of the Treasury to provide guidance regarding
information returns of subchapter S subsidiaries.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
6. Elimination of all earnings and profits attributable to pre-1983
years
PRESENT LAW
The Small Business Job Protection Act of 1996 provided
that if a corporation was an S corporation for its first
taxable year beginning after 1996, the accumulated earnings and
profits of the corporation were reduced as of the beginning of
that year by the accumulated earnings and profits (if any)
accumulated in a taxable year beginning before 1983 for which
the corporation was an electing small business corporation
under subchapter S.
HOUSE BILL
No provision.
Senate Amendment
The Senate amendment provision eliminates all accumulated
earnings and profits of a corporation accumulated in a taxable
year beginning before 1983 for which the corporation was an
electing small business corporation under subchapter S.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
VIII. Blue Ribbon Commission on Comprehensive Tax Reform (Secs. 601-607
of the Senate Amendment)
PRESENT LAW
No provision.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment establishes the Blue Ribbon
Commission on Comprehensive Tax Reform (the ``Commission'').
The Commission is composed of 12 members, of whom: (1) one is
the Chairman of the Board of the Federal Reserve System; (2)
two are appointed by the majority leader of the Senate; (3) two
are appointed by the minority leader of the Senate; (4) two are
appointed by the Speaker of the House of Representatives; (5)
two are appointed by the minority leader of the House of
Representatives; and (6) three are appointed by the President,
of which no more than two will be of the same party as the
President. Members of the Commission may be employees or former
employees of the Federal Government. Appointments of Commission
members will be made not later than July 30, 2003. Members of
the Commission will be appointed for the life of the
Commission. Any vacancy in the Commission will not affect its
powers but will be filled in the same manner as the original
appointment.
The Commission will hold its first meeting not later than
30 days after the date on which all Commission members have
been appointed. The President will select a Commission Chairman
(``Chairman'') and Vice Chairman from among the members of the
Commission. The Commission will meet at the call of the
Chairman. A majority of the members of the Commission will
constitute a quorum, but a lesser number of members may hold
hearings (discussed below).
The Commission will conduct a thorough study of all
matters relating to a comprehensive reform of the Federal tax
system, including the reform of the Internal Revenue Code of
1986 and the implementation (if appropriate) of other types of
tax systems. The Commission will develop recommendations on how
to comprehensively reform the Federal tax system in a manner
that generates appropriate revenue for the Federal Government.
Not later than 18 months after the date on which all initial
members of the Commission have been appointed, the Commission
will submit a report to the President and Congress which will
contain a detailed statement of the findings and conclusions of
the Commission, together with its recommendations for such
legislation and administrative actions as it considers
appropriate.
The Commission may hold such hearings, sit and act at
such times and places, take such testimony, and receive such
evidence as the Commission considers advisable to carry out the
amendment. Additionally, the Commission may secure directly
from any Federal department or agency such information as the
Commission considers necessary to carry out the amendment. Upon
request of the Chairman, the head of such department or agency
will furnish suchinformation to the Commission. The Commission
may use the United States mails in the same manner and under the same
condition as other departments and agencies of the Federal Government.
The Commission may accept, use, and dispose of gifts or donations of
services or property.
Each member of the Commission who is not an officer or
employee of the Federal Government will be compensated at a
rate equal to the daily equivalent of a prescribed annual rate
of pay \384\ for each day (including travel time) during which
such member is engaged in the performance of the duties of the
Commission. All members of the Commission who are officers or
employees of the United States will serve without compensation
in addition to that received for their services as officers or
employees of the United States. Commission members will be
allowed travel expenses, including per diem in lieu of
subsistence, at rates authorized for employees of agencies
while away from their homes or regular places of business in
the performance of services for the Commission.\385\
---------------------------------------------------------------------------
\384\ The applicable rate of pay is the basic pay prescribed for
level IV of the Executive Schedule under 5 U.S.C. 5315.
\385\ Subchapter I of chapter 57 of title 5, U.S.C.
---------------------------------------------------------------------------
The Chairman, without regard to the civil service laws
and regulations, may appoint and terminate an executive
director and such other additional personnel as may be
necessary to enable the Commission to perform its duties. The
employment of an executive director will be subject to
confirmation by the Commission. The Chairman may fix the
compensation of the executive director and other personnel
without regard to classification of positions and general
schedule pay rates,\386\ except that the rate of pay for the
executive director and other personnel may not exceed the rate
payable for level V of the executive schedule.\387\
---------------------------------------------------------------------------
\386\ Chapter 51 and subchapter III of chapter 53 of title 5,
U.S.C.
\387\ 5 U.S.C. 5316.
---------------------------------------------------------------------------
Any employee of the Federal Government may be detailed to
the Commission without reimbursement, and such detail will be
without interruption or loss of civil service status or
privilege. The Chairman may procure temporary and intermittent
services \388\ at rates for individuals which do not exceed the
daily equivalent of the annual rate of basic pay prescribed for
level V of the executive schedule.
---------------------------------------------------------------------------
\388\ 5 U.S.C. 3109(b).
---------------------------------------------------------------------------
The Commission will terminate 90 days after the date on
which the Commission submits the report required by the
provision. Such sums as are necessary to carry out the Senate
amendment are appropriated.
Effective date.--The Senate amendment is effective on the
date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
IX. REIT Provisions
A. REIT Modification Provisions (Secs. 701-707 of the Senate Amendment
and Secs. 856 and 857 of the Code)
PRESENT LAW
In general
Real estate investment trusts (``REITs'') are treated, in
substance, as pass-through entities under present law. Pass-
through status is achieved by allowing the REIT a deduction for
dividends paid to its shareholders. REITs are generally
restricted to investing in passive investments primarily in
real estate and securities.
A REIT must satisfy four tests on a year-by-year basis:
organizational structure, source of income, nature of assets,
and distribution of income. Whether the REIT meets the asset
tests is generally measured each quarter.
Organizational structure requirements
To qualify as a REIT, an entity must be for its entire
taxable year a corporation or an unincorporated trust or
association that would be taxable as a domestic corporation but
for the REIT provisions, and must be managed by one or more
trustees. The beneficial ownership of the entity must be
evidenced by transferable shares or certificates of ownership.
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, and the entity may not be so closely
held by individuals that it would be treated as a personal
holding company if all its adjusted gross income constituted
personal holding company income. A REIT is disqualified for any
year in which it does not comply with regulations to ascertain
the actual ownership of the REIT's outstanding shares.
Income requirements
In order for an entity to qualify as a REIT, at least 95
percent of its gross income generally must be derived from
certain passive sources (the ``95-percent income test''). In
addition, at least 75 percent of its income generally must be
from certain real estate sources (the ``75-percent income
test''), including rents from real property (as defined) and
gain from the sale or other disposition of real property.
Qualified rental income
Amounts received as impermissible ``tenant services
income'' are not treated as rents from real property.\389\ In
general, such amounts are for services rendered to tenants that
are not ``customarily furnished'' in connection with the rental
of real property.\390\ Special rules also permit amounts to be
received from certain ``foreclosure property'' treated as such
for 3 years after the property is acquired by the REIT in
foreclosure after a default (or imminent default) on a lease of
such property or an indebtedness which such property secured.
---------------------------------------------------------------------------
\389\ A REIT is not treated as providing services that produce
impermissible tenant services income if such services are provided by
an independent contractor from whom the REIT does not derive or receive
any income. An independent contractor is defined as a person who does
not own, directly or indirectly, more than 35 percent of the shares of
the REIT. Also, no more than 35 percent of the total shares of stock of
an independent contractor (or of the interests in net assets or net
profits, if not a corporation) can be owned directly or indirectly by
persons owning 35 percent or more of the interests in the REIT.
\390\ Rents for certain personal property leased in connection are
treated as rents from real property if the fair market value of the
personal property does not exceed 15 percent of the aggregate fair
market values of the real and personal property
---------------------------------------------------------------------------
Rents from real property, for purposes of the 95-percent
and 75-percent income tests, generally do not include any
amount received or accrued from any person in which the REIT
owns, directly or indirectly, 10 percent or more of the vote or
value.\391\ An exception applies to rents received from a
taxable REIT subsidiary (``TRS'') (described further below) if
at least 90 percent of the leased space of the property is
rented to persons other than a TRS or certain related persons,
and if the rents from the TRS are substantially comparable to
unrelated party rents.\392\
---------------------------------------------------------------------------
\391\ Section 856(d)(2)(B).
\392\ Section 856(d)(8).
---------------------------------------------------------------------------
Certain hedging instruments
Except as provided in regulations, a payment to a REIT
under an interest rate swap or cap agreement, option, futures
contract, forward rate agreement, or any similar financial
instrument, entered into by the trust in a transaction to
reduce the interest rate risks with respect to any indebtedness
incurred or to be incurred by the REIT to acquire or carry real
estate assets, and any gain from the sale or disposition of any
such investment, is treated as income qualifying for the 95-
percent income test.
Tax if qualified income tests not met
If a REIT fails to meet the 95-percent or 75-percent
income tests but has set out the income it did receive in a
schedule and any error in the schedule is due to reasonable
cause and not willful neglect, then the REIT does not lose its
REIT status but instead pays a tax measured by the greater of
the amount by which 90 percent \393\ of the REIT's gross income
exceeds the amount of items subject to the 95-percent test, or
the amount by which 75 percent of the REIT's gross income
exceeds the amount of items subject to the 75-percent
test.\394\
---------------------------------------------------------------------------
\393\ Prior to 1999, the rule had applied to the amount by which 95
percent of the income exceeded the items subject to the 95 percent
test.
\394\ The ratio of the REIT's net to gross income is applied to the
excess amount, to determine the amount of tax (disregarding certain
items otherwise subject to a 100-percent tax). In effect, the formula
seeks to require that all of the REIT net income attributable to the
failure of the income tests will be paid as tax. Sec. 857(b)(5).
---------------------------------------------------------------------------
Income or loss from prohibited transactions
In general, a REIT must derive its income from passive
sources and not engage in any active trade or business. A 100
percent tax is imposed on the net income of a REIT from
``prohibited transactions''. A prohibited transaction is the
sale or other disposition of property described in section
1221(1) of the Code (property held for sale in the ordinary
course of a trade or business) other than foreclosure
property.\395\ A safe harbor is provided for certain sales of
rent producing real property that otherwise might be considered
prohibited transactions. The safe harbor is limited to seven or
fewer sales a year or, alternatively, any number of sales
provided that the aggregate adjusted basis of the property sold
does not exceed 10 percent of the aggregate basis of all the
REIT's assets at the beginning of the REIT's taxable year. The
safe harbor only applies to property that has been held by the
REIT for at least 4 years. In addition, property is eligible
for the safe harbor only if the aggregate expenditures made
directly or indirectly by the REIT during the 4-year period
prior to date of sale do not exceed 30 percent of the net
selling price of the property.
---------------------------------------------------------------------------
\395\ Thus, the 100 percent tax on prohibited transactions helps to
ensure that the REIT is a passive entity and may not engage in ordinary
retailing activities such as sales to customers of condominium units or
subdivided lots in a development project.
---------------------------------------------------------------------------
Certain timber income
REITs have been formed to hold land on which trees are
grown. Upon maturity of the trees, the standing trees are sold
by the REIT to its taxable REIT subsidiary, which cuts and logs
the trees and processes the timber to produce lumber, lumber
products such a plywood or composite. The Internal Revenue
Service has issued private letter rulings in particular
instances stating that the income can qualify as REIT real
property income because the uncut timber and the timberland on
which the timber grew is considered real property and the sale
of uncut trees can qualify as capital gain derived from the
sale of real property.\396\
---------------------------------------------------------------------------
\396\ See, e.g., PLR 200052021, PLR 199945055, PLR 19927021, PLR
8838016. A private letter ruling may be relied upon only by the
taxpayer to which the ruling is issued. However, such rulings provide
an indication of administrative practice.
---------------------------------------------------------------------------
Asset requirements
To satisfy the asset requirements to qualify for
treatment as a REIT, 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 (the ``75-percent asset
test''). The term real estate asset is defined to mean real
property (including interests in real property and mortgages on
real property) and interests in REITs.
Limitation on investment in other entities
A REIT is limited in the amount that it can own in other
corporations. Specifically, a REIT cannot own securities (other
than Government securities and certain real estate assets) in
an amount greater than 25 percent of the value of REIT assets.
In addition, it cannot own such securities of any one issuer
representing more than 5 percent of the total value of REIT
assets or more than 10 percent of the voting securities or 10
percent of the value of the outstanding securities of any one
issuer. Securities for purposes of these rules are defined by
reference to the Investment Company Act of 1940.
``Straight debt'' exception
Securities of an issuer that are within a safe-harbor
definition of ``straight debt'' (as defined for purposes of
subchapter S \397\ are not taken into account in applying the
limitation that a REIT may not hold more than 10 percent of the
value of outstanding securities of a single issuer, if: (1) the
issuer is an individual, or (2) the only securities of such
issuer held by the REIT or a taxable REIT subsidiary of the
REIT are straight debt, or (3) the issuer is a partnership and
the trust holds at least a 20 percent profits interest in the
partnership.
---------------------------------------------------------------------------
\397\ Section 1361(c)(5), without regard to paragraph (B)(iii)
thereof.
---------------------------------------------------------------------------
Straight debt is defined as a written or unconditional
promise to pay on demand or on a specified date a sum certain
in money if (i) the interest rate (and interest payment dates)
are not contingent on profits, the borrower's discretion, or
similar factors; (ii) there is no convertibility (directly or
indirectly) into stock; and (iii) the creditor is an individual
(other than a nonresident alien), an estate, certain trusts, or
a person which is actively and regularly engaged in the
business of lending money.
Certain subsidiary ownership permitted with income treated
as income of the REIT
Under one exception to the rule limiting a REIT's
securities holdings to no more than 10 percent of the vote or
value of a single issuer, a REIT can own 100 percent of the
stock of a corporation, but in that case the income and assets
of such corporation are treated as income and assets of the
REIT.
Special rules for Taxable REIT subsidiaries
Under another exception to the general rule limiting REIT
securities ownership of other entities, a REIT can own stock of
a taxable REIT subsidiary (``TRS''), generally, a corporation
other than a real estate investment trust \398\ with which the
REIT makes a joint election to be subject to special rules. A
TRS can engage in active business operations that would produce
income that would not be qualified income for purposes of the
95-percent or 75-percent income tests for a REIT, and that
income is not attributed to the REIT. For example a TRS could
provide noncustomary services to REIT tenants, or it could
engage directly in the active operation and management of real
estate (without use of an independent contractor); and the
income the TRS derived from these nonqualified activities would
not be treated as disqualified REIT income. Transactions
between a TRS and a REIT are subject to a number of specified
rules that are intended to prevent the TRS (taxable as a
separate corporate entity) from shifting taxable income from
its activities to the pass through entity REIT or from
absorbing more than its share of expenses. Under one rule, a
100 percent excise tax is imposed on rents, deductions, or
interest paid by the TRS to the REIT to the extent such items
would exceed an arm's length amount as determined under section
482.\399\
---------------------------------------------------------------------------
\398\ Certain corporations are not eligible to be a TRS, such as a
corporation which directly or indirectly operates or manages a lodging
facility or a health care facility or directly or indirectly provides
to any other person rights to a brand name under which any lodging
facility or health care facility is operated. Sec. 856((1)(3).
\399\ If the excise tax applies, the item is not also reallocated
back to the TRS under section 482.
---------------------------------------------------------------------------
Rents subject to the 100 percent excise tax do not
include rents for services of a TRS that are for services
customarily furnished or rendered in connection with the rental
of real property.
They also do not include rents from a TRS that are for
real property or from incidental personal property provided
with such real property.
Income distribution requirements
A REIT is generally required to distribute 90 percent of
its income before the end of its taxable year, as deductible
dividends paid to shareholders. This rule is similar to a rule
for regulated investment companies (``RICs'') that requires
distribution of 90 percent of income. Both RICS and REITs can
make certain ``deficiency dividends'' after the close of the
taxable year, and have these treated as made before the end of
the year. Deficiency dividends may be declared on or after the
date of ``determination''. A determination is defined to
include only (i) a final decision by the Tax Court or other
court of competent jurisdiction, (ii) a closing agreement under
section 7121, or (iii) under Treasury regulations, an agreement
signed by the Secretary and the REIT.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment makes a number of modifications to
the REIT rules.
Straight debt modification
The provision modifies the definition of ``straight
debt'' for purposes of the limitation that a REIT may not hold
more than 10 percent of the value of the outstanding securities
of a single issuer, to provide more flexibility than the
present law rule. In addition, except as provided in
regulations, neither such straight debt nor certain other types
of securities are considered ``securities'' for purposes of
this rule.
Straight debt securities
``Straight-debt'' is still defined by reference to
section 1361(c)(5), however, without regard to subparagraph
(B)(iii) thereof (limiting the nature of the creditor).
Special rules are provided permitting certain
contingencies for purposes of the REIT provision. Any interest
or principal shall not be treated as failing to satisfy section
1361(c)(5)(B)(i) solely by reason of the fact that the time of
payment of such interest or principal is subject to a
contingency, but only if one of several factors applies. The
first type of contingency that is permitted is one that does
not have the effect of changing the effective yield to
maturity, as determined under section 1272, other than a change
in the annual yield to maturity which either (i) does not
exceed the greater of \1/4\ of 1 percent or 5 percent of the
annual yield to maturity, or (ii) results solely from a default
or the exercise of a prepayment right by the issuer of the
debt.
The second type of contingency that is permitted is one
under which neither the aggregate issue price nor the aggregate
face amount of the debt instruments held by the REIT exceeds
$1,000,000 and not more than 12 months of unaccrued interest
can be required to be prepaid thereunder.
The bill eliminates the present law rule requiring a REIT
to own a 20 percent equity interest in a partnership in order
for debt to qualify as ``straight debt''. The bill instead
provides new ``look-through'' rules determining a REIT
partner's share of partnership securities, generally treating
debt to the REIT as part of the REIT's partnership interest for
this purpose, except in the case of otherwise qualifying debt
of the partnership.
Certain corporate or partnership issues that otherwise
would be permitted to be held without limitation under the
special straight debt rules described above will not be so
permitted if the REIT holding such securities, and any of its
taxable REIT subsidiaries, holds any securities of the issuer
which are not permitted securities (prior to the application of
this rule) and have an aggregate value greater than 1 percent
of the issuer's outstanding securities.
Other securities
Except as provided in regulations, the following also are
not considered ``securities'' for purposes of the rule that a
REIT cannot own more than 10 percent of the value of the
outstanding securities of a single issuer: (i) any loan to an
individual or an estate, (ii) any section 467 rental agreement,
(as defined in section 467(d)), other than with a person
described in section 856(d)(2)(B), (iii) any obligation to pay
rents from real property, (iv) any security issued by a State
or any political subdivision thereof, the District of Columbia,
a foreign government, or any political subdivision thereof, or
the Commonwealth of Puerto Rico, but only if the determination
of any payment received or accrued under such security does not
depend in whole or in part on the profits of any entity not
described in this category, or payments on any obligation
issued by such an entity, (v) any security issued by a real
estate investment trust; (vi) any other arrangement that, as
determined by the Secretary, is excepted from the definition of
a security.
Safe harbor testing date for certain rents
The bill provides specific safe-harbor rules regarding
the dates for testing whether 90 percent of a REIT property is
rented to unrelated persons and whether the rents paid by
related persons are substantially comparable to unrelated party
rents. These testing rules are provided solely for purposes of
the special provision permitting rents received from a related
party to be treated as qualified rental income for purposes of
the income tests.\400\
---------------------------------------------------------------------------
\400\ The proposal does not modify any of the standards of section
482 as they apply to REITS and to taxable REIT subsidiaries.
---------------------------------------------------------------------------
Customary services exception
The bill prospectively eliminates the safe harbor
allowing rents received by a REIT to be exempt from the 100
percent excise tax if the rents are for customary services
performed by the TRS \401\ or are from a TRS and are for the
provision of certain incidental personal property. Instead,
such payments would be free of the excise tax if they satisfy
the present law safe-harbor that applies if the REIT pays the
TRS at least 150 percent of the cost to the TRS of providing
any services.
---------------------------------------------------------------------------
\401\ Although a REIT could itself provide such services and
receive the income for them without receiving any disqualified income,
in that case the REIT itself would be bearing the cost of providing the
service. Under the present law exception for a TRS providing such
service, there is no explicit requirement that the TRS be reimbursed
for the full cost of the service.
---------------------------------------------------------------------------
Hedging rules
The rules governing the tax treatment of arrangements
engaged in by a REIT to reduce interest rate risks are
prospectively conformed to the rules included in section 1221.
95-percent gross income requirement
The bill prospectively amends the tax liability owed by
the REIT when it fails to meet the 95-percent of gross income
test by applying a taxable fraction based on 95 percent, rather
than 90 percent of the REIT's gross income.
Safe harbor from prohibited transactions for certain timberland sales
The bill provides that a sale of a real estate asset will
not be a prohibited transaction the following six requirements
are met:
(1) The asset must have been held for at least 4
years in the trade or business of producing timber;
(2) The aggregate expenditures made the REIT (or a
partner of the REIT) during the 4-year period preceding
the date of sale that are includible in the basis of
the property that are directly related to the operation
of the property for the production of timber or for the
preservation of the property for use as timberland must
not exceed 30 percent of the net selling price of the
property;
(3) The aggregate expenditures made the REIT (or a
partner of the REIT) during the 4-year period preceding
the date of sale that are includible in the basis of
the property that do not qualify under the second
requirement (i.e., those expenditures are not directly
related to the operation of the property for the
production of timber or the preservation of the
property for use as timberland) must not exceed 5
percent of the net selling price of the property;
(4) The REIT either (i) does not make more than 7
sales of property (other than sales of foreclosure
property or sales to which 1033 applies) or (ii) the
aggregate adjusted bases (as determined for purposes of
computing earnings and profits) of property sold during
the year (other than sales of foreclosure property or
sales to which 1033 applies) does not exceed 10 percent
of the aggregate bases (as determined for purposes of
computing earnings and profits)of property of all
assets of the REIT as of the beginning of the year;
(5) Substantially all of the marketing expenditure
with respect to the property are made by persons who an
independent contractor (as defined by section 856(d)(3)
with respect to the REIT and from whom the REIT does
not derive any income; and
(6) The sales price of the sale of the property to
a taxable REIT subsidiary cannot be based in whole or
in part on the income or profits that the subsidiary
derives from the sales of such properties.
Costs that are not includible in the basis of the
property are not counted towards either the 30 or 5 percent
requirements.
Capital expenditures counted towards 30-percent requirement
Capital expenditures counted towards the 30-percent limit
are those expenditures that are includible in the basis of the
property (other than timberland acquisition expenditures), and
that are directly related to operation of the property for the
production of timber, or for the preservation of the property
for use as timberland. These capital expenditures are those
incurred directly in the operation of raising timber (i.e.,
silviculture), as opposed to capital expenditures incurred in
the ownership of undeveloped land. In general, these capital
expenditures incurred directly in the operation of raising
timber include capital expenditures incurred by the REIT to
create an established stand of growing trees. A stand of trees
is considered established when a target stand exhibits the
expected growing rate and is free of non-target competition
(e.g., hardwoods; grasses, brush, etc.) that may significantly
inhibit or threaten the target stand survival. The costs
commonly incurred during stand establishment are: (1) site
preparation including manual or mechanical scarification,
manual or mechanical cutting, disking, bedding, shearing,
raking, piling, broadcast and windrow/pile burning (including
slash disposal costs as required for stand establishment); (2)
site regeneration including manual or mechanical hardwood
coppice; (3) chemical application via aerial or ground to
eliminate or reduce vegetation; (4)nursery operating costs
including personnel salaries and benefits, facilities costs, cone
collection and seed extraction, and other costs directly attributable
to the nursery operations (to the extent such costs are allocable to
seedlings used by the REIT); (5) seedlings including storage,
transportation and handling equipment; (6) direct planting of
seedlings; (7) initial stand fertilization, up through stand
establishment; (8) construction cost of road to be used for removal of
logs or fire protection; (9) environmental costs (i.e., habitat
conservation plans), (10) any post stand capital establishment costs
(e.g., ``mid-term fertilization costs).''
Capital expenditures counted towards 5-percent requirement
Capital expenditures counted towards the 5-percent limit
are those capital expenditures incurred in the ownership of
undeveloped land that are not incurred in the direct operation
of raising timber (i.e., silviculture). This category of
capital expenditures includes (1) expenditures to separate the
REIT's holdings of land into separate parcels; (2) costs of
granting leases or easements to cable, cellular or similar
companies, (3) costs in determining the presence or quality of
minerals located on the land; (4) costs incurred to defend
changes in law that would limit future use of the land by the
REIT or a purchaser from the REIT; and (5) costs incurred to
determine alternative uses of the land (e.g., recreational
use); and (6) development costs of the property incurred by the
REIT (e.g., engineering, surveying, legal, permit, consulting,
road construction, utilities, and other development costs for
use other than to grow timber).
Effective date
The bill is generally effective for taxable years
beginning after December 31, 2000.
However, some of the provisions are effective for taxable
years beginning after the date of enactment. These are: the new
``look through'' rules determining a REIT partner's share of
partnership securities for purposes of the ``straight debt''
rules; the provision changing the 90-percent of gross income
reference to 95 percent, for purposes of the tax liability if a
REIT fails to meet the 95-percent of gross income test; the new
hedging definition; the rule modifying the treatment of rents
with respect to customary services; and the safe harbor from
prohibited transactions relating to timberland sales.\402\
---------------------------------------------------------------------------
\402\ The provision relating to timberland sales is not intended to
change present law regarding when structures involving timberland may
qualify for REIT status.
---------------------------------------------------------------------------
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
B. REIT Savings Provisions (Sec. 711 of the Senate Amendment and Secs.
856, 857 and 860 of the Code)
PRESENT LAW
A REIT loses its status as a REIT, and becomes subject to
tax as a C corporation, if it fails to meet specified tests
regarding the sources of its income, the nature and amount of
its assets, its structure, and the amount of its income
distributed to shareholders.\403\
---------------------------------------------------------------------------
\403\ See description of Present Law under REIT modification
provisions, supra.
---------------------------------------------------------------------------
In the case of a failure to meet the source of income
requirements, if the failure is due to reasonable cause and not
to willful neglect, the REIT may continue its REIT status if it
pays the disallowed income as a tax to the Treasury.\404\
---------------------------------------------------------------------------
\404\ Sec. 856(c)(6) and Sec. 857(b)(5).
---------------------------------------------------------------------------
There is no similar provision that allows a REIT to pay a
penalty and avoid disqualification in the case of other
qualification failures.
A REIT may make a deficiency dividend after a
determination is made that it has not distributed the correct
amount of its income, and avoid disqualification. The Code
provides only for determinations involving a controversy with
the IRS and does not provide for a REIT to make such a
distribution on its own initiative.
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, a REIT may avoid
disqualification in the event of certain failures of the
requirements for REIT status, provided that (1) the failure was
due to reasonable cause and not willful neglect, (2) the
failure is corrected, and (3) a penalty amount is paid.
One requirement of present law is that, with certain
exceptions, (i) not more than 5 percent of the value of total
REIT assets may be represented by securities of one issuer, and
(ii) a REIT may not hold securities possessing more than 10
percent of the total voting power or 10 percent of the total
value of the outstanding securities of any one issuer.\405\ The
requirements must be satisfied each quarter.
---------------------------------------------------------------------------
\405\ Sec. 856(c)(4)(B)(iii). These rules do not apply to
securities of a taxable REIT subsidiary, or to securities that qualify
for the 75 percent asset test of section 856(c)(4)(A), such as real
estate assets, cash items (including receivables), or Government
securities.
---------------------------------------------------------------------------
Certain de minimis asset failures of 5-percent or 10-
percent tests
The bill provides that a REIT will not lose its REIT
status for failing to satisfy these requirements in a quarter
if the failure is due to the ownership of assets the total
value of which does not exceed the lesser of (i) 1 percent of
the total value of the REIT's assets at the end of the quarter
for which such measurement is done or (ii) 10 million dollars;
provided in either case that the REIT either disposes of the
assets within 6 months after the last day of the quarter in
which the REIT identifies the failure (or such other time
period prescribed by the Treasury), or otherwise meets the
requirements of those rules by the end of such time
period.\406\
---------------------------------------------------------------------------
\406\ A REIT might satisfy the requirements without a disposition,
for example, by increasing its other assets in the case of the 5
percent rule; or by the issuer modifying the amount or value of its
total securities outstanding in the case of the 10 percent rule.
---------------------------------------------------------------------------
Larger asset test failures (whether of 5-percent or 10-
percent tests, or of 75-percent or other asset
tests)
If a REIT fails to meet any of the asset test
requirements requirements for a particular quarter and the
failure exceeds the de minimis threshold described above, then
the REIT still will be deemed to have satisfied the
requirements if: (i) following the REIT's identification of the
failure, the REIT files a schedule with a description of each
asset that caused the failure, in accordance with regulations
prescribed by the Treasury; (ii) the failure was due to
reasonable cause and not to willful neglect, (iii) the REIT
disposes of the assets within 6 months after the last day of
the quarter in which the identification occurred or such other
time period as is prescribed by the Treasury (or the
requirements of the rules are otherwise met within such
period), and (iv) the REIT pays a tax on the failure.
The tax that the REIT must pay on the failure is the
greater of (i) $50,000, or (ii) an amount determined (pursuant
to regulations) by multiplying the highest rate of tax for
corporations under section 11, times the net income generated
by the assets for the period beginning on the first date of the
failure and ending on the date the REIT has disposed of the
assets (or otherwise satisfies the requirements).
Such taxes are treated as excise taxes, for which the
deficiency provisions of the excise tax subtitle of the Code
(subtitle F) apply.
Conforming reasonable cause and reporting standard for
failures of income tests
The bill conforms the reporting and reasonable cause
standards for failure to meet the income tests to the new asset
test standards. However, the bill does not change the rule
under section 857(b)(5) that for income test failures, all of
the net income attributed to the disqualified gross income is
paid as tax.
Other failures
The bill adds a provision under which, if a REIT fails to
satisfy one or more requirements for REIT qualification, other
than the 95-percent and 75-percent gross income tests and other
than the new rules provided for failures of the asset tests,
the REIT may retain its REIT qualification if the failures are
due to reasonable cause and not willful neglect, and if the
REIT pays a penalty of $50,000 for each such failure.
Taxes and penalties paid deducted from amount required to
be distributed
Any taxes or penalties paid under the provision are
deducted from the net income of the REIT in determining the
amount the REIT must distribute under the 90 percent
distribution requirement.
Expansion of deficiency dividend procedure
The Senate amendment expands the circumstances in which a
REIT may declare a deficiency dividend, by allowing such a
declaration to occur after the REIT unilaterally has identified
a failure to pay the relevant amount. Thus, the declaration
need not await a decision of the Tax Court, a closing
agreement, or an agreement signed by the Secretary of the
Treasury.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
X. Extension of Certain Expiring Provisions
A. Tax on Failure To Comply With Mental Health Parity Requirements
(Sec. 801 of the Senate Amendment and Sec. 9812 of the Code)
PRESENT LAW
The Mental Health Parity Act of 1996 amended ERISA and
the Public Health Service Act to provide that group health
plans that provide both medical and surgical benefits and
mental health benefits cannot impose aggregate lifetime or
annual dollar limits on mental health benefits that are not
imposed on substantially all medical and surgical benefits. The
provisions of the Mental Health Parity Act are effective with
respect to plan years beginning on or after January 1, 1998,
and expire with respect to benefits for services furnished on
or after December 31, 2003.\407\
---------------------------------------------------------------------------
\407\ Since enactment, the mental health parity requirements have
been extended on more than one occasion.
---------------------------------------------------------------------------
The Taxpayer Relief Act of 1997 added to the Internal
Revenue Code the requirements imposed under the Mental Health
Parity Act, and imposed an excise tax on group health plans
that fail to meet the requirements. The excise tax is equal to
$100 per day during the period of noncompliance and is
generally imposed on the employer sponsoring the plan if the
plan fails to meet the requirements. The maximum tax that can
be imposed during a taxable year cannot exceed the lesser of 10
percent of the employer's group health plan expenses for the
prior year or $500,000. No tax is imposed if the Secretary
determines that the employer did not know, and exercising
reasonable diligence would not have known, that the failure
existed.
The excise tax is applicable with respect to plan years
beginning on or after January 1, 1998, and expires with respect
to benefits for services provided on or after December 31,
2003.\408\
---------------------------------------------------------------------------
\408\ The excise tax does not apply to benefits for services
furnished on or after September 30, 2001, and before January 10, 2002.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the excise tax for failures
to comply with mental health parity requirements through
December 31, 2004.
Effective date.--The Senate amendment is effective for
plan years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
B. Extend Alternative Minimum Tax Relief for Individuals (Sec. 802 of
the Senate Amendment and Sec. 26 of the Code)
PRESENT LAW
Present law provides for certain nonrefundable personal
tax credits (i.e., the dependent care credit, the credit for
the elderly and disabled, the adoption credit, the child tax
credit,\409\ the credit for interest on certain home mortgages,
the HOPE Scholarship and Lifetime Learning credits, the IRA
credit, and the D.C. homebuyer's credit).
---------------------------------------------------------------------------
\409\ A portion of the child credit may be refundable.
---------------------------------------------------------------------------
For taxable years beginning in 2003, all the
nonrefundable personal credits are allowed to the extent of the
full amount of the individual's regular tax and alternative
minimum tax.
Without an extension of these rules for taxable years
beginning after 2003, these credits (other than the adoption
credit, child credit and IRA credit) would be allowed only to
the extent that the individual's regular income tax liability
exceeds the individual's tentative minimum tax, determined
without regard to the minimum tax foreign tax credit. The
adoption credit, child credit, and IRA credit are allowed to
the full extent of the individual's regular tax and alternative
minimum tax.
The alternative minimum tax is the amount by which the
tentative minimum tax exceeds the regular income tax. An
individual's tentative minimum tax is an amount equal to (1) 26
percent of the first $175,000 ($87,500 in the case of a married
individual filing a separate return) of alternative minimum
taxable income (``AMTI'') in excess of a phased-out exemption
amount and (2) 28 percent of the remaining AMTI. The maximum
tax rates on net capital gain used in computing the tentative
minimum tax are the same as under the regular tax. AMTI is the
individual's taxable income adjusted to take account of
specified preferences and adjustments. The exemption amounts
are: (1) $45,000 ($49,000 in taxable years beginning before
2005) in the case of married individuals filing a joint return
and surviving spouses; (2) $33,750 ($35,750 in taxable years
beginning before 2005) in the case of other unmarried
individuals; (3) $22,500 ($24,500 in taxable years beginning
before 2005) in the case of married individuals filing a
separate return; and (4) $22,500 in the case of an estate or
trust. The exemption amounts are phased out by an amount equal
to 25 percent of the amount by which the individual's AMTI
exceeds (1) $150,000 in the case of married individuals filing
a joint return and surviving spouses, (2) $112,500 in the case
of other unmarried individuals, and (3) $75,000 in the case of
married individuals filing separate returns or an estate or a
trust. These amounts are not indexed for inflation.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision extends the provisions
allowing an individual to offset the entire regular tax
liability and alternative minimum tax liability by the personal
nonrefundable credits for one year.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
C. Extension of Electricity Production Credit for Electricity Produced
from Certain Renewable Resources (Sec. 803 of the Senate Amendment and
Sec. 45 of the Code)
PRESENT LAW
An income tax credit is allowed for the production of
electricity from either qualified wind energy, qualified
``closed-loop'' biomass, or qualified poultry waste facilities
(sec. 45). The amount of the credit is 1.5 cents per kilowatt
hour (indexed for inflation) of electricity produced.\410\ The
credit is allowable for production during the 10-year period
after a facility is originally placed in service.
---------------------------------------------------------------------------
\410\ The amount of the credit is 1.8 cents per kilowatt hour for
2002.
---------------------------------------------------------------------------
The credit applies to electricity produced by a wind
energy facility placed in service after December 31, 1993, and
before January 1, 2004, to electricity produced by a closed-
loop biomass facility placed in service after December 31,
1992, and before January 1, 2004, and to a poultry waste
facility placed in service after December 31, 1999, and before
January 1, 2004.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the placed in service date
for qualified facilities from facilities placed in service
before January 1, 2004 to facilities placed in service before
January 1, 2005.
Effective date.--The Senate amendment provision is
effective for property placed in service after December 31,
2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
D. Extend the Work Opportunity Tax Credit (Sec. 804 of the Senate
Amendment and Sec. 51 of the Code)
PRESENT LAW
In general
The work opportunity tax credit (``WOTC'') is available
on an elective basis for employers hiring individuals from one
or more of eight targeted groups. The credit equals 40 percent
(25 percent for employment of less than 400 hours) of qualified
wages. Generally, qualified wages are wages attributable to
service rendered by a member of a targeted group during the
one-year period beginning with the day the individual began
work for the employer.
The maximum credit per employee is $2,400 (40 percent of
the first $6,000 of qualified first-year wages). With respect
to qualified summer youth employees, the maximum credit is
$1,200 (40 percent of the first $3,000 of qualified first-year
wages).
For purposes of the credit, wages are generally defined
as under the Federal Unemployment Tax Act, without regard to
the dollar cap.
Targeted groups eligible for the credit
The eight targeted groups are: (1) families eligible to
receive benefits under the Temporary Assistance for Needy
Families (``TANF'') Program; (2) high-risk youth; (3) qualified
ex-felons; (4) vocational rehabilitation referrals; (5)
qualified summer youth employees; (6) qualified veterans; (7)
families receiving food stamps; and (8) persons receiving
certain Supplemental Security Income (``SSI'') benefits.
The employer's deduction for wages is reduced by the
amount of the credit.
Expiration date
The credit is effective for wages paid or incurred to a
qualified individual who begins work for an employer before
January 1, 2004.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the work opportunity tax
credit for one year (through December 31, 2004).
Effective date.--The provision is effective for wages
paid or incurred to a qualified individual who begins work for
an employer on or after January 1, 2004, and before January 1,
2005.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
E. Extend the Welfare-To-Work Tax Credit (Sec. 805 of the Senate
Amendment and Sec. 51A of the Code)
PRESENT LAW
In general
The welfare-to-work tax credit is available on an
elective basis for employers for the first $20,000 of eligible
wages paid to qualified long-term family assistance recipients
during the first two years of employment. The credit is 35
percent of the first $10,000 of eligible wages in the first
year of employment and 50 percent of the first $10,000 of
eligible wages in the second year of employment. The maximum
credit is $8,500 per qualified employee.
Qualified long-term family assistance recipients are: (1)
members of a family that has received family assistance for at
least 18 consecutive months ending on the hiring date; (2)
members of a family that has received family assistance for a
total of at least 18 months (whether or not consecutive) after
the date of enactment of this credit if they are hired within 2
years after the date that the 18-month total is reached; and
(3) members of a family that is no longer eligible for family
assistance because of either Federal or State time limits, if
they are hired within two years after the Federal or State time
limits made the family ineligible for family assistance. Family
assistance means benefits under the Temporary Assistance to
Needy Families (``TANF'') program.
For purposes of the credit, wages are generally defined
under the Federal Unemployment Tax Act, without regard to the
dollar amount. In addition, wages include the following: (1)
educational assistance excludable under a section 127 program;
(2) the value of excludable health plan coverage but not more
than the applicable premium defined under section 4980B(f)(4);
and (3) dependent care assistance excludable under section 129.
The employer's deduction for wages is reduced by the
amount of the credit.
Expiration date
The welfare to work credit is effective for wages paid or
incurred to a qualified individual who begins work for an
employer before January 1, 2004.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the welfare-to-work tax
credit for one year (through December 31, 2004).
Effective date.--The provision is effective for wages
paid or incurred to a qualified individual who begins work for
an employer on or after January 1, 2004, and before January 1,
2005.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
F. Taxable Income Limit on Percentage Depletion for Oil and Natural Gas
Produced from Marginal Properties (Sec. 806 of the Senate Amendment and
Sec. 613A of the Code)
PRESENT LAW
In general
Depletion, like depreciation, is a form of capital cost
recovery. In both cases, the taxpayer is allowed a deduction in
recognition of the fact that an asset--in the case of depletion
for oil or gas interests, the mineral reserve itself--is being
expended in order to produce income. Certain costs incurred
prior to drilling an oil or gas property are recovered through
the depletion deduction. These include costs of acquiring the
lease or other interest in the property and geological and
geophysical costs (in advance of actual drilling). Depletion is
available to any person having an economic interest in a
producing property.
Two methods of depletion are allowable under the Code:
(1) the cost depletion method, and (2) the percentage depletion
method (secs. 611-613). Under the cost depletion method, the
taxpayer deducts that portion of the adjusted basis of the
depletable property which is equal to the ratio of units sold
from that property during the taxable year to the number of
units remaining as of the end of the taxable year plus the
number of units sold during the taxable year. Thus, the amount
recovered under cost depletion may never exceed the taxpayer's
basis in the property.
Under the percentage depletion method, generally, 15
percent of the taxpayer's gross income from an oil- or gas-
producing property is allowed as a deduction in each taxable
year (section 613A(c)). The amount deducted generally may not
exceed 100 percent of the net income from that property in any
year (the ``net-income limitation'') (section 613(a)). The 100-
percent-of-net-income limitation for production from marginal
wells has been suspended for taxable years beginning after
December 31, 1997, and before January 1, 2004. Additionally,
the percentage depletion deduction for all oil and gas
properties may not exceed 65 percent of the taxpayer's overall
taxable income (determined before such deduction and adjusted
for certain loss carrybacks and trust distributions) (section
613A(d)(1)).\411\ Because percentage depletion, unlike cost
depletion, is computed without regard to the taxpayer's basis
in the depletable property, cumulative depletion deductions may
be greater than the amount expended by the taxpayer to acquire
or develop the property.
---------------------------------------------------------------------------
\411\ Amounts disallowed as a result of this rule may be carried
forward and deducted in subsequent taxable years, subject to the 65-
percent taxable income limitation for those years.
---------------------------------------------------------------------------
A taxpayer is required to determine the depletion
deduction for each oil or gas property under both the
percentage depletion method (if the taxpayer is entitled to use
this method) and the cost depletion method. If the cost
depletion deduction is larger, the taxpayer must utilize that
method for the taxable year in question (section 613(a)).
Limitation of oil and gas percentage depletion to independent producers
and royalty owners
Generally, only independent producers and royalty owners
(as contrasted to integrated oil companies) are allowed to
claim percentage depletion. Percentage depletion for eligible
taxpayers is allowed only with respect to up to 1,000 barrels
of average daily production of domestic crude oil or an
equivalent amount of domestic natural gas (section 613A(c)).
For producers of both oil and natural gas, this limitation
applies on a combined basis.
In addition to the independent producer and royalty owner
exception, certain sales of natural gas under a fixed contract
in effect on February 1, 1975, and certain natural gas from
geopressured brine, are eligible for percentage depletion, at
rates of 22 percent and 10 percent, respectively. These
exceptions apply without regard to the 1,000-barrel-per-day
limitation and regardless of whether the producer is an
independent producer or an integrated oil company.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends for an additional year the
suspension of the 100-percent net-income limit for marginal
wells to include taxable years beginning after December 31,
2003 and before January 1, 2005.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
G. Qualified Zone Academy Bonds (Sec. 807 of the Senate Amendment and
Sec. 1397E of the Code)
PRESENT LAW
Tax-exempt bonds
Interest on State and local governmental bonds generally
is excluded from gross income for Federal income tax purposes
if the proceeds of the bonds are used to finance direct
activities of these governmental units or if the bonds are
repaid with revenues of the governmental units. Activities that
can be financed with these tax-exempt bonds include the
financing of public schools (sec. 103).
Qualified zone academy bonds
As an alternative to traditional tax-exempt bonds, States
and local governments are given the authority to issue
``qualified zone academy bonds'' (``QZABs'') (sec. 1397E). A
total of $400 million of qualified zone academy bonds may be
issued annually in calendar years 1998 through 2003. The $400
million aggregate bond cap is allocated each year to the States
according to their respective populations of individuals below
the poverty line. Each State, in turn, allocates the credit
authority to qualified zone academies within such State.
Financial institutions that hold qualified zone academy
bonds are entitled to a nonrefundable tax credit in an amount
equal to a credit rate multiplied by the face amount of the
bond. A taxpayer holding a qualified zone academy bond on the
credit allowance date is entitled to a credit. The credit is
includable in gross income (as if it were a taxable interest
payment on the bond), and may be claimed against regular income
tax and AMT liability.
The Treasury Department sets the credit rate at a rate
estimated to allow issuance of qualified zone academy bonds
without discount and without interest cost to the issuer. The
maximum term of the bond is determined by the Treasury
Department, so that the present value of the obligation to
repay the bond is 50 percent of the face value of the bond.
``Qualified zone academy bonds'' are defined as any bond
issued by a State or local government, provided that: (1) at
least 95 percent of the proceeds are used for the purpose of
renovating, providing equipment to, developing course materials
for use at, or training teachers and other school personnel in
a ``qualified zone academy'', and (2) private entities have
promised to contribute to the qualified zone academy certain
equipment, technical assistance or training, employee services,
or other property or services with a value equal to at least 10
percent of the bond proceeds.
A school is a ``qualified zone academy'' if: (1) the
school is a public school that provides education and training
below the college level, (2) the school operates a special
academic program in cooperation with businesses to enhance the
academic curriculum and increase graduation and employment
rates, and (3) either (a) the school is located in an
empowerment zone or enterprise community designated under the
Code, or (b) it is reasonably expected that at least 35 percent
of the students at the school will be eligible for free or
reduced-cost lunches under the school lunch program established
under the National School Lunch Act.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment authorizes issuance of up to $400
million of qualified zone academy bonds for calendar year 2004.
Effective date.--The provision is effective for
obligations issued after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
H. Cover Over of Tax on Distilled Spirits (Sec. 808 of the Senate
Amendment and Sec. 7652(e) of the Code)
PRESENT LAW
A $13.50 per proof gallon \412\ excise tax is imposed on
distilled spirits produced in or imported (or brought) into the
United States. The excise tax does not apply to distilled
spirits that are exported from the United States or to
distilled spirits that are consumed in U.S. possessions (e.g.,
Puerto Rico and the Virgin Islands).
---------------------------------------------------------------------------
\412\ A proof of gallon is a liquid gallon consisting of 50 percent
alcohol.
---------------------------------------------------------------------------
The Code provides for coverover (payment) of $13.25 per
proof gallon of the excise tax imposed on rum imported (or
brought) into the United States (without regard to the country
of origin) to Puerto Rico and the Virgin Islands during the
period July 1, 1999 through December 31, 2003. Effective on
January 1, 2004, the coverover rate is scheduled to return to
its permanent level of $10.50 per proof gallon.
Amounts covered over to Puerto Rico and the Virgin
Islands are deposited into the treasuries of the two
possessions for use as those possessions determine.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the $13.25-per-proof-gallon
coverover rate for one additional year, through December 31,
2004.
Effective date.--The Senate amendment provision is
effective for articles brought into the United States after
December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
I. Extend Deduction for Corporate Donations of Computer Technology
(Sec. 809 of the Senate Amendment and Sec. 170 of the Code)
PRESENT LAW
In the case of a charitable contribution of inventory or
other ordinary-income or short-term capital gain property, the
amount of the charitable deduction generally is limited to the
taxpayer's basis in the property. In the case of a charitable
contribution of tangible personal property, the deduction is
limited to the taxpayer's basis in such property if the use by
the recipient charitable organization is unrelated to the
organization's tax-exempt purpose. In cases involving
contributions to a private foundation (other than certain
private operating foundations), the amount of the deduction is
limited to the taxpayer's basis in the property.\413\
---------------------------------------------------------------------------
\413\ Sec. 170(e)(1).
---------------------------------------------------------------------------
Under present law, a taxpayer's deduction for charitable
contributions of scientific property used for research and for
contributions of computer technology and equipment generally is
limited to the taxpayer's basis (typically, cost) in the
property. However, certain corporations may claim a deduction
in excess of basis for a ``qualified research contribution'' or
a ``qualified computer contribution.'' \414\ This enhanced
deduction is equal to the lesser of (1) basis plus one-half of
the item's appreciated value (i.e., basis plus one half of fair
market value minus basis) or (2) two times basis.
---------------------------------------------------------------------------
\414\ Secs. 170(e)(4) and 170(e)(6).
---------------------------------------------------------------------------
A qualified computer contribution means a charitable
contribution by a corporation of any computer technology or
equipment, which meets standards of functionality and
suitability as established by the Secretary of the Treasury.
The contribution must be to certain educational organizations
or public libraries and made not later than three years after
the taxpayer acquired the property or, if the taxpayer
constructed the property, not later than the date construction
of the property is substantially completed.\415\ The original
use of the property must be by the donor or the donee,\416\ and
in the case of the donee, must be used substantially for
educational purposes related to the function or purpose of the
donee. The property must fit productively into the donee's
education plan. The donee may not transfer the property in
exchange for money, other property, or services, except for
shipping, installation, and transfer costs. To determine
whether property is constructed by the taxpayer, the rules
applicable to qualified research contributions apply. That is,
property is considered constructed by the taxpayer only if the
cost of the parts used in the construction of the property
(other than parts manufactured by the taxpayer or a related
person) does not exceed 50 percent of the taxpayer's basis in
the property. Contributions may be made to private foundations
under certain conditions.\417\
---------------------------------------------------------------------------
\415\ If the taxpayer constructed the property and reacquired such
property, the contribution must be within three years of the date the
original construction was substantially completed. Sec.
170(e)(6)(D)(i).
\416\ This requirement does not apply if the property was
reacquired by the manufacturer and contributed. Sec. 170(e)(6)(D)(ii).
\417\ Sec. 170(e)(6)(C).
---------------------------------------------------------------------------
The enhanced deduction for qualified computer
contributions expires for any contribution made during any
taxable year beginning after December 31, 2003.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision extends the enhanced
deduction for qualified computer contributions to apply to
contributions made during taxable years beginning on or before
December 31, 2004.
Effective date.--The Senate amendment provision is
effective for contributions made after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
J. Extension of Credit for Electric Vehicles (Sec. 810 of the Senate
Amendment and Sec. 30 of the Code)
PRESENT LAW
A 10-percent tax credit is provided for the cost of a
qualified electric vehicle, up to a maximum credit of $4,000
(sec. 30). A qualified electric vehicle is a motor vehicle that
is powered primarily by an electric motor drawing current from
rechargeable batteries, fuel cells, or other portable sources
of electrical current, the original use of which commences with
the taxpayer, and that is acquired for the use by the taxpayer
and not for resale. The full amount of the credit is available
for purchases prior to 2004. The credit phases down in the
years 2004 through 2006, and is unavailable for purchases after
December 31, 2006.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment delays the beginning of the phase
out of the credit by one year and provides that the credit is
available for purchases through December 31, 2007.
Effective date.--The Senate amendment provision is
effective for property placed in service after December 31,
2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
K. Extension of Deduction for Clean-Fuel Vehicles and Clean-Fuel
Vehicle Refueling Property (Sec. 811 of the Senate Amendment and Sec.
179A of the Code)
PRESENT LAW
Clean-fuel vehicles
Certain costs of qualified clean-fuel vehicle may be
expensed and deducted when such property is placed in service
(sec. 179A). Qualified clean-fuel vehicle property includes
motor vehicles that use certain clean-burning fuels (natural
gas, liquefied natural gas, liquefied petroleum gas, hydrogen,
electricity and any other fuel at least 85 percent of which is
methanol, ethanol, any other alcohol or ether). The maximum
amount of the deduction is $50,000 for a truck or van with a
gross vehicle weight over 26,000 pounds or a bus with seating
capacities of at least 20 adults; $5,000 in the case of a truck
or van with a gross vehicle weight between 10,000 and 26,000
pounds; and $2,000 in the case of any other motor vehicle.
Qualified electric vehicles do not qualify for the clean-fuel
vehicle deduction. The deduction phases down in the years 2004
through 2006, and is unavailable for purchases after December
31, 2006.
Clean-fuel vehicle refueling property
Clean-fuel vehicle refueling property may be expensed and
deducted when such property is placed in service (sec. 179A).
Clean-fuel vehicle refueling property comprises property for
the storage or dispensing of a clean-burning fuel, if the
storage or dispensing is the point at which the fuel is
delivered into the fuel tank of a motor vehicle. Clean-fuel
vehicle refueling property also includes property for the
recharging of electric vehicles, but only if the property is
located at a point where the electric vehicle is recharged. Up
to $100,000 of such property at each location owned by the
taxpayer may be expensed with respect to that location. The
deduction is unavailable for costs incurred after December 31,
2006.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment delays the beginning of the phase
down of the deduction for qualified clean-fuel vehicle property
by one year and provides that the deduction is available
through December 31, 2007. The Senate amendment extends the
deduction for clean-fuel vehicle refueling property by one year
to include equipment placed in service prior to January 1,
2008.
Effective date.--The Senate amendment provision is
effective for property placed in service after December 31,
2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
L. Adjusted Gross Income Determined by Taking Into Account Certain
Expenses of Elementary and Secondary School Teachers (Sec. 812 of the
Senate Amendment and Sec. 62 of the Code)
PRESENT LAW
In general, ordinary and necessary business expenses are
deductible (sec. 162), and unreimbursed employee business
expenses are deductible only as an itemized deduction and only
to the extent that the individual's total miscellaneous
deductions (including employee business expenses) exceed two
percent of adjusted gross income.
However, an above-the-line deduction is allowed for
taxable years beginning in 2002 and 2003 for up to $250
annually of expenses paid or incurred by an eligible educator
for books, supplies (other than nonathletic supplies for
courses of instruction in health or physical education),
computer equipment (including related software and services)
and other equipment, and supplementary materials used by the
eligible educator in the classroom. To be eligible for this
deduction, the expenses must be otherwise deductible under
section 162 as a trade or business expense. A deduction is
allowed only to the extent the amount of expenses exceeds the
amount of such expenses excludable from income under section
135 (relating to education savings bonds), section 529(c)(1)
(relating to qualified tuition programs), and section 530(d)(2)
(relating to Coverdell education savings accounts).
An eligible educator is a kindergarten through grade 12
teacher, instructor, counselor, principal, or aide in a school
for at least 900 hours during a school year. A school means any
school that provides elementary education or secondary
education, as determined under State law.
An individual's otherwise allowable itemized deductions
may be further limited by the overall limitation on itemized
deductions, which reduces itemized deductions for taxpayers
with adjusted gross income in excess of $139,500 (for
2003).\418\ In addition, miscellaneous itemized deductions are
not allowable under the alternative minimum tax.
---------------------------------------------------------------------------
\418\ The effect of this overall limitation is phased down
beginning in 2006.
---------------------------------------------------------------------------
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the present-law above-the-
line deduction for eligible educators to include taxable years
beginning in 2004.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
M. Extend Archer Medical Savings Accounts (``MSAs'') (Sec. 813 of the
Senate Amendment and Sec. 220 of the Code)
PRESENT LAW
In general
Within limits, contributions to an Archer MSA are
deductible in determining adjusted gross income if made by an
eligible individual and are excludable from gross income and
wages for employment tax purposes if made by the employer of an
eligible individual. Earnings on amounts in an Archer MSA are
not currently taxable. Distributions from an Archer MSA for
medical expenses are not includible in gross income.
Distributions not used for medical expenses are includible in
gross income. In addition, distributions not used for medical
expenses are subject to an additional 15-percent tax unless the
distribution is made after age 65, death, or disability.
Eligible individuals
Archer MSAs are available to employees covered under an
employer-sponsored high deductible plan of a small employer and
self-employed individuals covered under a high deductible
health plan.\419\ An employer is a small employer if it
employed, on average, no more than 50 employees on business
days during either the preceding or the second preceding year.
An individual is not eligible for an Archer MSA if he or she is
covered under any other health plan in addition to the high
deductible plan.
---------------------------------------------------------------------------
\419\ Self-employed individuals include more than two-percent
shareholders of S corporations who are treated as partners for purposes
of fringe benefit rules pursuant to section 1372.
---------------------------------------------------------------------------
Tax treatment of and limits on contributions
Individual contributions to an Archer MSA are deductible
(within limits) in determining adjusted gross income (i.e.,
``above-the-line''). In addition, employer contributions are
excludable from gross income and wages for employment tax
purposes (within the same limits), except that this exclusion
does not apply to contributions made through a cafeteria plan.
In the case of an employee, contributions can be made to an
Archer MSA either by the individual or by the individual's
employer.
The maximum annual contribution that can be made to an
Archer MSA for a year is 65 percent of the deductible under the
high deductible plan in the case of individual coverage and 75
percent of the deductible in the case of family coverage.
Definition of high deductible plan
A high deductible plan is a health plan with an annual
deductible of at least $1,700 and no more than $2,500 in the
case of individual coverage and at least $3,350 and no more
than $5,050 in the case of family coverage. In addition, the
maximum out-of-pocket expenses with respect to allowed costs
(including the deductible) must be no more than $3,350 in the
case of individual coverage and no more than $6,150 in the case
of family coverage.\420\ A plan does not fail to qualify as a
high deductible plan merely because it does not have a
deductible for preventive care as required by State law. A plan
does not qualify as a high deductible health plan if
substantially all of the coverage under the plan is for
permitted coverage (as described above). In the case of a self-
insured plan, the plan must in fact be insurance (e.g., there
must be appropriate risk shifting) and not merely a
reimbursement arrangement.
---------------------------------------------------------------------------
\420\ These dollar amounts are for 2003. These amounts are indexed
for inflation in $50 increments.
---------------------------------------------------------------------------
Cap on taxpayers utilizing Archer MSAs and expiration of pilot program
The number of taxpayers benefiting annually from an
Archer MSA contribution is limited to a threshold level
(generally 750,000 taxpayers). The number of Archer MSAs
established has not exceeded the threshold level.
After 2003, no new contributions may be made to Archer
MSAs except by or on behalf of individuals who previously had
Archer MSA contributions and employees who are employed by a
participating employer.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends Archer MSAs through December
31, 2004.
Effective date.--The Senate amendment provision is
effective on January 1, 2003.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
N. Extension of Expensing of Brownfield Remediation Expenses (Sec. 814
of the Senate Amendment and Sec. 198 of the Code)
PRESENT LAW
Under Code section 198, taxpayers can elect to treat
certain environmental remediation expenditures that would
otherwise be chargeable to capital account as deductible in the
year paid or incurred. The deduction applies for both regular
and alternative minimum tax purposes. The expenditure must be
incurred in connection with the abatement or control of
hazardous substances at a qualified contaminated site. In
general, any expenditure for the acquisition of depreciable
property used in connection with the abatement or control of
hazardous substances at a qualified contaminated site does not
constitute a qualified environmental remediation expenditure.
However, depreciation deductions allowable for such property,
which would otherwise be allocated to the site under the
principles set forth in Commissioner v. Idaho Power Co. \421\
and section 263A, are treated as qualified environmental
remediation expenditures.
---------------------------------------------------------------------------
\421\ Commissioner v. Idaho Power Co., 418 U.S. 1 (1974) (holding
that equipment depreciation allocable to the taxpayer's construction of
capital facilities must be capitalized under section 263(a)(1)).
---------------------------------------------------------------------------
A ``qualified contaminated site'' (a so-called
``brownfield'') generally is any property that is held for use
in a trade or business, for the production of income, or as
inventory and is certified by the appropriate State
environmental agency to be an area at or on which there has
been a release (or threat of release) or disposal of a
hazardous substance. Both urban and rural property may qualify.
However, sites that are identified on the national priorities
list under the Comprehensive Environmental Response,
Compensation, and Liability Act of 1980 (``CERCLA'') cannot
qualify as targeted areas. Hazardous substances generally are
defined by reference to sections 101(14) and 102 of CERCLA,
subject to additional limitations applicable to asbestos and
similar substances within buildings, certain naturally
occurring substances such as radon, and certain other
substances released into drinking water supplies due to
deterioration through ordinary use.
Eligible expenditures are those paid or incurred before
January 1, 2004.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends by one year the present-law
deduction for environmental remediation expenditures to include
expenditures incurred prior to January 1, 2005.
Effective date.--The Senate amendment provision is
effective for expenditures incurred after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
XI. Improving Tax Equity for Military Personnel
A. Exclusion of Gain on Sale of a Principal Residence by a Member of
the Uniformed Services or the Foreign Service (Sec. 901 of the Senate
Amendment and Sec. 121 of the Code)
PRESENT LAW
Under present law, an individual taxpayer may 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
and used the residence as a principal residence for at least
two of the five years ending on the sale or exchange. A
taxpayer who fails to meet these requirements by reason of a
change of place of employment, health, or, to the extent
provided under regulations, unforeseen circumstances is able to
exclude an amount equal to the fraction of the $250,000
($500,000 if married filing a joint return) that is equal to
the fraction of the two years that the ownership and use
requirements are met. There are no special rules relating to
members of the uniformed services or the Foreign Service of the
United States.
HOUSE BILL
No provision.
SENATE AMENDMENT
Under the Senate amendment, an individual may elect to
suspend for a maximum of ten years the five-year test period
for ownership and use during certain absences due to service in
the uniformed services, or the Foreign Service of the United
States. The uniformed services include: (1) the Armed forces
(the Army, Navy, Air Force, Marine Corps, and Coast Guard); (2)
the commissioned corps of the National Oceanic and Atmospheric
Administration; and (3) the commissioned corps of the Public
Health Service. If the election is made, the five-year period
ending on the date of the sale or exchange of a principal
residence does not include any period up to ten years during
which the taxpayer or the taxpayer's spouse is on qualified
official extended duty as a member of the uniformed services,
or in the Foreign Service of the United States. For these
purposes, qualified official extended duty is any period of
extended duty by a member of the uniformed services, or the
Foreign Service of the United States while serving at a place
of duty at least 50 miles away from the taxpayer's principal
residence or under orders compelling residence in Government
furnished quarters. Extended duty is defined as any period of
duty pursuant to a call or order to such duty for a period in
excess of 90 days or for an indefinite period. The election may
be made with respect to only one property for a suspension
period.
Effective date.--The Senate amendment provision is
effective for sales or exchanges after May 6, 1997.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
B. Exclusion From Gross Income of Certain Death Gratuity Payments (Sec.
902 of the Senate Amendment and Sec. 134 of the Code)
PRESENT LAW
Present law provides that qualified military benefits are
not included in gross income. Generally, a qualified military
benefit is any allowance or in-kind benefit (other than
personal use of a vehicle) which: (1) is received by any member
or former member of the uniformed services of the United States
or any dependent of such member by reason of such member's
status or service as a member of such uniformed services; and
(2) was excludable from gross income on September 9, 1986,
under any provision of law, regulation, or administrative
practice which was in effect on such date. Generally, other
than certain cost of living adjustments, no modification or
adjustment of any qualified military benefit after September 9,
1986, is taken into account for purposes of this exclusion from
gross income. Qualified military benefits include certain death
gratuities. The amount of the death gratuity military benefit
was increased to $6,000 but the amount of the exclusion from
gross income was not increased to take into account this
change.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the exclusion from gross
income to any adjustment to the amount of the death gratuity
payable under Chapter 75 of Title 10 of the United States Code
that is pursuant to a provision of law with respect to the
death of certain members of the Armed services on active duty,
inactive duty training, or engaged in authorized travel.
Therefore, the amount of the exclusion is increased to $6,000.
Effective date.--The Senate amendment provision is
effective with respect to deaths occurring after September 10,
2001.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
C. Exclusion for Amounts Received Under Department of Defense
Homeowners Assistance Program (Sec. 903 of the Senate Amendment and
Sec. 132 of the Code)
PRESENT LAW
HAP payment
The Department of Defense Homeowners Assistance Program
(``HAP'') provides payments to certain employees and members of
the Armed Forces to offset the adverse effects on housing
values that result from a military base realignment or closure.
The payments are authorized under the provisions of Title 42
U.S.C. section 3374.
In general, under HAP, eligible individuals receive
either (1) a cash payment as compensation for losses that may
be or have been sustained in a private sale, in an amount not
to exceed the difference between (a) 95 percent of the fair
market value of their property prior to public announcement of
intention to close all or part of the military base or
installation and (b) the fair market value of such property at
the time of the sale, or (2) as the purchase price for their
property, an amount not to exceed 90 percent of the prior fair
market value as determined by the Secretary of Defense, or the
amount of the outstanding mortgages.
Tax treatment
Unless specifically excluded, gross income for Federal
income tax purposes includes all income from whatever source
derived. Amounts received under HAP are received in connection
with the performance of services. These amounts are includible
in gross income as compensation for services to the extent such
payments exceed the fair market value of the property
relinquished in exchange for such payments. Additionally, such
payments are wages for Federal Insurance Contributions Act
(``FICA'') tax purposes (including Medicare).
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment generally exempts from gross income
amounts received under the HAP (as in effect on the date of
enactment of this Senate amendment). Amounts received under the
program also are not considered wages for FICA tax purposes
(including Medicare). The excludable amount is limited to the
reduction in the fair market value of property.
Effective date.--The Senate amendment provision is
effective for payments made after the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
D. Expansion of Combat Zone Filing Rules to Contingency Operations
(Sec. 904 of the Senate Amendment and Sec. 7508 of the Code)
PRESENT LAW
General time limits for filing tax returns
Individuals generally must file their Federal income tax
returns by April 15 of the year following the close of a
taxable year. The Secretary may grant reasonable extensions of
time for filing such returns. Treasury regulations provide an
additional automatic two-month extension (until June 15 for
calendar-year individuals) for United States citizens and
residents in military or naval service on duty on April 15 of
the following year (the otherwise applicable due date of the
return) outside the United States. No action is necessary to
apply for this extension, but taxpayers must indicate on their
returns (when filed) that they are claiming this extension.
Unlike most extensions of time to file, this extension applies
to both filing returns and paying the tax due.
Treasury regulations also provide, upon application on
the proper form, an automatic four-month extension (until
August 15 for calendar-year individuals) for any individual
timely filing that form and paying the amount of tax estimated
to be due.
In general, individuals must make quarterly estimated tax
payments by April 15, June 15, September 15, and January 15 of
the following taxable year. Wage withholding is considered to
be a payment of estimated taxes.
Suspension of time periods
In general, the period of time for performing various
acts under the Code, such as filing tax returns, paying taxes,
or filing a claim for credit or refund of tax, is suspended for
any individual serving in the Armed Forces of the United States
in an area designated as a ``combat zone'' during the period of
combatant activities. An individual who becomes a prisoner of
war is considered to continue in active service and is
therefore also eligible for these suspension of time
provisions. The suspension of time also applies to an
individual serving in support of such Armed Forces in the
combat zone, such as Red Cross personnel, accredited
correspondents, and civilian personnel acting under the
direction of the Armed Forces in support of those Forces. The
designation of a combat zone must be made by the President in
an Executive Order. The President must also designate the
period of combatant activities in the combat zone (the starting
date and the termination date of combat).
The suspension of time encompasses the period of service
in the combat zone during the period of combatant activities in
the zone, as well as (1) any time of continuous qualified
hospitalization resulting from injury received in the combat
zone \422\ or (2) time in missing in action status, plus the
next 180 days.
---------------------------------------------------------------------------
\422\ Two special rules apply to continuous hospitalization inside
the United States. First, the suspension of time provisions based on
continuous hospitalization inside the United States are applicable only
to the hospitalized individual; they are not applicable to the spouse
of such individual. Second, in no event do the suspension of time
provisions based on continuous hospitalization inside the United States
extend beyond five years from the date the individual returns to the
United States. These two special rules do not apply to continuous
hospitalization outside the United States.
---------------------------------------------------------------------------
The suspension of time applies to the following acts:
(1) Filing any return of income, estate, or gift
tax (except employment and withholding taxes);
(2) Payment of any income, estate, or gift tax
(except employment and withholding taxes);
(3) Filing a petition with the Tax Court for
redetermination of a deficiency, or for review of a
decision rendered by the Tax Court;
(4) Allowance of a credit or refund of any tax;
(5) Filing a claim for credit or refund of any tax;
(6) Bringing suit upon any such claim for credit or
refund;
(7) Assessment of any tax;
(8) Giving or making any notice or demand for the
payment of any tax, or with respect to any liability to
the United States in respect of any tax;
(9) Collection of the amount of any liability in
respect of any tax;
(10) Bringing suit by the United States in respect
of any liability in respect of any tax; and
(11) Any other act required or permitted under the
internal revenue laws specified by the Secretary of the
Treasury.
Individuals may, if they choose, perform any of these
acts during the period of suspension. Spouses of qualifying
individuals are entitled to the same suspension of time, except
that the spouse is ineligible for this suspension for any
taxable year beginning more than two years after the date of
termination of combatant activities in the combat zone.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment applies the special suspension of
time period rules to persons deployed outside the United States
away from the individual's permanent duty station while
participating in an operation designated by the Secretary of
Defense as a contingency operation or that becomes a
contingency operation. A contingency operation is defined \423\
as a military operation that is designated by the Secretary of
Defense as an operation in which members of the Armed Forces
are or may become involved in military actions, operations, or
hostilities against an enemy of the United States or against an
opposing military force, or results in the call or order to (or
retention of) active duty of members of the uniformed services
during a war or a national emergency declared by the President
or Congress.
---------------------------------------------------------------------------
\423\ The definition is by cross-reference to 10 U.S.C. 101.
---------------------------------------------------------------------------
Effective date.--The Senate amendment provision applies
to any period for performing an act that has not expired before
the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
E. Modification of Membership Requirement for Exemption From Tax for
Certain Veterans' Organizations (Sec. 905 of the Senate Amendment and
Sec. 501 of the Code)
PRESENT LAW
Under present law, a veterans' organization as described
in section 501(c)(19) of the Code generally is exempt from
taxation. The Code defines such an organization as a post or
organization of past or present members of the Armed Forces of
the United States: (1) that is organized in the United States
or any of its possessions; (2) no part of the net earnings of
which inures to the benefit of any private shareholder or
individual; and (3) that meets certain membership requirements.
The membership requirements are that (1) at least 75 percent of
the organization's members are past or present members of the
Armed Forces of the United States, and (2) substantially all of
the remaining members are cadets or are spouses, widows, or
widowers of past or present members of the Armed Forces of the
United States or of cadets. No more than 2.5 percent of an
organization's total members may consist of individuals who are
not veterans, cadets, or spouses, widows, or widowers of such
individuals.
Contributions to an organization described in section
501(c)(19) may be deductible for Federal income or gift tax
purposes if the organization is a post or organization of war
veterans.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment permits ancestors or lineal
descendants of past or present members of the Armed Forces of
the United States or of cadets to qualify as members for
purposes of the ``substantially all'' test. The Senate
amendment does not change the requirementthat 75 percent of the
organization's members must be past or present members of the Armed
Forces of the United States.
Effective date.--The Senate amendment provision is
effective for taxable years beginning after the date of
enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
F. Clarification of Treatment of Certain Dependent Care Assistance
Programs Provided to Members of the Uniformed Services of the United
States (Sec. 906 of the Senate Amendment and Sec. 134 of the Code)
PRESENT LAW
Present law provides that qualified military benefits are
not included in gross income. Generally, a qualified military
benefit is any allowance or in-kind benefit (other than
personal use of a vehicle) which: (1) is received by any member
or former member of the uniformed services of the United States
or any dependent of such member by reason of such member's
status or service as a member of such uniformed services; and
(2) was excludable from gross income on September 9, 1986,
under any provision of law, regulation, or administrative
practice which was in effect on such date. Generally, other
than certain cost of living adjustments, no modification or
adjustment of any qualified military benefit after September 9,
1986, is taken into account for purposes of this exclusion from
gross income.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment clarifies that dependent care
assistance provided under a dependent care assistance program
(as in effect on the date of enactment of this Senate
amendment) for a member of the uniformed services by reason of
such member's status or service as a member of the uniformed
services is excludable from gross income as a qualified
military benefit subject to the present-law rules. The
uniformed services include: (1) the Armed Forces (the Army,
Navy, Air Force, Marine Corps, and Coast Guard); (2) the
commissioned corps of the National Oceanic and Atmospheric
Administration; and (3) the commissioned corps of the Public
Health Service. Amounts received under the program also are not
considered wages for Federal Insurance Contributions Act tax
purposes (including Medicare).
Effective date.--The Senate amendment provision is
effective for taxable years beginning after December 31, 2002.
No inference is intended as to the tax treatment of such
amounts for prior taxable years.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
G. Treatment of Service Academy Appointments as Scholarships for
Purposes of Qualified Tuition Programs and Coverdell Education Savings
Accounts (Sec. 907 of the Senate Amendment and Secs. 529 and 530 of the
Code)
PRESENT LAW
The Code provides tax-exempt status to qualified tuition
programs, meaning programs established and maintained by a
State or agency or instrumentality thereof or by one or more
eligible educational institutions under which a person (1) may
purchase tuition credits or certificates on behalf of a
designated beneficiary which entitle the beneficiary to the
waiver or payment of qualified higher education expenses of the
beneficiary, or (2) in the case of a program established by and
maintained by a State or agency or instrumentality thereof, may
make contributions to an account which is established for the
purpose of meeting the qualified higher education expenses of
the designated beneficiary of the account. Contributions to
qualified tuition programs may be made only in cash. Qualified
tuition programs must have adequate safeguards to prevent
contributions on behalf of a designated beneficiary in excess
of amounts necessary to provide for the qualified higher
education expenses of the beneficiary.
The Code provides tax-exempt status to Coverdell
education savings accounts (``ESAs''), meaning certain trusts
or custodial accounts which are created or organized in the
United States exclusively for the purpose of paying the
qualified education expenses of a designated beneficiary.
Contributions to ESAs may be made only in cash. Annual
contributions to ESAs may not exceed $2,000 per beneficiary
(except in cases involving certain tax-free rollovers) and may
not be made after the designated beneficiary reaches age 18.
Earnings on contributions to an ESA or a qualified
tuition program generally are subject to tax when withdrawn.
However, distributions from an ESA or qualified tuition program
are excludable from the gross income of the distributee to the
extent that the total distribution does not exceed the
qualified education expenses incurred by the beneficiary during
the year the distribution is made.
If the qualified education expenses of the beneficiary
for the year are less than the total amount of the distribution
from an ESA or qualified tuition program, then the qualified
education expenses are deemed to be paid from a pro-rata share
of both the principal and earnings components of the
distribution. In such a case, only a portion of the earnings is
excludable (i.e., the portion of the earnings based on the
ratio that the qualified education expenses bear to the total
amount of the distribution) and the remaining portion of the
earnings is includible in the beneficiary's gross income.
The earnings portion of a distribution from an ESA or a
qualified tuition program that is includible in income is
generally subject to an additional 10 percent tax. The 10
percent additional tax does not apply if a distribution is made
on account of the death or disability of the designated
beneficiary, or on account of a scholarship received by the
designated beneficiary (to the extent it does not exceed the
amount of the scholarship).
Service obligations are required of recipients of
appointments to the United States Military Academy, the United
States Naval Academy, the United States Air Force Academy, the
United States Coast Guard Academy, or the United States
Merchant Marine Academy. Because of these service obligations,
appointments to the Academies are not considered scholarships
for purposes of the waiver of the additional 10 percent tax on
withdrawals from ESAs and qualified tuition programs that are
not used for qualified education purposes.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment permits penalty-free withdrawals
from Coverdell education savings accounts and qualified tuition
programs made on account of the attendance of the beneficiary
at the United States Military Academy, the United States Naval
Academy, the United States Air Force Academy, the United States
Coast Guard Academy, or the United States Merchant Marine
Academy.
The amount of funds that can be withdrawn penalty free is
limited to the costs of advanced education as defined in 10
United States Code section 2005(e)(3) (as in effect on the date
of the enactment of the Senate amendment) at such Academies.
Effective date.--The Senate amendment provision applies
to taxable years beginning after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
H. Suspension of Tax-Exempt Status of Designated Terrorist
Organizations (Sec. 908 of the Senate Amendment and Sec. 501 of the
Code)
PRESENT LAW
Under present law, the Internal Revenue Service generally
issues a letter revoking recognition of an organization's tax-
exempt status only after (1) conducting an examination of the
organization, (2) issuing a letter to the organization
proposing revocation, and (3) allowing the organization to
exhaust the administrative appeal rights that follow the
issuance of the proposed revocation letter. In the case of an
organization described in section 501(c)(3), the revocation
letter immediately is subject to judicial review under the
declaratory judgment procedures of section 7428. To sustain a
revocation of tax-exempt status under section 7428, the IRS
must demonstrate that the organization is no longer entitled to
exemption. There is no procedure under current law for the IRS
to suspend the tax-exempt status of an organization.
To combat terrorism, the Federal government has
designated a number of organizations as terrorist organizations
or supporters of terrorism under the Immigration and
Nationality Act, the International Emergency Economic Powers
Act, and the United Nations Participation Act of 1945.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provision suspends the tax-exempt
status of an organization that is exempt from tax under section
501(a) for any period during which the organization is
designated or identified by U.S. Federal authorities as a
terrorist organization or supporter of terrorism. The provision
also makes such an organization ineligible to apply for tax
exemption under section 501(a). The period of suspension runs
from the date the organization is first designated or
identified (or from the date of enactment of the provision,
whichever is later) to the date when all designations or
identifications with respect to the organization have been
rescinded pursuant to the law or Executive order under which
the designation or identification was made.
The Senate amendment provision describes a terrorist
organization as an organization that has been designated or
otherwise individually identified (1) as a terrorist
organization or foreign terrorist organization under the
authority of section 212(a)(3)(B)(vi)(II) or section 219 of the
Immigration and Nationality Act; (2) in or pursuant to an
Executive order that is related to terrorism and issued under
the authority of the International Emergency Economic Powers
Act or section 5 of the United Nations Participation Act for
the purpose of imposing on such organization an economic or
other sanction; or (3) in or pursuant to an Executive order
that refers to the provision and is issued under the authority
of any Federal law if the organization is designated or
otherwise individually identified in or pursuant to such
Executive order as supporting or engaging in terrorist activity
(as defined in section 212(a)(3)(B) of the Immigration and
Nationality Act) or supporting terrorism (as defined in section
140(d)(2) of the Foreign Relations Authorization Act, Fiscal
Years 1988 and 1989). During the period of suspension, no
deduction for any contribution to a terrorist organization is
allowed under the Code, including under sections 170,
545(b)(2), 556(b)(2), 642(c), 2055, 2106(a)(2), or 2522.
No organization or other person may challenge, under
section 7428 or any other provision of law, in any
administrative or judicial proceeding relating to the Federal
tax liability of such organization or other person, the
suspension of tax-exemption, the ineligibility to apply for
tax-exemption, a designation or identification described above,
the timing of the period of suspension, or a denial of
deduction described above. The suspended organization may
maintain other suits or administrative actions against the
agency or agencies that designated or identified the
organization, for the purpose of challenging such designation
or identification (but not the suspension of tax-exempt status
under this provision).
If the tax-exemption of an organization is suspended and
each designation and identification that has been made with
respect to the organization is determined to be erroneous
pursuant to the law or Executive order making the designation
or identification, and such erroneous designation results in an
overpayment of income tax for any taxable year with respect to
such organization, a credit or refund (with interest) with
respect to such overpayment shall bemade. If the operation of
any law or rule of law (including res judicata) prevents the credit or
refund at any time, the credit or refund may nevertheless be allowed or
made if the claim for such credit or refund is filed before the close
of the one-year period beginning on the date that the last remaining
designation or identification with respect to the organization is
determined to be erroneous.
The Senate amendment provision directs the IRS to update
the listings of tax-exempt organizations to take account of
organizations that have had their exemption suspended and to
publish notice to taxpayers of the suspension of an
organization's tax-exemption and the fact that contributions to
such organization are not deductible during the period of
suspension.
Effective date.--The Senate amendment provision is
effective for designations made before, on, or after the date
of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
I. Above-the-Line Deduction for Overnight Travel Expenses of National
Guard and Reserve Members (Sec. 909 of the Senate Amendment and Sec.
162 of the Code)
PRESENT LAW
National Guard and Reserve members may claim itemized
deductions for their nonreimbursable expenses for
transportation, meals, and lodging when they must travel away
from home (and stay overnight) to attend National Guard and
Reserve meetings. These overnight travel expenses are combined
with other miscellaneous itemized deductions on Schedule A of
the individual's income tax return and are deductible only to
the extent that the aggregate of these deductions exceeds two
percent of the taxpayer's adjusted gross income. No deduction
is generally permitted for commuting expenses to and from drill
meetings.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment provides an above-the-line deduction
for the overnight transportation, meals, and lodging expenses
of National Guard and Reserve members who must travel away from
home more than 100 miles (and stay overnight) to attend
National Guard and Reserve meetings. Accordingly, these
individuals incurring these expenses can deduct them from gross
income regardless of whether they itemize their deductions. The
amount of the expenses that may be deducted may not exceed the
general Federal Government per diem rate applicable to that
locale.
Effective date.--The Senate amendment provision is
effective with respect to amounts paid or incurred after
December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
J. Extension of Certain Tax Relief Provisions to Astronauts (Sec. 910
of the Senate Amendment and Secs. 101, 692, and 2201 of the Code)
PRESENT LAW
In general
The Victims of Terrorism Tax Relief Act of 2001 (the
``Victims Act'') provided certain income and estate tax relief
to individuals who die from wounds or injury incurred as a
result of the terrorist attacks against the United States on
September 11, 2001, and April 19, 1995 (the bombing of the
Alfred P. Murrah Federal Building in Oklahoma City) or as a
result of illness incurred due to an attack involving anthrax
that occurred on or after September 11, 2001, and before
January 1, 2002.
Income tax relief
The Victims Act extended relief similar to the present-
law treatment of military or civilian employees of the United
States who die as a result of terrorist or military activity
outside the United States to individuals who die as a result of
wounds or injury which were incurred as a result of the
terrorist attacks that occurred on September 11, 2001, or April
19, 1995, and individuals who die as a result of illness
incurred due to an attack involving anthrax that occurs on or
after September 11, 2001, and before January 1, 2002. Under the
Victims Act, such individuals generally are exempt from income
tax for the year of death and for prior taxable years beginning
with the taxable year prior to the taxable year in which the
wounds or injury occurred. \424\ The exemption applies to these
individuals whether killed in an attack (e.g., in the case of
the September 11, 2001, attack in one of the four airplanes or
on the ground) or in rescue or recovery operations.
---------------------------------------------------------------------------
\424\ Present law does not provide relief from self-employment tax
liability.
---------------------------------------------------------------------------
Present law provides a minimum tax relief benefit of
$10,000 to each eligible individual regardless of the income
tax liability of the individual for the eligible tax years. If
an eligible individual's income tax for years eligible for the
exclusion under the provision is less than $10,000, the
individual is treated as having made a tax payment for such
individual's last taxable year in an amount equal to the excess
of $10,000 over the amount of tax not imposed under the
provision.
Subject to rules prescribed by the Secretary, the
exemption from tax does not apply to the tax attributable to
(1) deferred compensation which would have been payable after
death if the individual had died other than as a specified
terrorist victim, or (2) amounts payable in the taxable year
which would not have been payable in such taxable year but for
an action taken after September 11, 2001. Thus, for example,
the exemption does not apply to amounts payable from a
qualified plan or individual retirement arrangement to the
beneficiary or estate of the individual. Similarly, amounts
payable only as death or survivor's benefits pursuant to
deferred compensation preexisting arrangements that would have
been paid if the death had occurred for another reason are not
covered by the exemption. In addition, if the individual's
employer makes adjustments to a plan or arrangement to
accelerate the vesting of restricted property or the payment of
nonqualified deferred compensation after the date of the
particular attack, the exemption does not apply to income
received as a result of that action.\425\ Also, if the
individual's beneficiary cashed in savings bonds of the
decedent, the exemption does not apply. On the other hand, the
exemption does apply, for example, to a final paycheck of the
individual or dividends on stock held by the individual when
paid to another person or the individual's estate after the
date of death but before the end of the taxable year of the
decedent (determined without regard to the death). The
exemption also applies to payments of an individual's accrued
vacation and accrued sick leave.
---------------------------------------------------------------------------
\425\ Such amounts may, however, be excludable from gross income
under the death benefit exclusion provided in section 102 of the
Victims Acts.
---------------------------------------------------------------------------
The tax relief does not apply to any individual
identified by the Attorney General to have been a participant
or conspirator in any terrorist attack to which the provision
applies, or a representative of such individual.
Exclusion of death benefits
The Victims Act generally provides an exclusion from
gross income for amounts received if such amounts are paid by
an employer (whether in a single sum or otherwise \426\) by
reason of the death of an employee who dies as a result of
wounds or injury which were incurred as a result of the
terrorist attacks that occurred on September 11, 2001, or April
19, 1995, or as a result of illness incurred due to an attack
involving anthrax that occured on or after September 11, 2001,
and before January 1, 2002. Subject to rules prescribed by the
Secretary, the exclusion does not apply to amounts that would
have been payable if the individual had died for a reason other
than the attack. The exclusion does apply, however, to death
benefits provided under a qualified plan that satisfy the
incidental benefit rule.
---------------------------------------------------------------------------
\426\ Thus, for example, payments made over a period of years could
qualify for the exclusion.
---------------------------------------------------------------------------
For purposes of the exclusion, self-employed individuals
are treated as employees. Thus, for example, payments by a
partnership to the surviving spouse of a partner who died as a
result of the September 11, 2001 attacks may be excludable
under the provision.
The tax relief does not apply to any individual
identified by the Attorney General to have been a participant
or conspirator in any terrorist attack to which the provision
applies, or a representative of such individual.
Estate tax relief
Present law provides a reduction in Federal estate tax
for taxable estates of U.S. citizens or residents who are
active members of the U.S. Armed Forces and who are killed in
action while serving in a combat zone (sec. 2201). This
provision also applies to active service members who die as a
result of wounds, disease, or injury suffered while serving in
a combat zone by reason of a hazard to which the service member
was subjected as an incident of such service.
In general, the effect of section 2201 is to replace the
Federal estate tax that would otherwise be imposed with a
Federal estate tax equal to 125 percent of the maximum State
death tax credit determined under section 2011(b). Credits
against the tax, including the unified credit of section 2010
and the State death tax credit of section 2011, then apply to
reduce (or eliminate) the amount of the estate tax payable.
Generally, the reduction in Federal estate taxes under
section 2201 is equal in amount to the ``additional estate
tax.'' The additional estate tax is the difference between the
Federal estate tax imposed by section 2001 and 125 percent of
the maximum State death tax credit determined under section
2011(b) as in effect prior to its repeal by the Economic Growth
and Tax Relief Reconciliation Act of 2001.
The Victims Act generally treats individuals who die from
wounds or injury incurred as a result of the terrorist attacks
that occurred on September 11, 2001, or April 19, 1995, or as a
result of illness incurred due to an attack involving anthrax
that occurred on or after September 11, 2001, and before
January 1, 2002, in the same manner as if they were active
members of the U.S. Armed Forces killed in action while serving
in a combat zone or dying as a result of wounds or injury
suffered while serving in a combat zone for purposes of section
2201. Consequently, the estates of these individuals are
eligible for the reduction in Federal estate tax provided by
section 2201. The tax relief does not apply to any individual
identified by the Attorney General to have been a participant
or conspirator in any terrorist attack to which the provision
applies, or a representative of such individual.
The Victims Act also changes the general operation of
section 2201, as it applies to both the estates of service
members who qualify for special estate tax treatment under
present and prior law and to the estates of individuals who
qualify for the special treatment only under the Act. Under the
Victims Act, the Federal estate tax is determined in the same
manner for all estates that are eligible for Federal estate tax
reduction under section 2201. In addition, the executor of an
estate that is eligible for special estate tax treatment under
section 2201 may elect not to have section 2201 apply to the
estate. Thus, in the event that an estate may receive more
favorable treatment without the application of section 2201 in
the year of death than it would under section 2201, the
executor may elect not to apply the provisions of section 2201,
and the estate tax owed (if any) would be determined pursuant
to the generally applicable rules.
Under the Victims Act, section 2201 no longer reduces
Federal estate tax by the amount of the additional estate tax.
Instead, the Victims Act provides that the Federal estate tax
liability of eligible estates is determined under section 2001
(or section 2101, in the case of decedents who were neither
residents nor citizens of the United States), using a rate
schedule that is equal to 125 percent of the pre-EGTRRA maximum
State death tax credit amount. This rate schedule is used to
compute the tax under section 2001(b) or section 2101(b) (i.e.,
both the tentative tax under section 2001(b)(1) and section
2101(b), and the hypothetical gift tax under section 2001(b)(2)
are computed using this rate schedule). As a result of this
provision, the estate tax isunified with the gift tax for
purposes of section 2201 so that a single graduated (but reduced) rate
schedule applies to transfers made by the individual at death, based
upon the cumulative taxable transfers made both during lifetime and at
death.
In addition, while the Victims Act provides an
alternative reduced rate table for purposes of determining the
tax under section 2001(b) or section 2101(b), the amount of the
unified credit nevertheless is determined as if section 2201
did not apply, based upon the unified credit as in effect on
the date of death. For example, in the case of victims of the
September 11, 2001, terrorist attack, the applicable unified
credit amount under section 2010(c) would be determined by
reference to the actual section 2001(c) rate table.
HOUSE BILL
No provision.
SENATE AMENDMENT
The Senate amendment extends the exclusion from income
tax, the exclusion for death benefits, and the estate tax
relief available under the Victims of Terrorism Tax Relief Act
of 2001 to astronauts who lose their lives on a space mission
(including the individuals who lost their lives in the space
shuttle Columbia disaster).
Effective date.--The Senate amendment provision is
generally effective for qualified individuals whose lives are
lost on a space mission after December 31, 2002.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment provision.
XII. Sunset Provision
A. Termination of Certain Provisions (Sec. 1001 of the Senate
Amendment)
PRESENT LAW
Budget reconciliation is a procedure under the
Congressional Budget Act of 1974 (the ``Budget Act'') by which
Congress implements spending and tax policies contained in a
budget resolution. The Budget Act contains numerous rules
enforcing the scope of items permitted to be considered under
the budget reconciliation process. One such rule, the so-called
``Byrd rule,'' was incorporated into the Budget Act in 1990.
The Byrd rule, named after its principal sponsor, Senator
Robert C. Byrd, is contained in section 313 of the Budget Act.
The Byrd rule generally permits members to raise a point of
order against extraneous provisions (those which are unrelated
to the goals of the reconciliation process) from either a
reconciliation bill or a conference report on such bill.
Under the Byrd rule, a provision is considered to be
extraneous if it falls under one or more of the following six
definitions: (1) it does not produce a change in outlays or
revenues; (2) it produces an outlay increase or revenue
decrease when the instructed committee is not in compliance
with its instructions; (3) it is outside of the jurisdiction of
the committee that submitted the title or provision for
inclusion in the reconciliation measure; (4) it produces a
change in outlays or revenues which is merely incidental to the
nonbudgetary components of the provision; (5) it would increase
the deficit for a fiscal year beyond those covered by the
reconciliation measure; or (6) it recommends changes in Social
Security.
HOUSE BILL
No provision.
SENATE AMENDMENT
To ensure compliance with the Budget Act, the Senate
amendment provides that certain provisions of, and amendments
made by, the bill do not apply for taxable years beginning
after December 31, 2012.
Effective date.--The Senate amendment provision is
effective on the date of enactment.
CONFERENCE AGREEMENT
The conference agreement does not include the Senate
amendment.
The conference agreement does not modify the application
of the Economic Growth Tax Reconciliation Relief Act of 2001
(``EGTRRA'') sunset provision. The EGTRRA provision is
contained in Title IX of Pub. L. No.107-16.
XIII. Tax Complexity Analysis
The following tax complexity analysis is provided
pursuant to section 4022(b) of the Internal Revenue Service
Reform and Restructuring Act of 1998, which requires the staff
of the Joint Committee on Taxation (in consultation with the
Internal Revenue Service (``IRS'') and the Treasury Department)
to provide a complexity analysis of tax legislation reported by
the House Committee on Ways and Means, the Senate Committee on
Finance, or a Conference Report containing tax provisions. The
complexity analysis is required to report on the complexity and
administrative issues raised by provisions that directly or
indirectly amend the Internal Revenue Code and that have
widespread applicability to individuals or small businesses.
For each such provision identified by the staff of the Joint
Committee on Taxation, a summary description of the provision
is provided along with an estimate of the number and type of
affected taxpayers, and a discussion regarding the relevant
complexity and administrative issues.
Following the analysis of the staff of the Joint
Committee on Taxation are the comments of the IRS and the
Treasury Department regarding each of the provisions included
in the complexity analysis, including a discussion of the
likely effect on IRS forms and any expected impact on the IRS.
1. Increase the child tax credit (sec. 101 of the conference agreement)
Summary description of provision
The amount of the child credit is increased to $1,000 for
2003 and 2004, reverting to present law phase-in thereafter.
For 2003, the increased amount of the child credit will be paid
in advance beginning in July 2003 on the basis of information
on each taxpayer's 2002 return filed in 2003. Advance payments
will be made in a manner similar to the advance payment checks
issued by the Treasury in 2001 to reflect the creation of the
10-percent regular income tax rate bracket.
Number of affected taxpayers
It is estimated that the provisions will affect
approximately 27 million individual tax returns.
Discussion
Individuals should not have to keep additional records
due to this provision, nor will additional regulatory guidance
be necessary to implement this provision.
The IRS will need to add to the individual income tax
forms package a new worksheet so that taxpayers can reconcile
the amount of the check they receive from the Department of the
Treasury with the credit they are allowed as an acceleration of
the child tax credit for 2003. This worksheet should be
relatively simple and many taxpayers will not need to fill it
out completely because they will have received the full amount
by check.
2. Expansion of the 15-percent rate bracket (sec. 102 of the conference
agreement)
Summary description of provision
The bill accelerates the increase of the size of the 15-
percent regular income tax rate bracket for married individuals
filing joint returns to twice the width of the 15-percent
regular income tax rate bracket for unmarried individual
returns effective for 2003 and 2004, reverting to present-law
phase-in for 2005 and thereafter.
Number of affected taxpayers
It is estimated that the provision will affect
approximately 19 million individual tax returns.
Discussion
It is not anticipated that individuals will need to keep
additional records due to this provision. The increased size of
the 15-percent regular income tax rate bracket for married
individuals filing joint returns should not result in an
increase in disputes with the IRS, nor will regulatory guidance
be necessary to implement this provision.
3. Standard deduction tax relief (sec. 103 of the conference agreement)
Summary description of provision
The conference agreement accelerates the increase in the
basic standard deduction amount for joint returns to twice the
basic standard deduction amount for unmarried individual
returns effective for 2003 and 2004, reverting to present-law
phase-in for 2005 and thereafter.
Number of affected taxpayers
It is estimated that the provision will affect
approximately 22 million individual returns.
Discussion
It is not anticipated that individuals will need to keep
additional records due to this provision. The higher basic
standard deduction should not result in an increase in disputes
with the IRS, nor will regulatory guidance be necessary to
implement this provision. In addition, the provision should not
increase individuals' tax preparation costs.
Some taxpayers who currently itemize deductions may
respond to the provision by claiming the increased standard
deduction in lieu of itemizing. According to estimates by the
staff of the Joint Committee on Taxation, approximately three
million individual tax returns will realize greater tax savings
from the increased standard deduction than from itemizing their
deductions. In addition to the tax savings, such taxpayers will
no longer have to file Schedule A to Form 1040 and a
significant number of which will no longer need to engage in
the record keeping inherent in itemizing below-the-line
deductions. Moreover, by claiming the standard deduction, such
taxpayers may qualify to use simpler versions of the Form 1040
(i.e., Form1040EZ or Form 1040A) that are not available to
individuals who itemize their deductions. These forms simplify the
return preparation process by eliminating from the Form 1040 those
items that do not apply to particular taxpayers.
This reduction in complexity and record keeping also may
result in a decline in the number of individuals using a tax
preparation service or a decline in the cost of using such a
service. Furthermore, if the provision results in a taxpayer
qualifying to use one of the simpler versions of the Form 1040,
the taxpayer may be eligible to file a paperless Federal tax
return by telephone. The provision also should reduce the
number of disputes between taxpayers and the IRS regarding
substantiation of itemized deductions.
4. Reduction in income tax rates for individuals (secs. 104 and 105 of
the conference agreement)
Summary description of provision
The conference agreement accelerates the scheduled
increase in the taxable income levels for the 10-percent rate
bracket from 2008 to 2003 and 2004, reverting to the present-
law phasein for 2005 and thereafter. Specifically, the
conference agreement increases the taxable income level for the
10-percent regular income tax rate brackets for unmarried
individuals from $6,000 to $7,000 and for married individuals
filing jointly from $12,000 to $14,000. For taxable years
beginning after 2004, the amounts will revert to the levels
provided in present-law (e.g., $7,000 for unmarried individuals
and $12,000 for married couples filing jointly for 2005).
Also, the conference agreement accelerates the reductions
in the regular income tax rates in excess of the 15-percent
regular income tax rate that are scheduled for 2004 and 2006.
Therefore, the regular income tax rates in excess of 15 percent
under the conference agreement are 25 percent, 28 percent, 33
percent, and 35 percent for 2003 and thereafter.
Number of affected taxpayers
It is estimated that the provision will affect
approximately 76 million individual tax returns.
Discussion
It is not anticipated that individuals will need to keep
additional records due to this provision. It should not result
in an increase in disputes with the IRS, nor will regulatory
guidance be necessary to implement this provision. In addition,
the provision should not increase the tax preparation costs for
most individuals. Reductions in the regular income tax as a
result of these rate reductions as well as the expansion of the
child credit, standard deduction, and 10-percent bracket, will
cause some taxpayers to become subject to the alternative
minimum tax.
The Secretary of the Treasury is expected to make
appropriate revisions to the wage withholding tables to reflect
the proposed rate reduction for calendar year 2003 as
expeditiously as possible. To implement the effects of the
additional amount of child tax credit for 2003, employers would
be required to use a new (second) set of withholding rate
tables to determine the correct withholding amounts for each
employee. Switching to the new withholding rate tables during
the year can be expected to result in a one-time additional
burden for employers.
5. Bonus depreciation (sec. 201 of the conference agreement)
Summary description of provision
The conference agreement provides an additional first-
year depreciation deduction equal to 50 percent of the adjusted
basis of qualified property. Qualified property is defined in
the same manner as for purposes of the 30-percent additional
first-year depreciation deduction provided by the Job Creation
and Workers Assistance Act of 2002, except that the applicable
time period for acquisition (or self construction) of the
property is modified. In general, in order to qualify the
property must be acquired after May 5, 2003, and before January
1, 2005, and no binding written contract for the acquisition is
in effect before May 6, 2003. Property eligible for the 50-
percent additional first year depreciation deduction is not
eligible for the 30-percent additional first year depreciation
deduction.
Number of affected taxpayers
It is estimated that more than 10 percent of small
businesses will be affected by the provision.
Discussion
It is not anticipated that small businesses will have to
keep additional records due to this provision, nor will
additional regulatory guidance be necessary to implement this
provision. It is not anticipated that the provision will result
in an increase in disputes between small businesses and the
IRS. However, small businesses will have to perform additional
analysis to determine whether property qualifies for the
provision. In addition, for qualified property, small
businesses will be required to perform additional calculations
to determine the proper amount of allowable depreciation.
Complexity may also be increased because the provision is
temporary. For example, different tax treatment will apply for
identical equipment based on the acquisition and placed in
service date. Further, the Secretary of the Treasury is
expected to have to make appropriate revisions to the
applicable depreciation tax forms.
6. Capital gain rate reduction (sec. 301 of the conference agreement)
Summary description of provision
The conference agreement reduces the 10- and 20-percent
rates on the adjusted net capital gain to five and 15 percent,
respectively. These lower rates apply to both the regular tax
and the alternative minimum tax. The lower rates apply to
assets held more than one year. The five percent rate becomes
zero percent for taxable years beginning after 2007. The
conference agreement applies to taxable years ending on or
after May 6, 2003, and beginning before January 1, 2009.
For taxable years that include May 6, 2003, the lower
rates apply to amounts properly taken into account for the
portion of the year on or after that date. This generally has
the effectof applying the lower rates to capital assets sold or
exchanged (and installment payments received) on or after May 6, 2003.
In the case of gain and loss taken into account by a pass-through
entity, the date taken into account by the entity is the appropriate
date for applying this rule.
Number of affected taxpayers
It is estimated that the provisions will affect over 15
million individual tax returns.
Discussion
The elimination of the five-year holding period means
that taxpayers with gains on assets held for more than 5 years
will no longer need to separately compute tax for such gain on
schedule D of Form 1040. Additionally, the form will not need
to be expanded beginning in 2006 to separate out gain of
capital assets held more than five years that were purchased
after 2000. This may reduce tax preparation costs. Mutual fund
reporting on the Form 1099 will be made easier by the
elimination of the five-year holding period.
For 2003, multiple rates will be in effect depending on
whether gain was realized before or after May 6, 2003. This
will make the schedule D more complicated for tax year 2003,
and may increase tax preparation costs.
7. Dividend tax relief (sec. 302 of the conference agreement)
Summary description of provision
Under the conference agreement, qualified dividends
received by an individual shareholder from domestic and
qualified foreign corporations are generally taxed at the rates
that apply to net capital gain. This treatment applies for
purposes of both the regular tax and the alternative minimum
tax. Thus, under the conference agreement, dividends will be
taxed at rates of five and 15 percent, the same rates
applicable to net capital gain.
If a shareholder does not hold a share of stock for more
than 60 days during the 120-day period beginning 60 days before
the ex-dividend date, dividends received on the stock are not
eligible for the reduced rates. Also, the reduced rates are not
available for dividends to the extent that the taxpayer is
obligated to make related payments with respect to positions in
substantially similar or related property.
Number of affected taxpayers
It is estimated that the provisions will affect over 20
million individual tax returns.
Discussion
Individuals computing their tax will need to add
qualified dividends to net capital gain in computing their
income tax using the tax computation portion of Schedule D of
Form 1040 (or other tax computation forms or schedules as the
Internal Revenue Service may prescribe). Additional individuals
will need to use the tax computation schedule, which may
increase tax preparation costs.
New Form 1099s will need to differentiate qualified from
nonqualified dividends, and additional burdens will be imposed
on payors to comply with the new Form 1099 reporting.
Additional record keeping will be necessary with respect to
compliance with the 60-day holding period rules. It is likely
that there will be increased taxpayer errors with respect to
the proper reporting of dividends as a result.
Department of the Treasury,
Internal Revenue Service,
Washington, DC.
Ms. Mary Schmitt,
Acting Chief of Staff, Joint Committee on Taxation,
Washington, DC.
Dear Ms. Schmitt: Enclosed are the combined comments of
the Internal Revenue Service and the Treasury Department on the
seven provisions from the House and Senate markup of H.R. 2,
the ``Jobs and Growth Tax Relief Reconciliation Act of 2003,''
that your staff identified for complexity analysis in their May
22, 2003 telephone calls to the IRS Legislative Affairs
Division.
Our comments are based on the description of those
provisions in the enclosed analysis. Due to the short
turnaround time, our comments are provisional and subject to
change upon a more complete and in-depth analysis of the
provisions.
Sincerely,
Mark W. Everson,
Commissioner.
Enclosure.
Complexity Analysis of the Jobs and Growth Reconciliation Tax Act of
2003
ACCELERATION OF THE INCREASE IN THE CHILD TAX CREDIT
Provision
The amount of the child credit is increased to $1,000 for
2003 and 2004. For 2003, the increased amount ($400) will be
paid in advance beginning in July 2003 on the basis of
information on each taxpayer's 2002 return. Advance payments
are to be made in a similar manner to the advance payment
checks issued by the Treasury in 2001 to reflect the creation
of the 10-percent regular income tax rate bracket. After 2005
the child credit will revert to the levels provided in present
law (e.g., $700 for 2005).
IRS and Treasury Comments
No new forms would be required as a result of
the child tax credit provisions mentioned above.
The increased amount of the child tax credit and
the increased refundable portion would be incorporated in the
instructions for Forms 1040, 1040A, 1040NR, 1040-PR, and 1040-
SS for 2003 and 2004.
The applicable amount of the child tax credit
for 2005 and later years would be incorporated in the
instructions for Form 1040, 1040A, 1040NR, 1040-PR, and on Form
1040-ES for 2005 and later years.
Subsequent to enactment, the IRS would have to
advise taxpayers who make estimated tax payments for 2003 how
they can adjust their estimated tax payments for 2003 to
reflect the increased child tax credit, the increased
refundable portion, and the required reduction for those who
receive advance payments.
Supplemental programming changes would be
required for processing 2003 returns to reflect the increased
child tax credit, the increased refundable portion, and the
required reduction for those who receive advance payments.
Programming changes would be required for 2004
and later years to reflect the reversion of the applicable
child tax credit amount to the amounts currently scheduled for
the years. Currently, the IRS computation programs are updated
annually to incorporate mandated inflation adjustments.
Programming changes necessitated by the provision would be
included during that process.
ADVANCE PAYMENT FEATURE
An estimated 26 million checks will be mailed
beginning in July 2003.
It will take three weeks to mail checks to those
taxpayers whose 2002 tax returns have already been filed and
processed. Checks for taxpayers whose returns are filed and
processed later in the year will be mailed weekly, through the
end of December 2003.
Some taxpayers may be entitled to more than
their advance payment checks due to changes in financial or
family status between 2002 and 2003. For example, IRS will not
know if a taxpayer gives birth to a child or adopts a child in
2003 until the taxpayer files the 2003 tax return. If they are
entitled to a larger increase in the child tax credit than they
received in their advance payment checks, they will get the
additional amounts on their 2003 tax returns.
Notice will be sent to taxpayers informing them
of the amount of their advance payment, the number of children
used to compute the amount, if the amount was limited due to
the phase-out range, tax liability, or earned income. The
notices will also advise taxpayers that this amount will have
to be taken into account in determining the amount of their
child tax credit on the 2003 tax return.
Two lines will be added to the Child Tax Credit
Worksheet for 2003. Based on experience with the 2001 rate
reduction credit and advance payment, it is anticipated that a
number of taxpayers will make errors in this computation on
their 2003 tax returns.
The advance payment will require programming
changes to compute the amount and resources to answer taxpayer
questions, print and mail notices, and correct errors made on
2003 returns as a result of the advance payment.
ACCELERATION OF THE STANDARD DEDUCTION TAX RELIEF
Provision
The basic standard deduction amount for joint returns is
increased to twice the basic standard deduction amount for
unmarried individual returns, effective for 2003 and 2004.
After 2004, the applicable percentages will revert to present-
law levels (e.g., 174 percent of the basic standards deduction
for unmarried individuals for 2005).
IRS and Treasury Comments
The increased basic standard deduction for
married taxpayers would be incorporated in the instructions for
Forms 1040, 1040A, 1040EZ, and on Forms 1040, 1040A, and 1040EZ
for 2003, 2004, and 2005. No new forms would be required.
The amount of the basic standard deduction for
married taxpayers after 2004 (based on reversion to the
currently scheduled levels) would be incorporated in the
instructions for Forms 1040, 1040A, 1040EZ, and on Forms W-4,
1040, 1040A, 1040EZ, and 1040-ES for 2005 and later years.
Subsequent to enactment, the IRS would have to
advise taxpayers how they can adjust their estimated tax
payment of Federal income tax withholding for 2003 to reflect
the increased basic standard deduction.
Supplemental programming changes would be
required to reflect the increased basic standard deduction for
2003.
Programming changes would be required in 2005
and later to reflect the reversion of the standard deduction
amounts to the currently scheduled amounts for those years.
Currently, the IRS computation program are updated annually to
incorporate mandated inflation adjustment. Programming changes
necessitated by the provision would be included during that
process.
The larger basic standard deduction would reduce
the number of taxpayers who itemize their deductions in 2003
and 2004. It would also reduce the number of taxpayers who are
required to file income tax returns in those years.
ACCELERATION OF THE EXPANSION OF THE 15-PERCENT RATE BRACKET.
Provision
The width of the 15-percent regular income tax rate
bracket for joint returns is increased to twice the width of
the 15-percent regular income tax rate bracket for unmarried
individual returns, effective for 2003 and 2004. After 2004,
the end point of the 15-percent rate bracket for married
couples filing joint returns (as a percentage of the end point
of the 15-percent rate bracket for unmarried individuals) will
revert to present-law levels (i.e., 180 percent of the end
point of the 15-percent rate bracket for unmarried individuals
for 2005).
IRS and Treasury Comments
The expanded 15-percent rate bracket for married
taxpayers would be incorporated in the tax tables and the tax
rate schedules shown in the instructions for Forms 1040, 1040A,
1040EZ, and 1040NR for 2003 and 2004. No new forms would be
required.
The applicable width of the 15-percent rate
bracket for married taxpayers after 2004 (based on reversion to
the currently scheduled levels) would be incorporated in the
tax table and tax rate schedules shown in the instructions for
Forms 1040, 1040A, 1040EZ, and 1040NR and on Form 1040-ES for
2005 and later years.
The expanded 15-percent rate bracket would also
be incorporated in the tax rate schedules shown on Form 1040-ES
for 2004. Subsequent to enactment, the IRS would have to advise
taxpayers who make estimated tax payments for 2003 how they can
adjust their estimated tax payments for 2003 to reflect the
expanded 15-percent rate bracket.
Supplemental programming changes would be
required to reflect the expanded 15-percent rate bracket for
2003.
Programming changes would be required to reflect
the reversion to present law levels for determining the width
of the 15-percent rate bracket for 2005 and later years.
Currently, the IRS computation programs are updated annually to
incorporate mandated inflation adjustments. Programming changes
necessitated by the provision would be included during that
process.
New withholding rate tables and schedules to
update the current Circular E for use by employers during the
remainder of calendar year 2003 would be required.
ACCELERATION OF THE REDUCTION OF REGULAR INDIVIDUAL INCOME TAX RATES
Provision
The conference agreement accelerates the scheduled
increase in the taxable income levels for the 10-percent rate
bracket from 2008 to 2003, and 2004, reverting to the present-
law phase-in for 2005 and thereafter. Specially, the conference
agreement increases the taxable income level for the 10-percent
regular income tax rate brackets for unmarried individuals from
$6,000 to $7,000 and for married individuals filing jointly
from $12,000 to $14,000. For taxable years beginning after
2004, the amounts will revert to the levels provided in
present-law (i.e., $6,000 for unmarried individuals and $12,000
for married couples filing jointly for 2005).
Also, the conference agreement accelerates the reductions
in the regular income tax rates in excess of the 15-percent
regular income tax rate that are scheduled for 2004 and 2006.
Therefore, the regular income tax rates in excess of 15 percent
under the conference agreement are 25 percent, 28 percent, 33
percent, and 35 percent for 2003 and thereafter.
IRS and Treasury Comments
No new forms would be required as a result of
the above-mentioned provisions.
The increased taxable income levels for the 10-
percent rate bracket would be incorporated in the tax tables
and tax rate schedules shown in the instructions for Forms
1040, 1040A, 1040EZ, 1040NR, and 1040NR-EZ for 2003 and 2004.
The reduced tax rates would be incorporated in
the tax tables and tax rate schedules shown in the instructions
for Forms 1040, 1040A, 1040EZ, 1040NR, 1040NR-EZ, and 1041 for
2003 and 2004.
Changes to the 10-percent rate bracket for tax
years beginning after 2004 resulting from the reversion to the
present-law phase-in schedule would be incorporated in the tax
tables and tax rate schedules shown in the instructions for
Forms 1040, 1040A, 1040EZ, 1040NR, and 1040NR-EZ and on Form
1040-ES for 2005 and later years. Currently, the IRS
computation programs are updated annually to incorporate
mandated inflation adjustments. Programming changes
necessitated by the provision would be included during that
process.
The increased taxable income levels for the 10-
percent rate bracket and the reduced tax rates would also be
incorporated in the tax rate schedules shown on Form 1040-ES
for 2004. Subsequent to enactment, the IRS would have to advise
taxpayers who make estimated tax payments for 2003 how they can
adjust their estimated tax payments for 2003 to reflect the
increased taxable income levels for the 10-percent rate bracket
and the reduced rates.
SPECIAL DEPRECIATION ALLOWANCES FOR CERTAIN PROPERTY
Provision
The bill provides an additional first-year depreciation
deduction equal to 50 percent of the adjusted basis of
qualified property. Qualified property is defined in the same
manner as for purposes of the 30-percent additional first-year
depreciation deduction provided by the Job Creation and Workers
Assistance Act of 2002, except that the applicable time period
for acquisition (or self construction) of the property is
modified. In general, in order to qualify, the property must be
acquired after May 5, 2003, and before January 1, 2006, and no
binding written contract for the acquisition can be in effect
before May 6, 2003. Property eligible for the 50-percent
additional first-year depreciation deduction is not eligible
for the 30-percent additional first-year depreciation
deduction.
IRS and Treasury Comments
The increase and extension of additional first-
year depreciation would have no significant impact on Form 4562
or any other tax forms. The instructions for Form 4562 and
other instructions and publications would be expanded to
explain and implement the new rules.
No programming changes would be required by this
provision.
REDUCED INDIVIDUAL CAPITAL GAINS RATES
Provision
The 10- and 20-percent rates on the adjusted net capital
gain are reduced to 5 and 15 percent, respectively, effective
in taxable years ending on or after May 6, 2003, and beginning
before January 1, 2009.
For taxable years that include May 6, 2003, the lower
rates apply to amounts properly taken into account for the
portion of the year on or after that date. This generally has
the effect of applying the lower rates to capital assets sold
or exchanged (and installment payments received) on or after
May 6, 2003.
IRS and Treasury Comments
The mid-year effective date of May 6, 2003,
creates complexity and burden for taxpayers, and will likely
result in a large number of errors (as occurred in 1997 when
similar mid-year changes were made to the capital gains tax
rate). A January 1, 2003, effective date would greatly simplify
matters for 2003 (instead of adding 8 lines to several products
for 2003 as described below, 4 lines would be removed).
To figure the amount of gain taxed at 5% and 15%
for 2003, 8 lines would be added to: Schedule D (Form 1040);
the Schedule D Tax Worksheet; Form 6251 (alternative minimum
tax); and Form 8801 (credit for prior year minimum tax).
Column (g) of Schedule D would be revised to
request information for amounts applicable to the portion of
the tax year after May 5, 2003. Additional instructions and a
6-line worksheet would be added to figure 28% rate gain or
loss, as that amount is currently figured in column (g).
Rules would have to be developed and applied for
2003 to account for the limit on net section 1231 losses,
capital loss carryforwards, carryforwards not allowed due to
passive activity rules or at-risk rules, etc.
The amount of net capital gain for the portion
of the tax year after May 5, 2003, would have to be transcribed
from the tax return and programming changes would be required
to figure the amount of gain taxed at 5% and 15%.
For 2003, Form 1099-DIV filers would be required
to figure and report to recipients the amount of gain after May
5, 2003.
Taxpayers whose only capital gains are capital
gain distributions would not be able to use the shorter Capital
Gain Tax Worksheet in the instructions for Form 1040 and Form
1040A, but instead would be required to file Form 1040 and
attach Schedule D, to report the amount of their capital gain
distributions properly taken into account after May 5, 2003,
and figure their tax using the 5%, 10%, 15%, and 20% capital
gains tax rates. This provision would therefore increase the
number of taxpayers filing Schedule D by up to 6 million.
For 2004, the 8 lines added for 2003 and 4
current lines (used to figure the 8% rate) would be removed
from: Schedule D; the Schedule D Tax Worksheet; Form 6251; and
Form 8801.
The 8-line Qualified 5-Year Gain Worksheet in
the Instructions for Schedule D would not be necessary after
2003.
For 2006, when the 18% capital gains tax rate
becomes effective for individuals, this provision would also
save us from having to add 4 lines to Schedule D, the Schedule
D Tax Worksheet, Form 6251, Form 8801, and the Qualified 5-Year
Gain Worksheet.
Form 1099-DIV filers would not be required to
report qualified 5-year gain after 2003, and would not be
required in 2005 to begin reporting qualified 5-year gain
eligible for the 18% rate.
For tax years beginning after 2008, the 5% and
15% rates would cease to apply, the 8% rate on qualified 5-year
gain would again apply, and the 18% rate on qualified 5-year
gain on property acquired after 2000 would begin to apply. At
least 8 lines would have to be added to the 2009 Schedule D
(Form 1040) and 2009 Schedule D Tax Worksheet, 2009 Form 6251,
and Form 8801. A worksheet of at least 8 lines would be
required to figure the 8% and 18% qualified 5-year gain
amounts. Several million taxpayers, filing Form 1040 or 1040A,
whose only capital gains are capital gain distributions and
dividends would no longer be eligible to figure their tax using
a short Capital Gain Tax Worksheet, but instead would be
required to file Form 1040 and Schedule D. Form 1099-DIV filers
would again have to track and report 8% qualified 5-year gain,
and would have to begin reporting 18% qualified 5 year gain.
DIVIDEND INCOME OF INDIVIDUALS
Provision
Dividends received by an individual shareholder from
domestic corporations are taxed at the rates for net capital
gain (5 or 15 percent per the above reduction in the capital
gains rate), effective for taxable years beginning after 2002
and before 2013.
If a shareholder does not hold a share of stock for more
than 60 days during the 90-day period beginning 60 days before
the ex-dividend date, dividends received on the stock are not
eligible for the capital gain rates. Also, the capital gain
rates are not available for dividends to the extent that the
taxpayer is obligated to make related payments with respect to
positions in substantially similar or related property. Other
rules apply.
IRS and Treasury Comments
No new forms would be required as a result of
the above-mentioned provision.
A box to report qualified dividends would be
added to Form 1099-DIV for 2004 through 2012.
Subsequent to enactment, the IRS would have to
issue a revised Form 1099-DIV for 2003 and advise taxpayers who
make estimated tax payments for 2003 how they can adjust their
estimated tax payments to reflect the new rates applicable to
qualified dividends.
Two lines would be added to Part IV of Schedule
D (and the Schedule D Tax Worksheet) for 2003 through 2012 to
increase net capital gain by the amount of qualified dividends.
The new tax rates applicable to qualified
dividends would be reflected in the instructions for Forms 1040
and 1040A for 2003 through 2012.
Taxpayers who have qualified dividends would be
required to report them on Schedule D and complete up to 19
lines (23 lines for 2003) in Part IV of Schedule D to figure
their tax using the 15% and 5% capital gains tax rates, even if
they did not otherwise have a net capital gain. For example,
taxpayers whose only income was wages, interest, and dividends
reported on Form 1040A would now be required to file Form 1040
and attach Schedule D to report the amount of qualified
dividends and figure their tax.
Supplemental programming changes would be
required to reflect the new tax rates applicable to qualified
dividends for 2003.
Programming changes would be required to reflect
the tax rates applicable to qualified dividends after 2012.
Currently, the IRS tax computation programs are updated
annually to incorporate mandated inflation adjustments.
Programming changes necessitated by the provision would be
included during that process.
Technical guidance (regulations, revenue
rulings, etc.) will probably be needed to implement the anti-
abuse rules.
For tax years beginning after 2008, the
additional lines added for 2003-2007--one line for Form 1040
and two lines in each place tax is figured using capital gains
tax rates (Schedule D, Schedule D Tax Worksheet, and Capital
Gain Tax Worksheets)--would be removed.
EFFECT OF ALL BILL PROVISIONS ON AMT
Despite specific changes which tend to increase the
number of AMT taxpayers, the bill's increase in the AMT
exemption amounts for 2003-2004 would significantly reduce the
number of AMT taxpayers in those years relative to current law.
William M. Thomas,
Tom DeLay,
Managers on the Part of the House.
Chuck Grassley,
Orrin Hatch,
Don Nickles,
Trent Lott,
Managers on the Part of the Senate.