Tax Executives Institute-U.S. Department of Treasury liaison meeting.

Reprinted below are the minutes of the February 24, 1994, liaison meeting between Tax Executives I officials of the Department of the Treasury's Office of Tax Policy. The agenda for the meeting was r 1994 issue of The Tax Executive.

I. Introduction

On behalf of the Office of Tax Policy of the U.S. Department of Treasury, Assistant Secretary Leslie B. Samuels welcomed the delegation from Tax Executives Institute.

On behalf of Tax Executives Institute, TEI President Ralph J. Weiland thanked the Assistant Secretary and other Treasury Department representatives for taking the time to meet with the Institute.

II. Opening Remarks

A. Simplification. In his opening remarks, Assistant Secretary Samuels emphasized Treasury's commitment to simplification, adding that his office is trying to make the rules easier for taxpayers. He recognized that achieving simplification is more difficult in the legislative area, noting that Treasury has more control over its destiny in the regulatory area. Mr. Samuels expressed some frustration, however, with taxpayers' approach to simplification. Nothing is too complex if you like the provision, he said. The Treasury Department will make progress in this area, he concluded, and needs the support of individuals who must deal with the tax law on a daily basis. Mr. Weiland agreed that there is a need to look at simplification in all areas of the tax laws, and expressed the Institute's frustration that necessary simplification is stymied because of the need for offsetting revenue increases. Mr. Samuels sympathized, but said he believed the strictures of recent budget deficit reduction measures should not be relaxed.

B. Compliance Issues. Mr. Samuels noted that the laudable goal of increasing the level of tax compliance is closely related to simplification. He referred again to the budget deficit, saying that increasing the compliance rate by a single percentage point would forestall the need for revenue-raising legislation. He added that the Treasury is dedicated to identifying ways to increase the rate of compliance. He asked for TEI's assistance in developing compliance programs that are administrable. There must be an open dialogue to make the system work, he concluded.

Mr. Samuels next referred to the recent revisions to the General Agreement on Tariffs and Trade (GATT) that will result in a loss of $13 billion in U.S. tariff revenue over the next five years. Under the budget agreement, the government must find a way to finance the GATT changes, even though the Administration and many commentators agree that, over time, the GATT changes will more than pay for themselves. Mr. Weiland stated that the business community as a whole recognizes that GATT is necessary for long-term survival.

C. Earned Income Tax Credit. Mr. Samuels referred to the advanced earned income tax credit (EITC) which, he noted, is an important program for the 15-million eligible workers, only one percent of whom now claim the credit. Mr. Weiland agreed that employees are confused about their, eligibility for the credit. Mr. Samuels encouraged employers to work with the government in making information on the advanced EITC available to their employees. He asked TEI to provide feedback on how to expand the government's educational efforts. Referring to his experience as IRS Deputy Commissioner, Mr. Murphy confirmed that there is a need for greater communication about the credit.

III. Specific Technical Issues

A. IRS-Treasury 1994 Priorities. Mr. Weiland commented that Mr. Samuels's comments on the need for cooperation between the government and taxpayers underscored the need for the Treasury and IRS to issue a business plan. Mr. Samuels agreed that a list of priority projects could assist both the government and taxpayers and inject a fuller measure of accountability into the guidance process. He reported that such a list of priorities would be released within the next few weeks. He noted that the document will set priorities for regulatory and administrative projects, but added that there is a need to keep the list flexible to deal with, and remain responsive to, unforeseen issues that may arise. Mr. Kohl emphasized the need for flexibility in any plan, adding that Treasury and TEI are "on the same wave length" about the benefits of developing a plan. He stated that Treasury views the list as an ongoing, multi-year project that will give a sense of what is "down the pike." He cautioned, however, that the plan is not intended to be all-inclusive. Projects not on the plan will remain active, he said. [Note: The Treasury-IRS's 1994 priorities list was released on March 1, 1994.]

B. Lobbying Disallowance Rules. Mr. Weiland next referred to the regulations relating to the disallowance of lobbying expenditures under section 162(e) and the correlative rules concerning membership associations that engage in lobbying activity (which associations must either provide a notice to their members concerning the portion of their dues that are nondeductible under section 162(e) or pay a proxy tax on the associations' lobbying expenditures). He commended Treasury for issuing guidance before the beginning of the year and for including a de minimis rule in the allocation methods. Nonetheless, he expressed frustration with the lack of additional guidance on the definition of lobbying. "What is lobbying?" he inquired, "and how far does it extend?"

Mr. Samuels confirmed that a project to develop a definition of lobbying and lobbying expenditures will be included on the Treasury/IRS's priorities list. He noted that the definitional issue is not new, inquiring how taxpayers complied with the law before the 1962 amendment (which made the expenses deductible). Mr. McCormally conceded that taxpayers theoretically had to deal with distinguishing between lobbying and non-lobbying expenditures before 1962 (at least between the Supreme Court's decision in Cammarano and the enactment of the Revenue Act of 1962). He added, however, that the law was changed in 1962 precisely because of the problems with resolving what was--and was not--lobbying. He added that the world has changed dramatically since that time and more companies are becoming active in the legislative arena. Mr. Murphy noted that TEI is an excellent resource for Treasury to consult with respect to lobbying issues because of its tax-exempt status and its representation of taxpayers that must comply with the new provision.

Mr. Weiland stated that no one has answers to the questions raised by the lobbying disallowance rules. Ms. Burke agreed, noting that especially with respect to indirect activities, companies are at a loss to determine what costs are subject to the disallowance. She added that many tax-exempt organizations are seemingly unaware of the new provisions and have made no attempt to determine their allocable expenses.

Mr. DeLuca noted that the section 4911 regulations contain a definition of "lobbying" that can reasonably form the basis for the section 162(e) definition. He commended the approach of the section 4911 regulations to the Treasury, stating that it could make the definition understandable and workable for taxpayers and would be faithful to Congress's intent in enacting section 162(e) without engaging in overkill. Mr. DeLuca then referred to the five-percent de minimis rule set forth in the proposed regulations, noting that a higher figure will lessen the recordkeeping requirements by keeping companies from inadvertently "tripping over" the threshold. He also suggested that the direct contact lobbying exception to this rule--i.e., the rule that any direct contact lobbying will give rise to a disallowance regardless of how insignificant or nominal--is "misguided" and should be deleted or significantly modified. Finally, the 175-percent figure for the gross-up method seems high and should be lowered to 150 percent to encourage taxpayers to use the simpler method of calculation, Mr. DeLuca concluded. Mr. Samuels stated that Treasury and IRS are working closely with the drafters of the section 4911 regulations in crafting the definitions under section 162(e).

Referring to the "look-back" rule in the legislative history, Mr. DeLuca pointed out that taxpayers need a definite cut-off point for determining when the "monitoring" of legislation becomes "lobbying." Ms. Muenchen noted that Treasury should consider a year-end cut-off point for tracking monitoring expenses.

[Note: TEI's comments on the proposed regulations were filed with the IRS on March 18, and the Institute testified at an April 6 public hearing on the regulations.]

Mr. McCormally referred to a related issue concerning the changes made by Omnibus Budget Reconciliation Act of 1993 denying a deduction for club dues. He observed that taxpayers are still awaiting confirmation that business organizations such as TEI are not "clubs" for purposes of the dues disallowance rules. Mr. Samuels stated that the release of guidance on the club dues provision is high on Treasury's priorities list. In response to a question concerning the time frame for the release of such guidance, Ms. Dunn replied that the lobbying definition and club dues regulations have been given the "highest priority," adding that the government decided that the lobbying recordkeeping requirements should be issued first. Treasury and IRS are actively working on the lobbying definition and club dues projects, she concluded.

C. Substantiation of Charitable Contributions. OBRA provides that donees must provide donors with written confirmation of contributions in excess of $250; the question is how that provision applies when the company collects lump sums from their employees for payment over to particular charities as part of combined-giving campaigns such as the United Way. Mr. Weiland stated that the new substantiation requirements for charitable contributions threaten to create a real problem for companies that participate in combined-giving campaigns. (Mr. Weiland also noted that some companies conduct their own combined-giving campaign; i.e., they are not affiliated with United Way.) He explained that companies often solicit contributions from their employees through either payroll deductions or lump-sum payments; the funds are then transferred to the charity by the company in one payment. He stated that the companies receive checks from their employees, consolidate these funds, and send a check to the designated charity. In these situations, the charity may be unaware of the names of the individual donors and hence unable to supply the required documentation for lump-sum payments over the $250 threshold. Mr. Weiland expressed concern that extension of the substantiation requirements to employers might result in the withdrawal of support for these community programs.

Ms. Dunn stated that Treasury is currently working with the United Way to resolve issues relating to combined appeals, acknowledging that this is the first time she had heard of company concerns about the issue. Mr. Sessions suggested that a letter from individual companies would be helpful to ensure that the government is considering all of the issues. Mr. Weiland emphasized the need to make the rules work from a company perspective, as well as the United Way's perspective, and agreed to submit additional information on behalf of his own company. Ms. Dunn added that it is important to confirm that the government is not missing anything in developing regulations under the substantiation provision.

D. Business Hedging. Mr. DeLuca referred to the recently issued temporary and proposed regulations under sections 1221, 1234, and 446, relating to the character and timing of recognition of income and expense for business hedges. He commended the Treasury' and IRS for moving forward to address the difficult issues raised by the ordinary income/capital asset dichotomy and the confusion and uncertainty that ensued following the Supreme Court decision in Arkansas Best v. Commissioner. He noted, however, that the regulations raise several issues including--

* the definition of "ordinary property" as any property

the sale or exchange of which could not produce

capital gain or loss regardless of the taxpayers's

holding period at the time of sale. The narrow

definition denies hedging treatment to a substantial

number of transactions entered into for ordinary

business purposes involving property that

may, in limited circumstances, give rise to a transaction

that was capital in nature even though the

cost of the underlying item was usually recovered

through ordinary deductions (e.g., supplies).

* the requirement that a hedge must reduce the

taxpayer's risk with respect to property or obligations

held or to be held by the taxpayer. Related

affiliates, however, generally conduct their hedging

transactions on a centralized hedging basis

either through their corporate parent or by a separate

affiliate, Mr. DeLuca explained.

* the burdensome "same-day" identification requirement

for both the hedge and the hedged item.

Identifying the hedge alone should be sufficient to

prevent a whipsaw, he said. At a minimum, taxpayers

need more time to identify the transactions.

Mr. DeLuca added that TEI's concerns are addressed in greater detail in its February 4, 1994, comments on the proposed regulations.

Mr. Sessions stated that Treasury and IRS are still considering the comments that have been filed on the proposed regulations and have not met to discuss taxpayers' concerns since the January 19, 1994, hearing. He added that Treasury and IRS are not in a position to make any decisions yet.

E. Dollar Approximate Separate Transactions Method of Accounting. Ms. Burke referred to the 1991 proposed regulations concerning the proper computation of income and earnings and profits under the dollar approximate separate transactions method (DASTM) for qualified business units operating in countries affected by hyperinflationary currencies. Ms. Burke stated that the lack of final regulations is holding up audits, noting that the examining agents (as well as taxpayers) are disturbed by the lack of finality. Mr. Rasmussen added that the proposed rules correspond more closely with generally accepted accounting principles and will be easier to comply with. Mr. Samuels noted that the final DASTM regulations are on the list of projects the government expects to release this year.

F. U.S. Model Income Tax Treaty. Ms. Norton referred to Treasury's project to review the U.S. Model Income Tax Treaty. She requested a status report on the Treasury's efforts to revise the Model Treaty, noting that TEI provided comments on the treaty in November 1992. She also referred to a recent request by IRS representatives for a list of priorities with respect to the renegotiation of treaties. The Institute's International Tax Committee is in the process of drafting such a list, she added.

Mr. Richter stated that revising the Model Treaty is a high priority for Treasury, adding that Treasury hopes to release a draft for comments in late spring. A good model treaty will streamline treaty negotiations, he said. He agreed that a list of countries with which the United States should negotiate new treaties would be helpful in setting priorities.

Mr. Samuels stated that seven treaties had been presented to the Senate Foreign Relations Committee for approval in October 1993. Six treaties had been approved and the committee requested more information on the Israeli treaty. He noted that Treasury expended a significant amount of effort in obtaining the approvals and was disappointed at the lack of interest exhibited by the taxpayers who would be benefitted by the treaties.

Ms. Norton asked how TEI could help in the process. Mr. Samuels replied that Treasury could not solicit taxpayers to lobby members of Congress, but taxpayers should strive to keep aware of where treaties are in the ratification process and use their own judgment on whether to make their views known to their legislators. Ms. Norton also asked whether future treaties will deviate significantly from the Model Treaty. Mr. Samuels replied that because the Senate generally responds negatively to deviations, it will not be productive to negotiate different provisions.

G. Environmental Remediation Expenses. Mr. Skinner referred to the government's request for comments on the proper income tax treatment of environmental remediation expenditures. Noting that the Institute had filed comments on the issue, he asked the status of a joint Treasury-IRS study group that is analyzing whether general guidance may or should be issued in respect of the various remediation fact patterns identified in the submissions.

Ms. Dunn called issuing guidance on the taxation of environmental remediation expenses one of the highest priorities within the Treasury and IRS. She said that press reports of a "joint study group" were overstated, adding that Treasury and IRS normally designate various personnel to work jointly on projects. She expressed the hope that the government is close to answering some of the easier questions. Treasury understands the pressures on businesses to clean up environmental hazards, she said, but "the law is what the law is." Some items must be capitalized and others are deductible, she averred, reiterating that the government will try to provide guidance soon.

H. Inventory Costs. Ms. Muenchen referred to the regulations relating to the uniform capitalization (UNICAP) of certain costs to inventory under section 263A. She noted that some commentators view the proposed regulations relating to the scope of the distribution costs exception to capitalization (so-called pick-and-pack costs) as regulatory overkill. Ms. Muenchen called the regulations "nit-picking" since, for many taxpayers, the lag time between order receipt and shipping is so small that the revenue is recognized upon receipt of the order from a customer.

Ms. Dunn responded that proposed pick-and-pack rules are being perceived as a major change in the rules because taxpayers had interpreted the prior regulations in a manner not intended by the drafters. The proposed regulations are an attempt to reach taxpayers who are too aggressive in deducting distribution expenses. In addition, the regulations are drafted with simplicity in mind to provide a bright-line test. IRS and Treasury know the regulations have not been well received, she said, and are considering the comments. Final regulations should be issued soon.

Ms. Muenchen recommended the withdrawal of the regulations, calling the issue a timing difference. Ms. Dunn noted that the uniform capitalization rules as a whole deal with timing differences; that does not mean that the amounts involved are insignificant. Mr. Weiland pointed out the cost of compliance may well exceed the revenues raised. Ms. Dunn averred that taxpayers are incurring significant costs for consulting fees in respect of allocation studies to expand the scope of the distribution cost exception beyond what Treasury viewed as its proper scope.

I. Amortization of Intangibles. Mr. Schaffhausen referred to section 197 of the Code (enacted as part of OBRA), which provided a prospective resolution of many amortization of intangibles issues, but sidestepped the complexities of resolving existing controversies through statutory means. He noted that Congress had directed the Treasury and IRS to develop a methodology to settle the outstanding backlog of cases. He commended Treasury and IRS for the recent guidance setting forth a proposal for settling cases involving the amortization of intangibles. That offer of settlement appeared to require taxpayers to respond by April 1, 1994. Mr. Schaffhausen asked whether the settlement offer will be extended to returns not currently under examination and where the issue has not been raised. In addition, he asked whether the IRS intends to issue a revenue procedure on this issue.

Mr. Samuels responded that the government is not contemplating making the settlement offer permanent. He further stated that this issue is particularly difficult to resolve because of its factual nature, adding that the congressional mandate refers to outstanding cases, not future ones. He noted that the government will review the response to its offer before making any decisions on this issue.

IV. Compliance Initiatives

A. Treasury/IRS Policy Statement and Action Plan. Ms. Burke referred to the recent release of a document entitled Tax compliance in a Global Economy: Statement of Policy and Action Plan. The document identifies five substantive areas to which the Treasury and IRS will devote increased attention in order to meet the challenges posed by developing international business practices: transfer pricing and tax-base erosion, bilateral tax treaties, foreign tax credits, financial products, and individual tax compliance. Ms. Burke emphasized the increased compliance burdens of U.S. multinational companies. She noted that the government could, simplify the process by issuing more regulations such as the section 964 regulations that permit the use of generally accepted accounting principles in computing foreign earnings and profits. She recommended that the use of GAAP be expanded to include the calculation of Subpart F Income.

Ms. Doran-Klein questioned whether Treasury has the authority to conform Subpart F to GAAP principles by regulations. She averred that a statutory change is necessary, noting that the statute refers to the "taxable income" of a U.S. company, not to E&P concepts.

With respect to the section 6662(e) penalty (the so-called section 482 penalty), Ms. Burke urged that Treasury and the IRS confirm that the assertion of penalties requires the exercise of discretion and judgment. Ms. Doran-Klein stated that assertion of the section 6662(e) penalty is not mandatory. The IRS always has the discretion to waive (or not assert) penalties, but she said taxpayers should not count on the IRS's leniency to avoid the penalty.

Ms. Burke noted that the analysis required to avoid the penalty is time-consuming and expensive and may drive taxpayers to apply for an advance pricing agreement (APA). She asked whether this is the intent of the regulations. Ms. Doran-Klein stated that the government does not expect every multinational corporation to apply for an APA. The goal is "to change the [transfer-pricing] dynamic," she stated. Under the current process, the taxpayer takes a position on its return, the agent makes an adjustment in the dark, and the taxpayer then responds. The government is trying to force the taxpayer to take a position up front, before it files a return. Mr. Richter noted that the penalty is a means of getting the tax people involved in the decision-making process for establishing transfer prices.

Ms. Norton asked about the coordination of the penalty between the IRS National Office and the field. Taxpayers fear that section 6662(e) penalty will be used as a club to force settlement on other issues, she said. Ms. Doran-Klein disagreed, noting that the experience suggests that agents are hesitant to assert the penalty. She added that there are considerable constraints on the system.

Mr. Murphy noted that other government officials have made statements to the effect that the IRS lacks the discretion to waive the penalty. Mr. Richter acknowledged that such statements had been made, but suggested that they were not authoritative. Mr. Murphy suggested that a statement concerning the authority to waive the section 6662(e) penalty be included in the IRS's Penalty Handbook, to ensure that examining agents are aware that the statements are not authoritative. Ms. Doran-Klein concluded that the Treasury view of the view that taxpayers should not be penalized for minor faults and, further, that IRS examiners aminers are not abusing the penalty.

Mr. Weiland asked whether Treasury and IRS are considering, issuing a similar compliance report in the domestic area. Mr. Kohl stated that domestic compliance has not received the same focus as foreign. Mr. Richter agreed that compliance problems are not as prevalent in the domestic area. Mr. Kohl added that the Treasury is continuing to search for ways to eliminate waste in the system, improve compliance, and reduce taxpayer burdens.

B. TIN Verification Process. Mr. Weiland expressed TEI's commitment to work with the government to develop effective, efficient, and minimally burdensome ways of enhancing compliance, especially among those "market segments" that have been identified as raising compliance concerns. He noted that his company (Abbott Laboratories) has volunteered to be a part of the IRS's pilot taxpayer identification number (TIN) verification program.

Ms. Dunn commented that the IRS is working on a TIN-matching prototype which is "on track." The time frame for completion of the prototype will depend upon the IRS, she added. Mr. Samuels noted that the program raises certain privacy concerns that may need to be addressed by legislation. The government must proceed cautiously, he concluded.

V. Conclusion

Mr. Weiland stated the Institute's appreciation for the opportunity to meet with the Treasury Department. On behalf of the Treasury Department, Assistant Secretary Samuels thanked the TEI delegation, adding that he looks forward to hearing from the organization on other issues.