The framework for tax debate in the 107th Congress took on greater shape this week as House and Senate leaders filled most of the vacancies on the two taxwriting committees.

Two New Members for Ways and Means -- The House Ways and Means Committee, which will be made up of 24 Republicans and 17 Democrats in the 107th Congress, added two new Republican members January 5: Reps. Kevin Brady of Texas, and Paul Ryan of Wisconsin. One Democratic spot on the committee remains to be filled.

Both Brady and Ryan support eliminating the marriage penalty and phasing out the federal estate and gift tax.

Brady has said he hopes to follow in former Chairman Bill Archer's, R-Texas, path toward fundamental tax reform. In the 106th Congress, Brady backed a bill that would have repealed the income tax, abolished the Internal Revenue Service, and enacted a national retail sales tax. He has also said he opposes a "bit tax" on Internet data.

Ryan has said he wants to strengthen Social Security, improve Medicare, reform taxes, and reduce the public debt.

Senate Finance Committee Welcomes Seven New Members -- The Senate Finance Committee, which will be evenly divided with 10 members from each party, filled out its roster January 10. The new members bring a variety of interests and ideologies to the committee; but they also share common goals such as a permanent extension of the R&D tax credit and the repeal of the 3 percent federal telephone excise tax.

New Democratic members include Senate Majority Leader Tom Daschle of North Dakota, as well as Sens. Jeff Bingaman of New Mexico, John Kerry of Massachusetts, Blanche Lincoln of Arkansas, and Robert Torricelli of New Jersey.

Republican Sens. John Kyl of Arizona and Olympia Snowe of Maine will fill the two GOP vacancies.

The presence on the committee of both Daschle and Senate Majority Leader Trent Lott, R-Miss., has fueled speculation that the committee may become a partisan battleground on taxes, Medicare, and Social Security. But Lincoln and Snowe are centrists, leaders of the New Democrat Coalition and the Senate Centrist Coalition, respectively. For his part, Bingaman is a Democrat who supports tax incentives for the production of oil and gas. They all represent a group of new members who may reach across the aisle to compromise on issues such as estate and gift tax repeal or a prescription drug benefit. Many members also support some form of pension reform, repeal of the marriage penalty, and a repeal the 4.3-cent motor fuel excise taxes on railroads and inland waterway transportation.

Of late, Daschle has expressed his support for targeted tax cuts of up to $700 billion over 10 years. He has warned, however, that he and many other Democrats would be unwilling to support a retroactive tax cut like the one being considered by the incoming Bush administration. (See previous story.)

Two new Democratic members in particular may prove more willing to consider some Republican tax cut proposals. During the 106th Congress, Lincoln supported a bill offered by fellow new committee member Kyl to repeal the federal estate and gift tax, provide for a carryover basis at death, and establish a partial capital gains exclusion for inherited assets. She also supported a measure to assist the states in simplifying their sales and use taxes.

During the 106th Congress, Torricelli co-sponsored measures to prohibit the imposition of discriminatory commuter taxes, increase the maximum taxable income for the 15 percent rate bracket, and provide a partial exclusion from gross income for dividends and interest received by individuals. He also backed a long-term capital gains deduction for individuals, higher contribution limits for traditional IRAs, and tax credits for distressed communities and computer donations to schools. Torricelli worked with the late Finance Committee member Sen. Paul Coverdell, R-Ga., on a tax simplification bill.

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The IRS is working at a feverish pace to complete its 2000 business plan before the new administration takes control. Over the past week it has issued guidance in a number of important areas.

Proposed Circular 230 Regulations -- Long-awaited rules governing the professional standards for practice before the IRS were published on January 11. The standards, referred to as Circular 230, were revised to include stricter requirements for professionals who provide tax shelter opinions. Among other provisions, the proposed regulations would --

• Impose higher due diligence and legal analysis standards by requiring that practitioners carefully examine the stated business purpose for a transaction and analyze all potentially relevant judicial doctrines and anti-abuse rules;
• Prohibit fee arrangements in which the practitioner's fee is contingent on the transaction's benefit being sustained;
• Require that firms take reasonable steps to put in place adequate procedures to ensure compliance with Circular 230 standards;
• Authorize the IRS to issue a public reprimand or censure in cases that do not warrant suspension or disbarment.

Interim Guidance on Split-Dollar Life Insurance -- Earlier in the week, the IRS finally provided taxpayers with interim guidance (Notice 2001-10) on the tax treatment of newer forms of split-dollar life insurance arrangements.

Split-dollar life insurance, which is commonly utilized in connection with deferred compensation plans for selected employees, generally involves the sharing of the costs of purchasing and the benefits provided under life insurance contracts between the employer and the employee. Under more traditional arrangements, the employer would pay all, or a portion of, the premiums required under the contract. On the death of the insured employee, the employer would be entitled to the related investment earnings on the contract, as well as a return of premiums paid in. The employee's beneficiary would be entitled to the death benefit, less any premium amounts returned to the employer.

In the 1960s, the Service issued a series of rulings that required the employee to recognize as taxable income each year, the value of any economic benefits and the current life insurance protection. (See Rev. Rul. 64-328, 1964-2 C.B. 11, and Rev. Rul. 66-110, 1966-1 C.B. 12.) The value of the current life insurance protection is determined by using the lower of (1) the one-year government-prescribed premium rates (commonly referred to as the P.S. 58 rates) or (2) the insurer's premium rates for one-year term insurance. (For the P.S. 58 rates, see Rev. Rul. 55-747,1955-2 C.B. 228.)

Over time, however, many new forms of split-dollar life insurance have evolved that offer different means of "splitting" the rights and obligations of the parties than occurred under the traditional arrangements. New products include equity split-dollar arrangements in which the employee obtains rights to all, or a portion of, the investment earnings generated by the life insurance contract in addition the right to receive death benefits.

Outside of a 1996 technical advice memorandum that was heavily questioned by the insurance industry, however, Notice 2001-10 is the first guidance issued by the Service that addresses the tax treatment of these newer arrangements.

According to this notice, employees under split-dollar arrangements will be required to characterize the amounts paid into the contract by the employer as a loan or a non-loan. If the payments are characterized as loans, the amounts paid will be subject to the below-market-loan rules set forth in Internal Revenue Code section 7872, and the employee will not have to recognize the value of the life insurance protection provided.

If the payments are characterized as non-loans, the taxpayer will have to currently recognize the value of life insurance provided as well as the amount of any increases in the cash surrender value of the contract to which the employee becomes vested.

Moreover, subject to certain transition rules, the P.S. 58 rates will generally no longer be permitted for purposes of determining the value of life insurance protection. In their place, the Service will now require use of rates similar to those required under the section 79 group term life insurance provisions. In addition, conditions have been put on the use of insurance company one-year term insurance rates.

Other Guidance -- The IRS has also finalized rules on the treatment of long-term contracts under section 460, intermediate sanctions for tax-exempt organizations engaged in excess-benefit transactions, the conversion to the Euro, and qualified transportation fringe benefits.

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