Tax Relief Bill Clears Senate Finance Committee

Thursday, May 17, 2001

Deloitte & Touche OnLine

The Senate Finance Committee late on May 15 voted 14-6 to pass a $1.35 trillion, 11-year tax-cut package that includes $100 billion in tax measures to stimulate the economy this year and next, and paves the way for Congress to pass a final bill that sets tight limits on tax and spending policy for the next decade.

The Finance Committee package is expected go to the Senate floor May 17. Majority Leader Trent Lott, R-Miss., has said that he wants a final vote on the bill Monday, May 21. The Senate bill is protected from extended debate and filibuster under the reconciliation process.

For its part, the House has passed four tax cut bills with a combined 10-year cost of nearly $1.6 trillion. House lawmakers on May 16 debated and passed by a vote of 230-197 their reconciliation vehicle, H.R. 1836. The bill includes only the marginal rate cut provisions adopted in H.R. 3. This allows the House GOP leadership to avoid revealing where it stands on other tax cut provisions–such as estate tax repeal, pension reform, and marriage penalty relief–as House and Senate negotiators get ready to head into conference. At the same time, this strategy underscores the importance that the House places on slicing the top income tax rate from 39.6 percent to 33 percent.

A House-Senate conference could begin as early as May 21, with the goal of sending a final bill to the president by Memorial Day.

As approved by the Finance Committee, the proposal would implement the vast majority of the president's proposed tax cuts, although the relief is tilted more toward the middle and lower classes. Like the president's plan, the Finance Committee package would repeal the estate tax, provide marriage penalty relief, and cut marginal income tax rates. It also goes beyond the president's tax cut agenda in several areas, including pensions and education savings. For instance, it would increase pension portability for workers who change jobs, permit "catch-up" retirement account contributions for workers 50 and older, and raise contribution limits to IRAs and employer-sponsored retirement plans.

Corporate Estimated Taxes–Although the Finance Committee proposal largely mirrors the compromise tax package unveiled May 11 by Chairman Charles Grassley, R-Iowa, and ranking Democrat Max Baucus of Montana, Grassley offered–and the committee approved–some significant modifications to the original mark.

To avoid dipping into the Medicare and Social Security trust funds in order to pay for revenue losses related to the tax cuts, the committee approved a proposal that would shift the deadline for some corporate estimated tax payments for fiscal year 2001 into fiscal year 2002. Under the proposal, corporations would pay 30 percent of their estimated tax payment on September 17, 2001, and 70 percent of their estimated payment on October 1, 2001. According to the Joint Committee on Taxation, the change would boost fiscal year 2002 revenues by an estimated $23 billion. Due dates for corporate estimated tax payments would be similarly adjusted in September 2004, as another round of tax cuts is phased in.

Sunset Provisions–In addition, the chairman's mark was modified to sunset the bulk of the provisions–including those to reduce income tax rates, expand the child credit, repeal the marriage penalty, expand education incentives, reduce estate and gift taxes, and expand retirement plans–on September 30, 2011. This means that the various tax cuts will disappear beginning October 1, 2011, and the Congress in session at that time will have to determine how to deal with tax provisions that have re-emerged. Under the rules of the Senate, reconciliation bills can only modify tax laws for the period defined under the bill, but not beyond.

The Details–The Finance Committee package would do the following:

• Marginal Rates–Notably, the proposal would reduce the top individual income tax rate from 39.6 percent to 36 percent–not 33 percent as advocated by the House and the Bush administration. It also would create a new 10 percent rate bracket retroactive to January 1, 2001, and drop the 28-, 31-, and 36 percent brackets by 3 percentage points each between 2002 and 2007.

• Estate and Gift Taxes–The proposal would hike the existing $675,000 estate tax exemption to $4 million over 10 years and repeal the tax outright by 2011. It would lower the top rate from 55 percent to 50 percent by 2002. Unlike the Bush and House GOP proposals, however, the Finance Committee agreement would retain the gift tax.

• Alternative Minimum Tax–The proposal would allow the child credit to be claimed against the alternative minimum tax (AMT) permanently and would repeal the AMT offsets of refundable credits. The proposal increases the AMT exemption amount by $4,000 for married couples filing a joint return and by $2,000 for individuals for years 2001 through 2006. (The provision sunsets on December 31, 2006.)

• Marriage Penalty, Child Credit–The proposal would double the child tax credit to $1,000 and provide marriage penalty relief by raising the standard deduction for married couples to twice the rate for single taxpayers between 2006 and 2010.

• Pensions and Retirement Accounts–The proposal would raise contribution limits for IRAs to $5,000 (from $2,000) and hike contribution limits for employer-sponsored retirement plans --
  such as 401(k)s–to $15,000 (from $10,000). It also would increase portability of pension benefits for workers who change jobs and permit "catch-up" retirement account contributions for workers age 50 and older.

• Employer-Provided Educational Assistance–The proposal would extend the current-law exclusion for employer-provided educational assistance to graduate education and make the exclusion (as applied to both undergraduate and graduate education) permanent.

• Limitations on Itemized Deductions–The proposal would increase the starting point of the overall limitation on itemized deductions for all taxpayers (other than married couples filing separate returns) to the starting point of the personal exemption phaseout for married couples filing a joint return, effective beginning in 2009. If this provision had been effective for 2001, the change would have saved some high income taxpayers subject to the limitation approximately $2,000.

• Limitations on Personal Exemptions–The proposal would repeal the current-law phaseout of deductions for personal exemptions, beginning in 2009.

• Education Savings–The proposal would eliminate the caps on student loan interest deductions and raise the amount that can be contributed to an education savings account to $2,000 (from $500).

• S Corporation ESOPs–The sole intentional revenue raiser in the proposal would prohibit allocations of stock in an S corporation ESOP to certain classes of owners of the corporation.

Other Modifications–The committee approved minor changes to provisions in the chairman's mark relating to estate, gift, and generation-skipping transfer taxes; pension plans and IRAs; and Social Security and Medicare funds.

The chairman's mark was modified to expand the availability of installment payment of estate taxes for estates of decedents with an interest in certain closely held businesses. In particular, it would expand the availability of the installment payment provisions by providing that an estate of a decedent with an interest in a qualifying lending and financing business is eligible for installment payment of estate tax only over five years. Also, it would clarify that installment provisions under current law require that only the stock of the holding companies, not that of operating subsidiaries, must be not readily tradable in order to qualify for installment payment of estate tax only over five years.

The committee also changed pension and individual retirement arrangement provisions affecting nonresident alien crew members of foreign vessels and the treatment of contributions to multi-employer plans.

Permanent R&D Credit: Left Out, But Not Forgotten–Although the Finance Committee package does not include a proposal favored by the White House–and many members of Congress–that would permanently extend the research and development (R&D) tax credit, debate at the markup signaled that the provision has a solid chance of passage in the Senate later this session.

Separate amendments for a permanent R&D credit by offered Sen. Orrin Hatch, R-Utah, and Senate Minority Leader Tom Daschle, D-S.D., were withdrawn after Grassley promised to do his best to see the proposal brought to the floor and passed–assuming an acceptable revenue offset is found to finance its $47 billion, 10-year cost.

Final Senate Passage Looks Certain–Grassley and Baucus, who were the prime movers of the package, applauded the committee vote. "Never have taxes been so high, never have Americans been so ready for tax relief," said Grassley.

For his part, Baucus declared that "this bill has a better distribution of tax cuts than the president or the House and is more progressive than current law."

Daschle disagreed. "This bill fails despite your good effort for three reasons," he said. "First, it's based on budget projections I guarantee will not be realized. Second, the cost of this proposal is reported to be $1.35 trillion, but in actuality the size is much greater when you add in the AMT, extenders, and interest on the debt. Plus, it's all backloaded and why? Because we can't afford it. Third is the fairness issue. Under this bill, the wealthy will benefit at the expense of everyone else. This bill gives one-third of the benefits to the top 1 percent. For these reasons, this bill deserves to be beaten. We know that won't happen in committee, but we hope to improve it."

Passage by the full Senate was effectively guaranteed, however, as six Finance Committee moderates–who can tilt the balance in the equally divided chamber–voted en bloc to approve the package.

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Representatives of the U.S. Telecom Association (USTA) and Deloitte & Touche are expected to testify at a May 23 public hearing that proposed regulations on the sourcing of income from space, ocean, and communications activities (Prop. Treas. Reg. Sections 1.863-8 and 1.863-9) raise significant double taxation and administrative issues for the communications industry.

In comments filed May 7 with the U.S. Treasury Department and the Internal Revenue Service, the USTA and Deloitte & Touche urged the government to expeditiously issue final regulations that address these concerns. The comments note that the regulations will affect the taxation of the basic transactions underlying the new global economy–including electronic commerce–and emphasize that, to the greatest extent possible, the regulations should avoid undermining the competitiveness of U.S. companies abroad by creating multiple taxation on U.S. taxpayers or foreign companies owned by U.S. taxpayers.

The comments address four main issues: (1) inconsistencies between congressional intent, as reflected in the statute and legislative history, and the regulations' proposed approach to classifying and sourcing communications income; (2) the proposed provisions regarding reporting and tax return disclosure of certain allocations made with respect to communications income;  (3) the source rules proposed for communications income earned by U.S.-owned foreign corporations; and (4) the proposed regulations' inclusion of some communications income in the definition of space and ocean income for purposes of both subpart F and the separate limitation rules for foreign tax credits.

The comments urge the government to adopt a flexible and administrable approach to classifying and sourcing communications income, taking into account administrative feasibility and cost, accepted industry practices and norms (including those dictated by other regulatory rules and standards), and privacy concerns.

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