JCT Staff Issues Sweeping Federal Tax Simplification Proposals

Thursday, April, 26, 2001

Deloitte & Touche OnLine

On a day when the House taxwriting panel approved a $51.5 billion pension reform bill (see story below), the staff of the Joint Committee on Taxation (JCT)   released a wide-ranging, aggressive set of proposals aimed at simplifying the federal tax system. Mandated by the Internal Revenue Service Restructuring and Reform Act of 1998, the study, which will be released April 26, does not take revenue into account in making bold recommendations such as –

• repealing individual and corporate alternative minimum tax;

• eliminating income-based phaseouts for individual retirement accounts, overall limitations on itemized deductions, and phase-out of personal exemptions;

•  replacing the current rate system for capital gains with a fixed percentage deduction;

• applying the active business requirement of section 355 on an affiliated group basis;

• eliminating the rules applicable to foreign personal holding companies and foreign investment companies; and

• a number of other industry-specific, corporate, and international tax proposals.

The study will be the subject of an April 26 Senate Finance Committee hearing and undoubtedly will provide fodder for both politicians and interest groups seeking relief related to the provisions outlined by the Joint Committee staff. JCT Staff Director Lindy Paull and representatives from the American Institute of Certified Public Accountants and the American Bar Association are scheduled to testify.

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Pension Reform Legislation Sails Through House Ways and Means Committee

The House Ways and Means Committee on April 25 voted 35-6 to approve the Comprehensive Retirement Security and Pension Reform Act of 2001 (H.R. 10), legislation designed to expand employer-provided pension coverage and encourage more individuals to save for retirement. The measure – which would cost $51.5 billion over 10 years – is based almost entirely on a pension bill introduced last year by committee members Rob Portman, R-Ohio, and Ben Cardin, D-Md., which the House passed overwhelmingly.

"The personal savings rate in this country is too low, and far too many individuals are not covered by an employer-provided retirement plan or IRA," said Ways and Means Committee Chairman Bill Thomas, R-Calif. "This pension and retirement savings reform legislation will address these problems by raising contribution limits, allowing workers to roll over their retirement assets when they change jobs, and simplifying the pension laws so that small businesses will be more likely to offer retirement plans for their employees."

Portman agreed. "This year, Portman-Cardin has over 300 co-sponsors, with over 170 Republicans and over 125 Democrats," he said. "Pension reform isn't just important for the future. The current economic slowdown has helped spur interest in tax relief. In addition to encouraging Americans to consume and to reduce debt, tax relief should also be used to encourage Americans to save."

Higher Contribution Limits – The bill would hike contribution limitations for individual retirement arrangements (IRAs) for the first time since 1981. It also would increase limitations for other types of deferred compensation plans and permit "catch up" contributions for individuals nearing retirement age.

• IRAs – Contribution limitations for both traditional and Roth IRAs would increase by $1,000 during each of the next three years, allowing for participants to contribute up to $5,000 in 2004. Thereafter the limitation amount would be indexed annually in $500 increments. Older individuals preparing for retirement would see limitations increase more quickly. Beginning in 2002, individuals age 50 and over could make "catch-up" IRA contributions of $5,000 a year. That cap would be indexed annually in $500 increments beginning in 2005.

• Elective Deferral Plans – Employees participating in elective deferral plans, such as section 401(k), 403(b), and simplified employee pension (SEP) plans could in 2002 make contributions of $11,000 – an increase of $500 over this year's limit. In years following, the annual limit would increase in $1,000 annual increments – until it reaches $15,000 in 2006. Thereafter the limit would be indexed annually in $500 increments.

• Section 457 Plans – Contribution limitations for these plans would conform to the pattern of modifications proposed for elective deferral plans. Next year, the maximum contribution would be $11,000, eventually increasing to $15,000 in 2006. However for the three years preceding retirement, the maximum limit would be twice the otherwise applicable dollar limit.

• SIMPLE Plans – For these plans the maximum contribution would increase from $6,000 in annual increments of $1,000, until it reaches $10,000 for 2005. The limit would be indexed annually in $500 increments beginning in 2006.

• Defined Benefit/Contribution Plans – Under the proposal the cap on benefits payable from a defined benefit plan would increase to $160,000 (from $140,000). The maximum combined employee and employer defined benefit contribution would increase to $40,000 (from $35,000).

Greater Portability – To accommodate an increasingly mobile workforce, the bill would give workers more flexibility to move their retirement savings from job to job, or to roll over savings between different types of plans. Distributions from an IRA could be rolled over into a qualified plan, section 403(b) annuity, or governmental section 457 plan. Rollover distributions from qualified retirement plans, section 403(b) annuities, and governmental section 457 plans could be moved into any of such plans.

Accelerated Vesting Schedules – The legislation also would accelerate the vesting schedules for employer matching contributions. Under current law, employer-provided benefits must vest to the employee at least as quickly as provided under two alternative schedules: 100 percent upon the completion of five years of service, or at least 20 percent after three years, with further nonforfeitable rights granted in the ensuing years.

The legislation would allow vesting under two shorter time periods: 100 percent after three years of service, or 20 percent for each year of service, starting with the employee's second year of service and ending with 100 percent vesting after six years of service.

No Guarantees – Despite its success in committee and likely passage on the House floor, the bill may not make its way into final tax legislation because the parties are still struggling over how to allocate the budget surplus. The markup does suggest, however, that House taxwriters think this bill is a high priority and several pieces of it could be enacted in a modified form.

The House Education and Workforce Committee, which also has jurisdiction over the bill, will hold its own markup on April 26. According to Thomas, the House Rules Committee will decide to how to resolve differences between the two versions. (Any differences are expected to be minor.)

GOP Amendments Approved – The Ways and Means Committee passed an amendment by Rep. Clay Shaw, R-Fla., to provide that nonresident aliens who work on cruise ships and other international transportation services would not be taken into account in determining whether a qualified pension plan discriminates in favor of highly compensated employees. It also passed an amendment by Rep. Sam Johnson, R-Texas, which would encourage employers to set up retirement investment accounts for domestic employees, as well as an amendment by Rep. Phil English, R-Pa., that would make self-employed workers in certain religious groups eligible for Keogh Plans and other retirement vehicles.

Senate Outlook Unclear – The bill's outlook in the Senate is unsure, but Senate Finance Committee Chairman Charles Grassley, R-Iowa, has introduced a similar pension bill with ranking Democrat Max Baucus of Montana.

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Bush Signals Compromise on Tax Cuts

As House and Senate budget negotiators continue to work on reconciling their competing tax and spending blueprints for next year, President Bush signaled April 25 that he may be willing to compromise on his 10-year, $1.6 trillion tax cut package.

The Associated Press reports that after his second meeting in two days with congressional budget negotiators, the president said that he recognizes his tax plan will have to be trimmed in order to pass the House and Senate. Although he refused to commit to a specific figure, Bush urged negotiators to make across-the-board rate cuts for individuals a priority.

"First of all, define the size of the pie and then we can figure out the slices," Bush said. "But let's get as much as possible for the American people."

The Republican-controlled House passed a budget resolution in March that calls for $1.6 trillion in tax cuts over the next 10 years and a 4 percent spending increase for next year. On April 6, the Senate, which is evenly divided between Republicans and Democrats, passed a tax cut of only $1.2 trillion, with an 8 percent boost to federal spending. President Bush has joined Senate GOP leaders in acknowledging they may not be able to win support for a tax cut as large as the House version.

"It's going to be less than $1.6 [trillion] and greater than $1.2 [trillion] and we've got to figure out how to make it work," Bush said.

Supermajority Amendment Fizzles Again – Meanwhile, the House on April 25 again failed to pass a proposed constitutional amendment that would require a two-thirds majority to approve any tax increase in Congress. The bill – which failed by a vote of 232-189 – was similar to a proposal defeated last year.

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