Tax Executives Institute-Joint Committee on Taxation liaison meeting: minutes.

On November 20, 1996, Tax Executives Institute held its annual liaison meeting with the staff of the Joint Committee on Taxation. The agenda for the meeting is reprinted in the November-December 1996 issue of The Tax Executive. The minutes of the meeting are reprinted below.

I. Introduction

On behalf of the staff of the Joint Committee on Taxation (JCT), Chief of Staff Kenneth J. Kies welcomed the delegation from Tax Executives Institute. On behalf of Tax Executives Institute, TEI President James R. Murray thanked the JCT representatives for meeting with the Institute. The members of JCT's and TEI's delegations to the meeting are set forth in the box on the following page.

II. National Commission on

Restructuring the

Internal Revenue Service

Mr. Murray summarized his November 8, 1996, testimony before the National Commission on Restructuring the Internal Revenue Service. He explained that his testimony focused on the burdens imposed by current laws and the steps that can be taken to reduce those burdens. Specifically, Mr. Murray identified the following issues:

* The Desirability of Establishing an Administrability Index. The tax-writing committees should ask the IRS -- as well as the public -- to testify on the compliance burdens posed by all proposed tax legislation. Ideally, this testimony would be designed to ensure that clear, administrable, and cost-sensitive rules are enacted into law.

* Instability in the Tax Law. Congress needs to keep in mind that change itself is a complicating factor. In 1996 alone, six bills were passed that effected major changes in the Internal Revenue Code. The magnitude and rapidity of change only compound the already complicated nature of the law.

Ms. Schmitt inquired whether the Institute's proposed "administrability index" would be similar in purpose or effect to the "regulatory review" law that Congress enacted in order to curb excessive administrative regulations. Mr. Murray acknowledged the analogy. Ms. Schmitt inquired whether the Institute had developed a standardized taxpayer cost of compliance model that could serve as the cost component of the index. Mr. Murray replied that the cost of any tax proposal should be viewed as an offset to the congressional revenue estimate, and he suggested that the analysis be broader than just taxpayer's costs. The IRS and Treasury, he said, incur substantial one-time and ongoing costs to administer new tax provisions and the combined public and private-sector costs should serve as the base against which to measure whether a tax proposal should or should not be adopted.

Mr. Thomas said that the index represented a laudable goal theoretically, but that it would be difficult to implement. Enacting tax law changes depends, he said, upon whether a temporal -- often fleeting -- consensus can be achieved. The legislative give-and-take necessary to achieve consensus may be inhibited by the requirement to consider such an index. In addition, Mr. Thomas said, the not infrequent delegation of rulemaking authority to the Treasury would prevent Congress from fully assessing the cost or burden of compliance until such further rules were issued.

Ms. Schmitt opined that members of Congress would be reluctant to institutionalize a procedure that inhibits decision-making in the short-time frame within which members must achieve consensus. She said that a different approach to achieve the same goal is for more companies to provide information earlier in the legislative process about the potential costs and difficulties in complying with a particular provision. Mr. Rossi said that the ebb and flow of the legislative process and the incremental nature of decision-making in Congress made it difficult for companies to determine whether provisions from different bills (or even different Congresses) were likely to be incorporated in any particular tax bill. He said that adopting the administrability index proposal -- institutionalizing the assessment of cost-benefit trade-offs contained in any bill -- would trigger greater company input. Mr. Thomas averred that the JCT staff sometimes failed to hear from anyone in the business community in respect of legislative proposals regardless of how long legislative proposals are extant. As examples, he cited the revisions to section 1494(c) in the Small Business Job Protection Act of 1996 and the uniform capitalization provisions in the 1986 Tax Reform Act. Mr. Thomas urged business taxpayers to analyze legislative proposals and bring administrative and compliance concerns forward well before a bill lands on the President's desk.

Mr. Murphy said that Mr. Murray's testimony before the IRS Restructuring Commission identified the complexity of the tax law as a primary source of both IRS and taxpayer frustration. Ms. Schmitt queried whether simplification can be achieved without fundamental tax reform. Mr. Murray replied that the tax code may never be simple, but that it could be made simpler and easier to comply with. Ms. Schmitt said that numerous tax simplification proposals had been introduced since 1989, but that the simplified pension provisions contained in the 1996 Small Business Job Protection Act were the only significant achievement of the simplification constituency. She said that there was little momentum -- an insufficient constituency -- to impel the enactment of other simplification provisions.

Mr. Tann said that international tax simplification provisions had been passed by Congress but vetoed by the President in 1992. Ms. Schmitt acknowledged that a general consensus existed for simplification of the international corporate tax provisions. Mr. Thomas added that the staff of the Joint Committee was sympathetic to the Institute's concern and had no desire to complicate the Code. The tough task, he explained, is to raise the profile of administrative and compliance burdens -- to make those concerns visible -- to members of Congress. Mr. Tann averred that an administrability index would raise the profile of those issues. Ms. Schmitt said that the index might not withstand the political calculus because every provision generally has a taxpayer constituency, especially where exceptions to general rules are created. In her view, the administrability index would have to take account of exceptions, elections, and transition rules as well as the general rule. Such exceptions, which are generally included at the behest of taxpayers, create significant complexity and add substantial costs.

Mr. Rossi inquired whether an administrability review would have focused greater attention on the redundant compliance burden from the overlapping passive foreign investment company (PFIC) and CFC regimes. Mr. Kies acknowledged that portions of the 1986 Tax Reform Act were overbroad. He predicted that the CFC/PFIC overlap would likely be addressed in the next Congress.

III. Prospects for

Fundamental Tax Reform

Mr. Cherecwich referred to recent efforts to restructure the tax laws, for example, by adopting a flat tax. He asked for the JCT's views on the likelihood of fundamental tax reform during 1997. He noted that the President had said that he would not propose any fundamental reforms, but would likely pursue "incremental" reforms. Mr. Kies said that it is premature to predict the tax agenda of the 105th Congress. In ideological terms, he said, the composition of the House of Representatives is about the same as the 104th Congress, whereas the Senate is likely more conservative. Mr. Kies noted that there is bipartisan congressional interest in fundamental tax reform, but there is no consensus about the nature and scope of the reforms to be undertaken. Mr. Kies expressed the view that a debate over Medicare and Social Security funding during the next Congress made it likely that major changes in the tax system would be considered, but reiterated that it was difficult to predict what the consensus might be. He said that the 104th Congress had demonstrated substantial interest in simplifying the corporate international tax provisions, elaborating that the repeal of the CFC/PFIC overlap and the extension of eligibility for deemed-paid foreign tax credits to six tiers of corporations are candidates for enactment during the 105th Congress.

Mr. Rossi inquired whether business taxpayers were vulnerable to tax increases to pay for proposals made during the recent presidential and congressional campaigns. Mr. Kies said that certain proposals -- such as expanding eligibility for IRAs, extending the child-care credit, and instituting deductions or credits for college tuition -- would require substantial revenue offsets and that corporations were indeed vulnerable. An ameliorating consideration, he added, is that Ways and Means Committee Chairman Archer and others are responsive to entreaties where the provisions undermine the competitiveness of U.S. businesses. Mr. Kies urged companies to step up their efforts to educate members of Congress about the connections and interactions among tax policy, trade, capital investment, and U.S. employment levels.

IV. Congressional Review of

Regulations

Mr. Tann referred to the recent enactment of legislation that changed the process for developing federal regulations, including those issued by the IRS. Under the legislation, no regulation constituting a "major rule" can go into effect until at least 60 days after the regulation is submitted to Congress; non-major rules are also subject to review (on an after-the-fact basis). Within the 60-day window period, Congress will have the opportunity to review and, if it is so inclined, block the implementation of the regulation by passage of a joint resolution. Mr. Tann asked whether the legislation will impede tax guidance.

Mr. Kies stated that it was premature to say whether the regulation review legislation will impede tax guidance. He observed that, even prior to enactment of that legislation, the release of tax guidance had already been slowed by the requirement that the Treasury Department assess the effect of tax regulations on small business. In addition, the Treasury Department's standard practice is to provide briefings on major rules to the staff of the JCT and the Ways and Means and Senate Finance Committees. Hence, the primary effect of the regulatory review legislation on tax law guidance will be to codify existing practices and provide a formal mechanism by which a regulation could be overturned. Mr. Kies suggested that business may benefit from an expedited congressional review of regulations.

Given the pre-existing practice permitting advance congressional review of tax regulations, Mr. Wheeler inquired whether an exception to the regulatory review law should have been created for tax regulations. Ms. Schmitt said that the legislation was not aimed at the IRS, but rather at other agencies such as the Occupational Safety and Health Administration and the Environmental Protection Agency. Mr. Kies added that the some members of Congress were concerned that certain executive branch administrative agencies were circumventing the notice and comment requirements under the Administrative Procedures Act (APA). He cited the IRS's use of Industry Specialization Papers and the Intangibles Settlement Initiative as examples that demonstrated his view that the IRS was not immune from such practices. Mr. Kies opined that the members of Congress were reluctant to exempt the agency with the largest volume of regulations from the regulatory review legislation. Notwithstanding the lack of an exception, Mr. Kies said, he was unaware of any tax regulation that had been designated a major rule and predicted that the legislation will rarely be used to abrogate tax regulations. Mr. Kies reiterated his statement that the requirement that Treasury review IRS regulations under the Regulatory Flexibility Act to determine the effect of rules on small business has a greater effect on the speed with which guidance is issued.

Mr. Murray inquired about the scope and nature of meetings announced by the staff of JCT to review the proposed entity classification (or "check-the-box") regulations, the partnership provisions generally, and corporate distributions under section 355. Mr. Kies explained that one of the traditional oversight functions of the staff of the Joint Committee is to review the IRS's administration of the tax law. He said that the press of legislative business over the last decade had diminished the frequency of such reviews, but that they remained a proper focus of attention. In the case of the check-the-box regulations, the shift of corporate capital structures from equity to debt, and section 355 spin-off transactions, the JCT is interested in determining whether the various developments are causing either permanent erosion of the corporate tax base or substantial delays in. the timing of tax payments. Mr. Kies inquired rhetorically whether, except for publicly traded corporations and certain classes of publicly traded partnerships, the two-their system of corporate and shareholder tax has become entirely elective. Taking the step to a completely elective entity classification system was, in his view, an important one with substantial tax policy ramifications. He expressed skepticism that such a step should be undertaken through administrative action alone, saying that he is especially concerned about the fallout from a successful legal challenge to the validity of the regulations. He noted that the issues involve a number of considerations including the source of revenues to replace existing corporate taxes as well as the complexity and administration of the Internal Revenue Code.

Mr. Ezrati said that the ability to choose the form of legal entity -- whether corporation, partnership, or sole proprietorship -- and the corresponding ability of business owners to elect the number of levels of taxation have been the subject of proper tax planning since the inception of the Code. He averred that the check-the-box regulations represent an important simplification and improvement in the tax law, as well as an acknowledgment of the effect of state entity laws on corporate taxation. The end result under the regulations will be essentially the same after the regulation as before, but taxpayers will not have to jump through hoops to secure it. Mr. Kies inquired whether the corporate tax should be viewed as a toll charge for access to public equity markets and, if so, what the proper level of that charge should be. Mr. Ezrati said that economists continually debate the incidence of the corporate tax and whether it should be maintained. Mr. Kies queried whether a disproportionate amount of time is spent on the administration of the corporate tax base since only $170 billion of the $1.5 trillion dollars of annual revenues are collected from corporations. If the check-box-regulations eliminate the "friction" in the corporate tax system, he said, the result is an erosion of the tax base. Mr. Kies also noted the trend in corporate capital structures to shift equity financing to debt. He said the review of the enumerated areas is not intended to "stop" any particular transactions or highlight abuses; rather, the Committee's purpose is to assess what is going on in the corporate tax area and make some judgments about where the corporate tax base will and should be in twenty years.

Mr. Murphy inquired whether the JCT had been advised of the Treasury's intention to proceed with the check-the-box rules before the proposed regulations were released (other than through the release of IRS Notice 95-14). Mr. Kies replied that the JCT should have been given advance notice, but that discussion with Treasury of the tax policy issues raised by the proposed regulations occurred subsequent to their issuance.

Mr. Murray said that principal effect of the check-the-box regime for TEI members lay in the international tax area and inquired whether the JCT would focus there. Mr. Kies said that the JCT would consider the cheek-the-box regulations in the context of the U.S. tax treaty structure. He acknowledged that he was apprehensive about chameleon or hybrid entities under the proposed regulations -- concerned that an entity may be classified and taxed in one fashion in one country and in a very different fashion elsewhere. The JCT, he said, may conclude ultimately that the check-the-box regulations are "no big deal."

V. Targeted Tax Benefits

Under the Line-Item Veto 

Mr. Wheeler referred to the recently published JCT staff explanation of the line-item veto legislation, especially its application to targeted tax benefits. He inquired whether the staff had received any feedback concerning that paper. Mr. Kies said that the legislation posed a number of challenging issues. The application of the provision to revenue measures, he explained, had no counterpart in state legislation authorizing gubernatorial line-item vetoes. Mr. Kies said that in putting out the paper the staff of the Joint Committee was providing interested parties with its views as well as inviting contributions and suggestions from the public.

VI. Technical Corrections 

Mr. Shewbridge inquired whether technical correction legislation would be necessary for any of the 1996 tax legislation. Mr. Kies replied that, despite the haste with which the 1996 tax legislation was cobbled together, only some minor problems, such as erroneous or conflicting cross-references, had been identified for technical correction so far. One notable exception, he said, is the conflicting expiration dates under different provisions of the section 127 educational assistance exclusion extension. Depending on the provision, the exclusion expires for payments after either May 31, or June 30, 1997. Any technical correction issues that are known, Mr. Kies said, will be identified in a comprehensive "Bluebook" on the 1996 legislation that would be issued by year end. Mr. Kies said that he expected the chairs of the two tax-writing committees to introduce a technical correction bill early in the 105th Congress. He explained that the Senate's "Byrd rule" inhibited Congress from attaching technical corrections to budget reconciliation legislation (because that rule requires that all provisions affect the budget one way or the other) so the provisions must be included in a separate, tax bill. Mr. Kies expressed the view that a technical corrections bill standing alone would be unlikely to attract sufficient member interest to ensure passage and, hence, that such a bill may languish unless other substantive legislation is considered.

VII. Extension of Section 127

Mr. Cherecwich explained that Congress's retroactive extension of the educational assistance exclusion of section 127 left taxpayers (employers and employees alike) who complied with the law in a worse position than taxpayers who disregarded the (subsequently vitiated) expiration of the income exclusion. He added that taxpayers are frustrated over the administrative burdens spawned by Congress's decision to extend section 127 retroactively. Although the position set forth in IRS Information Release 96-36 (requiring the filing of amended returns) can be justified under the statute, Mr. Cherecwich said, it should have been possible to craft a creative solution -- such as permitting an adjustment to 1996 wages where the individual remained on the employer's payroll -- to minimize the adverse consequences for compliant employers, employees, and the fisc while obviating the filing and processing of amended returns. He asked, how can this be prevented in the future?

Mr. Kies expressed sympathy for companies' predicament, but inquired what more could be done. Ms. Schmitt added that a number of possibilities were considered to alleviate the compliance burden of retroactive reinstatement but that all the proposals were rejected. Mr. Murray explained that the Institute's delegation had met with representatives from the Treasury Department previously and, while they were receptive to the Institute's proposal they were reluctant to provide such relief without explicit legislative authority. Mr. Kies said that the JCT was open to suggestions and invited the Institute to submit a proposal. He cautioned that not all employers were enthusiastic about delaying the effective date of the reinstatement of the exclusion and that they might not uniformly embrace a proposal to reduce an employee's subsequent year's compensation.

VIII. Section 1494(c)

Excise Tax 

Mr. Tann referred to section 1902 of the Small Business Job Protection Act, which added section 1494(c), relating to the requirement that a return be filed by persons making a transfer described in section 1491 and imposing a significant penalty for noncompliance. Although the legislative history of the provision discusses the penalty only in terms of the reporting requirements of foreign trusts, there have been reports that the 35-percent penalty may also apply to property transferred to a foreign corporation as paid-in surplus or as a contribution to capital, or to any transfer of property to a foreign partnership. He noted that Treasury had issued Notice 96-60, which suspended enforcement of the excise tax until further guidance is issued and inquired about the status of that guidance.

Mr. Kies said that the JCT's Bluebook on the 1996 tax legislation will suggest that the Treasury Department can and should issue rules ameliorating the application of section 1494(c) to transfers to CFCs. To the extent Treasury lacks authority to correct the situation, he added, Congress would likely revisit the issue in subsequent technical correction legislation.

Mr. Cherecwich inquired whether the application of section 1494(c) to transfers to "non-trust" trusts, including CFCs, would have been brought to light by institutionalizing an administrability review. Mr. Thomas replied that the application of section 1494(c) to transfers to "nontrust" trusts had been considered in advance and that the response from IRS had been that all that is necessary is that an information report be supplied. Mr. Cherecwich replied that an administrability index would have raised the issue for scrutiny by a broad segment of the business community.

IX. Joint Committee Review

of Tax Refunds 

Mr. Ashby summarized the discussions that TEI had held with the IRS and Treasury concerning an Institute proposal that would streamline the procedures where Joint Committee review of tax refunds is required. Mr. Kies averred that the inventory of refund review cases was quite low and that the Joint Committee's review was expeditious. Mr. Murray explained that IRS agents generally take far more time writing their reports where Joint Committee review is required because of agents' perceptions that Joint Committee cases must be "perfect." Mr. Kies said that he could understand the greater attention and anxiety provoked by JCT review among agents but that the JCT had no control over IRS procedures. He reiterated that the JCT's statistics showed no appreciable increase in the time spent to conduct JCT's review. Mr. Ashby said that it might be time for the JCT to increase the $1 million threshold for Joint Committee review. Mr. Kies agreed to consider that proposal as well as any proposal the Institute makes to IRS and Treasury to improve the JCT tax refund review process.

X. Distinguishing Between

Capital Expenditures and

Ordinary and Necessary

Expenses: The Need for

More Guidance

Mr. Klausman explained that TEI members continue to be concerned about the IRS and Treasury's actions in respect of the capitalization of expenditures and, in particular, about agents' invoking the Supreme Court's decision in INDOPCO v. United States, 503 U.S. 79 (1992), to justify the capitalization of heretofore currently deductible expenses. The deviation from U.S. generally accepted accounting principles creates complexity, he stated. Mr. Klausman remarked that tax executives are involved on a day-to-day basis with determining the treatment of certain expenses; we have to make decisions, he stated, and determining the correct treatment of certain items is becoming increasingly difficult. He continued that the problem areas are not those associated with merger and acquisitions (which is what INDOPCO was concerned with) but with ordinary, recurring expenditures, and lamented that IRS agents are essentially writing tax policy in the absence of National Office guidance.

Mr. Klausman noted that in March the Institute filed extensive comments in response to IRS Notice 96-7, which requested taxpayer comments on the need for further capitalization guidance. He added that such guidance was generally preferable to congressional micromanaging of the tax system; he cited the recent outcry over the release of Technical Advice Memorandum 9618006, which holds that a taxpayer must capitalize the costs of periodic airline maintenance expenses, as an example of what can happen in the absence of generally applicable guidance. In the absence of appropriate action by the IRS, however, taxpayers may request congressional intervention as a last resort.

As an example of an area where taxpayers need guidance, Mr. Klausman cited expenses for the modification of computer systems to deal with the Year 2000. Costs are being currently incurred -- the issue is percolating now -- and taxpayers cannot wait until, say, 2005 for the IRS to determine whether the expenses are capital in nature, he said. He asked whether as part of the Joint Committee's oversight responsibility it was considering any actions to improve the nature of IRS guidance on capitalization issues.

Mr. Kies expressed frustration at the IRS's administration of capitalization issues, characterizing it as seemingly "random." He noted that the National Office guidance on environmental remediation costs seemed especially inconsistent, changing with each ruling. Mr. Kies noted, however, that it might be disastrous for Congress to step in to micromanage all the manifestations of capitalization issues. Mr. Whether averred that the inconsistent application of the capitalization rules amounted to a hidden tax that applied arbitrarily to some taxpayers and not others. Mr. Kies acknowledged that members of Congress were raising questions about, and were keenly aware of, the issue. He added, however, that there were legitimate revenue concerns that should be addressed through the audit process rather than legislation. He said that capitalization has seemingly become revenue agents' issue du jour, replacing the controversy over the deductibility of travel and entertainment costs. Mr. Shewbridge observed that the intensity of that controversy had ultimately provoked a legislative response.

XI. Conclusion

On behalf of the staff of the Joint Committee, Mr. Kies expressed his appreciation for the time and effort put into the meeting by TEI and urged the Institute to continue to bring issues to the Committee's attention. Mr. Murray then thanked Mr. Kies and the other JCT representatives for meeting with the Institute.

JCT Delegation

Kenneth J. Kies, Chief of Staff Mary M. Schmitt, Deputy Chief of Staff -- Law Melvin C. Thomas, Jr., Senior Legislation Counsel Judy L. Owens, Legislation Counsel

TEI Delegation

James R. Murray (PacifiCorp), TEI President Paul Cherecwich, Jr. (Thiokol Corporation), TEI Senior Vice President Lester D. Ezrati (Hewlett-Packard Company), TEI Secretary Charles W. Shewbridge, III (Bell South Corporation), TEI Treasurer Susan M. Murray (ENRON Oil & Gas Company), TEI Executive Committee Raymond G. Rossi (Intel Corporation), TEI Executive Committee Roger D. Wheeler (General Motors Corporation), TEI Executive Committee Robert L. Ashby (Northern Telecom Inc.), Chair, TEI IRS Administrative Affairs Committee David L. Klausman (Westinghouse Electric Corp.), Chair, TEI Federal Tax Committee Joseph S. Tann, Jr. (Ameritech Corporation), Chair, TEI International Tax Committee Michael J. Murphy, TEI Executive Director Timothy J. McCormally, TEI General Counsel and Director of Tax Affairs Mary L. Fahey, TEI Assistant Tax Counsel Jeffery P. Rasmussen, TEI Assistant Tax Counsel