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[House Hearing, 105 Congress]
[From the U.S. Government Publishing Office]

 
IMPACT OF COMPLEXITY IN THE TAX CODE ON INDIVIDUAL TAXPAYERS AND SMALL 
                               BUSINESSES

=======================================================================

                                HEARING

                               before the

                       SUBCOMMITTEE ON OVERSIGHT

                                 of the

                      COMMITTEE ON WAYS AND MEANS
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED FIFTH CONGRESS

                             SECOND SESSION

                               __________

                             JUNE 23, 1998

                               __________

                             Serial 105-46

                               __________

         Printed for the use of the Committee on Ways and Means

                    U.S. GOVERNMENT PRINTING OFFICE
52-037 cc                   WASHINGTON : 1998

                      COMMITTEE ON WAYS AND MEANS

                      BILL ARCHER, Texas, Chairman

PHILIP M. CRANE, Illinois            CHARLES B. RANGEL, New York
BILL THOMAS, California              FORTNEY PETE STARK, California
E. CLAY SHAW, Jr., Florida           ROBERT T. MATSUI, California
NANCY L. JOHNSON, Connecticut        BARBARA B. KENNELLY, Connecticut
JIM BUNNING, Kentucky                WILLIAM J. COYNE, Pennsylvania
AMO HOUGHTON, New York               SANDER M. LEVIN, Michigan
WALLY HERGER, California             BENJAMIN L. CARDIN, Maryland
JIM McCRERY, Louisiana               JIM McDERMOTT, Washington
DAVE CAMP, Michigan                  GERALD D. KLECZKA, Wisconsin
JIM RAMSTAD, Minnesota               JOHN LEWIS, Georgia
JIM NUSSLE, Iowa                     RICHARD E. NEAL, Massachusetts
SAM JOHNSON, Texas                   MICHAEL R. McNULTY, New York
JENNIFER DUNN, Washington            WILLIAM J. JEFFERSON, Louisiana
MAC COLLINS, Georgia                 JOHN S. TANNER, Tennessee
ROB PORTMAN, Ohio                    XAVIER BECERRA, California
PHILIP S. ENGLISH, Pennsylvania      KAREN L. THURMAN, Florida
JOHN ENSIGN, Nevada
JON CHRISTENSEN, Nebraska
WES WATKINS, Oklahoma
J.D. HAYWORTH, Arizona
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri

                     A.L. Singleton, Chief of Staff

                  Janice Mays, Minority Chief Counsel

                                 ______

                       Subcommittee on Oversight

                NANCY L. JOHNSON, Connecticut, Chairman

ROB PORTMAN, Ohio                    WILLIAM J. COYNE, Pennsylvania
JIM RAMSTAD, Minnesota               GERALD D. KLECZKA, Wisconsin
JENNIFER DUNN, Washington            MICHAEL R. McNULTY, New York
PHILIP S. ENGLISH, Pennsylvania      JOHN S. TANNER, Tennessee
WES WATKINS, Oklahoma                KAREN L. THURMAN, Florida
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri

Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public 
hearing records of the Committee on Ways and Means are also published 
in electronic form. The printed hearing record remains the official 
version. Because electronic submissions are used to prepare both 
printed and electronic versions of the hearing record, the process of 
converting between various electronic formats may introduce 
unintentional errors or omissions. Such occurrences are inherent in the 
current publication process and should diminish as the process is 
further refined.

                            C O N T E N T S

                               __________

                                                                   Page

Advisory of June 16, 1998, announcing the hearing................     2

                               WITNESSES

A.J. Bafundo and Co., LLC:
    Steve Bafundo................................................     6
    Anthony J. Bafundo...........................................     8
American Institute of Certified Public Accountants, Michael Mares    31
Citizens for Tax Justice, Robert S. McIntyre.....................    26
Connecticut Society of Certified Public Accountants, John L. 
  Evanich, Jr....................................................    13
H&R Block, Robert A. Weinberger..................................    38
Olandt, Carl R., New Britain, CT.................................    10

                       SUBMISSIONS FOR THE RECORD

Kennelly, Hon. Barbara B., a Representative in Congress from the 
  State of Connecticut, statement................................    46
National Federation of Independent Business, statement...........    48
Neal, Hon. Richard E., a Representative in Congress from the 
  State of Massachusetts, statement..............................    50
Ramstad, Hon. Jim, a Representative in Congress from the State of 
  Minnesota, statement...........................................    51
White House Conference on Small Business, Debbi Jo Horton, 
  Providence, RI; Joy Turner, Piscataway, NJ; Jill Gansler, 
  Baltimore, MD; Jack Oppenheimer, Orlando, FL; Paul Hense, Grand 
  Rapids, MI; Joanne Doherty, Houston, TX; Edith Quick, St. 
  Louis, MO; Jim Turner, Salt Lake City, UT; Sandra Abalos, 
  Phoenix, AZ; Eric Blackledge, Corvallis, OR, joint statement...    52

IMPACT OF COMPLEXITY IN THE TAX CODE ON INDIVIDUAL TAXPAYERS AND SMALL 
                               BUSINESSES

                              ----------                              

                         TUESDAY, JUNE 23, 1998

                  House of Representatives,
                       Committee on Ways and Means,
                                 Subcommittee on Oversight,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 3:00 p.m., in 
room 1100, Longworth House Office Building, Hon. Nancy L. 
Johnson (Chairman of the Subcommittee) presiding.
    [The advisory announcing the hearing follows:]

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                       SUBCOMMITTEE ON OVERSIGHT

                                                CONTACT: (202) 225-7601
FOR IMMEDIATE RELEASE

June 16, 1998

No. OV-19

                Johnson Announces Hearing on the Impact

               of Complexity in the Tax Code on Individual

                     Taxpayers and Small Businesses

     Congresswoman Nancy L. Johnson (R-CT), Chairman, Subcommittee on 
Oversight of the Committee on Ways and Means, today announced that the 
Subcommittee will hold a hearing on the impact of complexity in the tax 
code for individual taxpayers and small businesses. The hearing will 
take place on Tuesday, June 23, 1998, in the main Committee hearing 
room, 1100 Longworth House Office Building, beginning at 2:30 p.m.
      
    In view of the limited time available to hear witnesses, oral 
testimony at this hearing will be from invited witnesses only. 
Witnesses will include representatives from organizations representing 
individual taxpayers and small businesses. However, any individual or 
organization not scheduled for an oral appearance may submit a written 
statement for consideration by the Committee and for inclusion in the 
printed record of the hearing.
      

BACKGROUND:

      
    When the Federal tax system was established in 1913, the 
legislation was only 19 pages long. Today, the Internal Revenue Code 
has ballooned to nearly 2,300 pages, not counting regulations. The 
resulting compliance burden on taxpayers is enormous, especially on 
middle-income taxpayers and on small businesses.
      
    Many studies have been done documenting the impact of this 
complexity on individuals and small businesses. For example, one study 
showed that U.S. taxpayers spent more than five billion hours preparing 
tax returns with compliance costs at more than $200 billion in 1998. 
Two-thirds of compliance costs were bourne by businesses, and small 
businesses face the brunt of these costs. Another study has shown that 
some small businesses may pay more than $700 in compliance costs for 
every $100 that they pay in taxes.
      
    Because of the problems caused by the complexity of the current tax 
code, there are many efforts in Congress to replace the tax code. 
However, in the interim, simplification of the most complex provisions 
of the code may help to significantly reduce the burden on individual 
taxpayers and small businesses.
      
    In announcing the hearing, Chairman Johnson stated: ``The 
complexity of the tax code is staggering. Every year middle-income 
taxpayers and small businesses spend more and more time, effort, and 
money trying to prepare their tax returns. It is time that Congress 
acts to reexamine the tax code and see if we can simplify or repeal 
some of its most complex provisions. I believe that this hearing will 
be a meaningful step toward simplifying the tax code to lessen the 
burden on middle-income taxpayers and to allow entrepreneurs to 
concentrate on their businesses and not their tax returns.''
      

FOCUS OF THE HEARING:

      
    The Subcommittee will review current law to identify the impact of 
complexity, in particular, on middle-income taxpayers and small 
businesses, including: (1) the Alternative Minimum Tax (AMT) for 
individuals, (2) small business expensing including computer software, 
and (3) treatment of deductions in lieu of depreciation for small 
businesses (section 179).
      

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS:

      
    Any person or organization wishing to submit a written statement 
for the printed record of the hearing should submit six (6) single-
spaced copies of their statement, along with an IBM compatible 3.5-inch 
diskette in WordPerfect 5.1 format, with their name, address, and 
hearing date noted on a label, by the close of business, Monday, July 
6, 1998, to A.L. Singleton, Chief of Staff, Committee on Ways and 
Means, U.S. House of Representatives, 1102 Longworth House Office 
Building, Washington, D.C. 20515. If those filing written statements 
wish to have their statements distributed to the press and interested 
public at the hearing, they may deliver 200 additional copies for this 
purpose to the Subcommittee on Oversight office, room 1136 Longworth 
House Office Building, at least one hour before the hearing begins.
      

FORMATTING REQUIREMENTS:

      
    Each statement presented for printing to the Committee by a 
witness, any written statement or exhibit submitted for the printed 
record or any written comments in response to a request for written 
comments must conform to the guidelines listed below. Any statement or 
exhibit not in compliance with these guidelines will not be printed, 
but will be maintained in the Committee files for review and use by the 
Committee.
      
    1. All statements and any accompanying exhibits for printing must 
be submitted on an IBM compatible 3.5-inch diskette in WordPerfect 5.1 
format, typed in single space and may not exceed a total of 10 pages 
including attachments. Witnesses are advised that the Committee will 
rely on electronic submissions for printing the official hearing 
record.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
referenced and quoted or paraphrased. All exhibit material not meeting 
these specifications will be maintained in the Committee files for 
review and use by the Committee.
      
    3. A witness appearing at a public hearing, or submitting a 
statement for the record of a public hearing, or submitting written 
comments in response to a published request for comments by the 
Committee, must include on his statement or submission a list of all 
clients, persons, or organizations on whose behalf the witness appears.
      
    4. A supplemental sheet must accompany each statement listing the 
name, company, address, telephone and fax numbers where the witness or 
the designated representative may be reached. This supplemental sheet 
will not be included in the printed record.
      
    The above restrictions and limitations apply only to material being 
submitted for printing. Statements and exhibits or supplementary 
material submitted solely for distribution to the Members, the press, 
and the public during the course of a public hearing may be submitted 
in other forms.
      

    Note: All Committee advisories and news releases are available on 
the World Wide Web at `HTTP://WWW.HOUSE.GOV/WAYS__MEANS/'.
      

    The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
accommodation needs in general (including availability of Committee 
materials in alternative formats) may be directed to the Committee as 
noted above.
      

                                

    Chairman Johnson of Connecticut [presiding]. The hearing 
will come to order.
    First, let me extend my apologies to those who are 
witnesses this afternoon. It's very unusual for us to have to 
delay a hearing, but three of the Members of this Subcommittee 
were also conferees in the IRS reform bill. My Ranking Member, 
Bill Coyne, who will be along any minute, and my second, Mr. 
Portman. So there wasn't any way to avoid delaying the hearing 
when the Senate offer didn't come over until so late in the 
day. So I apologize to you all. But I appreciate your input, 
and I'm particularly pleased to welcome here today some of my 
friends from Connecticut--Mr. Bafundo and my friends, Carl and 
Kathy Olandt, on whom I've relied for advice over many years. 
So I'm very glad to have you here today.
    When the Federal income tax system was established in 1913, 
the legislation was only 15 pages long. Fifteen pages long, 
isn't that incredible? Today, the Internal Revenue Code is 
2,300 pages long, and this number does not include the hundreds 
of thousands of pages of regulations, advisory opinions, and 
court opinions. It is no wonder that the Taxpayer Advocate 
reported to Congress last January that the number one concern 
of individuals and small businesses is the complexity of the 
IRS Code and the difficulty of preparing returns.
    I conducted a survey in my home district this year, and the 
results parallel the Taxpayer Advocate's findings. The most 
common complaint was the complexity of the Code and the time 
spent preparing returns. More than 40 percent of my 
constituents said that they spent more than 10 hours preparing 
their taxes, and more than 50 percent said they had to hire a 
professional tax preparer. Nationally, the statistics are 
similar.
    The compliance burden on taxpayers, because of the 
complexity of our Code, is truly staggering. Taxpayers spend 
more than 5 billion hours and $225 billion annually just to 
prepare their returns.
    What is even more troubling is a report that shows that 
small businesses spend more than $700 in compliance costs for 
every $100 of taxes paid. Indeed, doing one's taxes has become 
a tax in itself.
    Simply put, the Tax Code has become an impediment, and I 
think that everyone in this room will agree that this is 
unacceptable. Middle-income tax payers are trying to save for 
their children's education and their retirement, but struggle 
to take advantage of tax laws meant to help them. Small 
businesses have propelled the U.S. economy forward in the 
nineties and are the primary allies of working Americans in 
providing retirement income to support Social Security, but 
they continue to worry whether they have complied with arcane 
provisions of the Tax Code and pension law. Think of where we 
would be today if the Tax Code were not so burdensome.
    It is time that Congress tackle this issue head on. I 
propose that we start by clearing the underbrush. The Tax Code 
is flush with provisions that are obsolete. We should identify 
these provisions, with help from the private sector, and wipe 
them off the books for good. For instance, there are several 
provisions regarding the alternative minimum tax, or AMT as we 
call it, that are no longer needed because of changes in the 
regular tax. We should get rid of provisions like these and 
start cleaning up the Code.
    Today, the Subcommittee will focus on some of the more 
complex provisions of the Code and explore ways to make them 
more taxpayer friendly, especially for middle-income tax payers 
and small business owners who are least able to afford 
expensive professional help.
    On the individual side, we will discuss AMT and the so-
called marriage penalty. On the small business side, we will 
discuss expensing and increasing the amount that small 
businesses can deduct rather than depreciate.
    I am sure that the panelists have identified other 
provisions in their written statements that we will not be able 
to explore in depth today. Indeed, we have had some come to us 
since we prepared this hearing. But today's hearing is an 
important first step toward beginning to identify the 
underbrush, the deadbeat provisions in the Tax Code, and the 
ways in which we could truly move to simplify the Code for 
small business and for individual taxpayers in our country.
    I'd like to yield to Mr. Coyne, but before I do that, I 
want to thank the Joint Committee on Taxation, specifically 
Lindy Paull and Mary Schmitt, for their work in identifying 
some of the provisions that the Subcommittee will discuss 
today, and for their continuing work to develop ideas for us as 
we move into taking on the challenge of simplifying the Tax 
Code and eliminating obsolete sections.
    I'd like now to yield to my colleague, Mr. Coyne.
    Mr. Coyne. Well thank you, Madam Chairman. And I want to 
thank you for holding today's hearing on a topic that is a 
source of concern to millions of Americans, and for your 
constant effort to assist and protect America's taxpayers as 
they comply with our Nation's tax laws.
    This hearing, which will highlight challenges that 
individuals and small businesses have in complying with the Tax 
Code, is being held as we are about to complete historic 
legislation to restructure and reform the Internal Revenue 
Service. While most of the IRS reform debate has focused on the 
agency's administrative problems, we have devoted too little 
attention to the principal reason for the difficulties that the 
IRS confronts, namely the complex law that the IRS administers. 
As we consider today's testimony on simplifying the Tax Code, 
we must remember that our efforts in streamlining and improving 
the IRS will be much more successful if we move swiftly to 
reduce complexity of tax law.
    As we prepare for the next Congress, we must confront the 
role that the Code plays in causing compliance headaches for 
many individual taxpayers and small businesses. As nearly 2,300 
pages make up the Tax Code, with hundreds of forms and 
publications, most Americans are intimidated by the Tax Code, 
and they fear the consequences of making a mistake. Another 
unfortunate result of this complexity is that many Americans do 
not take advantage of tax benefits because they either are not 
aware of them or do not understand the complicated forms and 
instructions.
    The debate on fundamental tax reform will continue well 
into the next Congress. However, unless and until we agree upon 
a replacement, we must fix tax problems with the current Tax 
Code by developing simplification measures that are fair and 
fiscally responsible. We should consider these alternatives as 
soon as possible so that we can provide relief sooner rather 
than later for individuals and small businesses.
    My colleagues and I on the Ways and Means Committee have 
offered measures to reduce complexity and improve tax benefits 
for millions of individual taxpayers. Congressman Neal has 
introduced a bill, H.R. 4053, that would repeal the overall 
limitation on a taxpayer's itemized deductions and phase out 
the personal exemption and in doing so, would eliminate two 
complex worksheets. Mrs. Kennelly has introduced H.R. 2524, 
which would allow the standard deduction and personal 
exemptions under the alternative minimum tax as well as permit 
nonrefundable credits such as the family tax credit to offset 
the minimum tax. The proposal that I introduced would provide 
taxpayers with a simple 38-percent exclusion of their capital 
gains from taxation, thereby eliminating 35 lines on Schedule 
D. I am including for the record a copy of Schedule D, as well 
as a description of the several Ways and Means Committee 
Members' proposals regarding tax simplification.
    [The information is being retained in the Committee files.]
    Madam Chairman, while we consider the fundamental direction 
of our tax systems over the next several years, we must move 
forward on specific measures to simplify the Tax Code. Working 
together in a bipartisan basis, this is real relief that our 
Committee can provide now for individuals and small businesses.
    Thank you.
    Chairman Johnson of Connecticut. Thank you, very much, Mr. 
Coyne, and I do appreciate the proposals of the Members of the 
Ways and Means Committee. And we will be looking at every one 
of them in depth. It is really a pleasure to welcome now as our 
first--those first to testify. Steve and Anthony Bafundo, 
partners in A.J. Bafundo and Co., LLC, in Newington, 
Connecticut.
    Thank you for being with us.

STATEMENT OF STEVE BAFUNDO, PARTNER, A.J. BAFUNDO AND CO., LLC, 
                     NEWINGTON, CONNECTICUT

    Mr. Steve Bafundo. Thank you, Chairman Johnson.
    Members of the Subcommittee, my name is Steve Bafundo. I am 
a certified public accountant and partner in the Newington, 
Connecticut firm of A.J. Bafundo and Co., LLC. Joining me today 
is our firm's managing partner, Anthony J. Bafundo.
    Our small, local firm consisting of three partners and four 
hardworking support staff prepares approximately 800 Federal 
tax returns a year and serves well over 200 small businesses 
and nonprofit organizations, ranging in annual receipts from a 
few thousand dollars to $15 million.
    One of my primary responsibilities is to prepare and review 
the preparation of our form 1040s. The vast majority of our 
individual income tax clients would be described as middle- to 
upper-middle-income tax payers, with an average household 
adjusted gross income of approximately $60,000.
    In my opinion, the most distressing characteristic of our 
current Internal Revenue Code is the complexity of tax laws as 
they relate to the average American. It is unfortunate that 
many common circumstances that relate to the middle-class 
taxpayer trigger complex laws that leave the taxpayers confused 
and frustrated.
    Examples of these are as follows: Taxpayers who rent part 
of their homes. These individuals have to deal with 
depreciation laws, potential passive activity loss limitations, 
and upon sale of the property, complex calculations for 
determining gains or losses.
    Taxpayers who are sole proprietors. While we do prepare 
Schedule Cs for law practices and doctors' offices, the vast 
majority of our Schedule Cs are prepared to report income for 
more modest ventures that include office cleaning, snow 
plowing, home daycare providers, bulk newspaper delivery, 
handymen, and other small businesses--many of them second jobs 
the individuals perform to make ends meet. These taxpayers must 
comply with complicated depreciation calculations, vehicle 
usage rules, home office usage rules, self-employment taxes 
deductions, and estimated tax calculations, just to name a few.
    Retired pensioners who receive Social Security. The 
computation of Social Security benefits is an 18-line 
computation that is tricky and very difficult to explain.
    Taxpayers who invest in mutual funds. For the year ended 
December 31, 1997, taxpayers who received even small amounts of 
capital gains from their mutual funds were asked to compute a 
Schedule D that resulted in a record number of new clients 
seeking our assistance.
    Other potential complicated tax scenarios challenging the 
average American taxpayer include alternative minimum tax, IRA 
and other retirement benefits, laws and regulations, and earned 
income credit.
    [The prepared statement follows:]

Statement of Steve Bafundo, Partner, A.J. Bafundo and Co., LLC, 
Newington, Connecticut

    Chairman Johnson, Members of the Committee
    My name is Steve Bafundo, I am a Certified Public 
Accountant and partner in the Newington, Connecticut Public 
Accounting Firm of A.J. Bafundo & Company, LLC. Joining me 
today is our firm's Managing Partner, Anthony J. Bafundo. Our 
small local firm consisting of 3 partners and 4 hardworking 
support staff prepares approximately 800 Federal tax returns a 
year and serves well over 200 small businesses and non-profit 
organizations ranging in annual receipts from a few thousand to 
15 million dollars.
    One of my primary responsibilities is to prepare and review 
the preparation of our Form 1040's. The vast majority of our 
individual income tax clients would be described as middle to 
upper-middle income taxpayers with an average household 
adjusted gross income of approximately $60,000.00. In my 
opinion, the most distressing characteristic of our current 
Internal Revenue Code is the complexity of laws as they relate 
to the average American.
    It is unfortunate that many common circumstances that 
relate to the middle class taxpayer trigger complex laws that 
leave the taxpayer confused and frustrated, examples of these 
are as follows:
    1. Taxpayers who rent part of their homes.--These 
individuals have to deal with depreciation laws, potential 
passive activity loss limitations and upon sale of the 
property, complex calculations for determining gains or losses.
    2. Taxpayers who are sole proprietors--while we do prepare 
Schedule C's for law practices and doctors' offices, the vast 
majority of our Schedule C's are prepared to report income from 
more modest ventures that include office cleaning, snow 
plowing, home daycare providers, bulk newspaper delivery, 
handyman and many other small businesses, many of them second 
jobs, that individuals perform to make ends meet. These 
taxpayers must comply with complicated depreciation 
calculations, vehicle usage rules, home office usage rules, 
self-employment taxes, deductions and estimated tax 
calculations just to name a few.
    3. Retired pensioners who receive Social Security.--The 
computation of taxable Social Security benefits is a 18-line 
computation that is tricky and very difficult to explain.
    4. Taxpayers who invest in mutual funds--For the year ended 
December 31, 1997, taxpayers who received even small amounts of 
capital gains from their mutual funds were asked to compute a 
Schedule D that resulted in a record number of new clients 
seeking our assistance.
    Other potential complicated tax scenarios challenging the 
average American Taxpayer include Alternative Minimum Tax, IRA 
and other retirement benefits, laws and regulations and Earned 
Income Credit.
      

                                

STATEMENT OF ANTHONY J. BAFUNDO, PARTNER, A.J. BAFUNDO AND CO., 
                  LLC, NEWINGTON, CONNECTICUT

    Mr. Anthony Bafundo. I am responsible for the presentation 
of small business owner's taxes.
    A small business owner does not just face Federal taxes. He 
has the following taxes necessary to start and run a small 
business: Payroll taxes, including withholding for Federal and 
State; sales taxes in Connecticut and most States; Federal and 
State corporation income taxes; licensing requirements in most 
professions and businesses; and labor law requirements.
    From a Federal income tax perspective, the areas where the 
small business owner suffer from the complication of the 
Internal Revenue Code are: Alternative minimum tax; and 
depreciation.
    Most small business owners are completely unaware of the 
alternative minimum tax.
    Tax preferences are the adjustment of the deductions 
allowed on the regular tax versus the alternative minimum tax. 
The most onerous preference is depreciation. If businessowners 
have to prepare financial statements according to generally 
accepted accounting principles, GAAP, they must use one method 
of depreciation. Then, on their tax returns, they use MACRS, 
Modified Accelerated Cost Recovery System, depreciation. And 
for the alternative minimum tax, ADR, asset depreciation range, 
depreciation. Therefore, for one asset, they must use three 
different methods and keep separate schedules for each.
    Upon sale or disposition of the asset, they'd have three 
different gains or losses.
    Small business corporations must also contend with other 
types of preferences. With the ACE, adjusted current earnings, 
preference, they must add to their alternative minimum taxable 
income the difference between the taxable income on their tax 
returns versus their financial statements if the financial 
statement income is greater than the tax return income. For 
example, if John Jones elects to prepare his tax return on a 
cash basis, and his financial statement on the accrual basis, 
he will more than likely have higher financial statement income 
than tax return income because of the accounts receivable due 
from his customers. The ACE adjustment was originally passed 
because of large corporations having huge profit but no taxable 
income.
    Small business owners are required not only to have 
comprehensive knowledge about their profession or business, but 
are also required to be aware of a complicated and cumbersome 
tax structure.
    Since they do not have the resources of the large 
companies, they are at a disadvantage and in most cases cannot 
afford the professional advice to prepare their returns 
correctly.
    In summary, we recognize that many of these tax laws are 
created with the best intentions of the American public. 
Political compromises often contribute to a complicated and 
frustrating Tax Code. It is our belief that it is time to 
simplify the way the American public is taxed.
    [The prepared statement follows:]

Statement of Anthony J. Bafundo, Partner, A.J. Bafundo and Co., LLC, 
Newington, Connecticut

    I am responsible for the presentation of small business 
owner's taxes.

                      Small Business Owner's Taxes

    1. Taxes necessary to start and run a small business:
    a. Payroll taxes--including withholding for Federal and 
State.
    b. Sales taxes in Connecticut and most states.
    c. Federal and State Corporation Income Taxes
    d. Licensing requirements in most professions and 
businesses.
    e. Labor law requirements.
    2. From a Federal Income Tax Prospective the areas where 
the small business owners suffer from the complication of the 
Internal Revenue Code are:
    a. Alternative Minimum tax, and
    b. Depreciation
    Most small business owners are completely unaware of the 
Alternative Minimum Tax.
    Tax preferences which are the adjustment of the deductions 
allowed on the regular tax vs the alternative minimum tax. The 
most onerous preference is depreciation. If a business owner 
has to prepare a financial statement according to Generally 
Accepted Accounting Principles (GAAP) he must use 1 method of 
depreciation. Then on his tax return he uses MACRS depreciation 
and for the Alternative Minimum Tax ADR depreciation. 
Therefore, for one asset you must use three different methods 
and keep separate schedules for each.
    Upon sale or disposition of the asset, you have three 
different gains or losses.
    Small business corporation must also contend with other 
types of preferences. With the ACE preference they must add to 
their alternative minimum income the difference between the 
taxable income on their tax returns vs their financial 
statements, if the financial statement income is greater than 
the tax return income. For example, if John Jones elects to 
prepare his tax return on a cash basis and his financial 
statement on the accrual basis he will more than likely have 
higher financial statement income than tax return income, 
because of the accounts receivable due from his clients. The 
ACE adjustment was originally passed because of your large 
corporations having huge profits but no taxable income.
    The small business owner is required not only to have 
comprehensive knowledge about his profession or business but is 
also required to be aware of a complicated and cumbersome tax 
structure.
    Since he does not have the resources of the large 
companies, he is at a disadvantage and in most cases can not 
afford the professional advice to prepare his returns 
correctly.

                                Summary

    While we recognize that many of these tax laws are created 
with the best intentions for the American public. Political 
compromises often contribute to a complicated and frustrating 
tax code. It is our belief that it is time to simplify the way 
the American public is taxed.
      

                                

    Chairman Johnson of Connecticut. Thank you very much, both 
of you. I'm very impressed with the number of issues that you 
brought up and the complexity of them. And now I'd like to turn 
to Carl Olandt, who is a CPA and runs his own small business, 
and his wife, Kathy.

     STATEMENT OF CARL R. OLANDT, NEW BRITAIN, CONNECTICUT

    Mr. Olandt. Thank you very much, Madam Chairperson.
    I'm testifying as a small business owner, an individual 
taxpayer, and a professional accountant. For over 25 years, 
I've prepared individual and small business tax returns, and I 
would like to thank this Subcommittee for allowing me the 
opportunity to voice not only my concerns but the concerns of 
the taxpayers for whom I prepare income tax returns.
    My comments are short, direct, and simple, as I believe the 
Tax Code should be. The alternative minimum tax should be 
abolished. It is unfair. The current laws enable some taxpayers 
with substantial economic income to significantly reduce their 
regular tax. The purpose of the AMT is to ensure that these 
taxpayers pay a minimum amount of tax on their economic income. 
For the good of the Nation and the economy, the government 
should continue to encourage individuals and businesses to make 
economic investments. This encouragement should be enhanced by 
the special tax treatment that has already been established. 
The government should not be setting up the special tax 
treatment and then come by the way of the back door of the AMT 
to recapture taxes.
    The worst part of the AMT is that the average taxpayer 
doesn't even realize when they may be subject to the tax. The 
instructions are 8 pages long and are extremely complex. 
According to the Internal Revenue Service, the average time for 
recordkeeping, learning about the AMT law or form, and 
preparing the form requires 5 hours and 56 minutes. And this 
estimated time only applies to the individual who can 
understand both the complexity and the language of the form. 
The instructions refer to certain home mortgage interest, 
refund of taxes, investment interest, depreciation, adjusted 
gains and losses, and numerous other items. How many people 
today understand exactly what this means unless they're a 
professional accountant? For example, a person who bought 
property or invested throughout the years and now sells this 
property or investments at a profit in a year with very low 
other income may become subject to the AMT without even 
realizing it, when there is no regular tax due.
    Most professional and tax accountants, as myself, struggle 
with the preparation of the form and we usually rely on our 
professional computer tax package to alert us to when the form 
is required and for help with its preparation. Think about the 
individual who must complete this form without the aid of an 
accountant or a computer income tax package. This creates 
confusion and a genuine hardship on individuals.
    I would like to make some comments on depreciation, which 
includes computer software.
    The depreciation tables should be reviewed to reduce the 
depreciable time the Internal Revenue Service has set up to a 
more realistic time schedule. Computer software should be 
considered a consumable product and be allowed to be expensed 
at the time of purchase. This puts into effect the true expense 
paid out against income in the appropriate tax year.
    Most small businesses purchase software programs tailored 
to their business as part of a computer package. This requires 
the business to depreciate the computer and software over a 5-
year period. If software is purchased separately, it is 
required to be depreciated over a 3-year period. One major 
problem is that many businesses cannot keep a computer 5 years 
and remain current. Both the computer and the software must be 
continually upgraded to meet the ever-changing business needs. 
Most software programs do not even operate 3 years without 
requiring frequent upgrades. A specific example is my own tax 
program, which must be upgraded or replaced every year to keep 
current with the ever-changing Internal Revenue Service tax 
laws. By forcing businesses to depreciate software over a 3-
year period, a negative effect is created in the year of the 
software purchase because business now must pay money--must pay 
tax on money they have already expended.
    Both my clients and I believe the Internal Revenue Service 
should get the appropriate taxes due. But the tax law should 
encourage business to expand and improve, and should not make 
operating a business a tax hardship. There needs to be better 
coordination of business needs and taxes.
    In closing, it is my belief that the Tax Codes do not need 
to be thrown out. A whole new tax system does not need to be 
developed. A flat tax system is definitely unfair to the 
majority of taxpayers. The income tax laws as presently written 
do contain many inequities, as so stated by Madam Chair and her 
esteemed colleague, Congressman Coyne. By reviewing the Tax 
Codes and incorporating common sense and simplicity, we can 
achieve a system that is acceptable for individuals and 
business alike.
    Thank you.
    [The prepared statement follows:]

Statement of Carl R. Olandt, New Britain, Connecticut

    Honorable Congressional Committee Members.
    I am testifying as a small business owner, an individual 
taxpayer, and a professional accountant. For over twenty-five 
years I have prepared individual and small business tax 
returns. I would like to thank the Committee for allowing me 
the opportunity to voice not only my concerns but also the 
concerns of the taxpayers for whom I prepare income tax 
returns. My comments are short, direct and simple as the tax 
code should be.

         1. The Alternative Minimum Tax--Individuals. Form 6251

    The alternative minimum tax should be abolished because it 
is unfair. The current laws enable some taxpayers with 
substantial economic income to significantly reduce their 
regular tax. The purpose of the AMT is to ensure that these 
taxpayers pay a minimum amount of tax on their economic income. 
For the good of the Nation and the economy the government 
should continue to encourage individuals and businesses to make 
economic investments. This encouragement should be enhanced by 
the special tax treatment that has already been established. 
The government should not be setting up the special tax 
treatment and then come in the back door, by way of AMT, to 
recapture taxes.
    The worst part of the AMT is that the average taxpayer 
doesn't even realize when they may be subject to this tax. The 
instructions are eight pages long and are extremely complex. 
According to the Internal Revenue Service, the average time for 
record keeping, learning about the AMT law or form and 
preparing the form requires five hours and fifty-six minutes. 
This estimated time applies only to the individual who can 
understand both the complexity and the language of the form. 
The instructions refer to certain home mortgage interest, 
refund of taxes, investment interest, depreciation, adjusted 
gain or loss, incentive stock options, passive activities and 
tax exempt interest. How many people understand this? For 
example, a person who bought property or invested throughout 
the years and now sells this property or investments at a 
profit in a year with very low other income may become subject 
to the AMT without even realizing it, when there would be no 
regular income tax due.
    Most professional accountants and tax consultants, as I 
myself, struggle with the preparation of this form and usually 
rely on their professional computer tax package to alert them 
to when the form is required and for help with its preparation. 
Think about the individual who must complete the form without 
the aid of an accountant or a computer income tax package. This 
creates confusion and a genuine hardship on individuals.

   2. Small business expensing. Depreciation which includes computer 
                               software.

    The depreciation tables should be reviewed to reduce the 
depreciable time the Internal Revenue Service has set up to a 
more realistic time schedule. Computer software should be 
considered a consumable product and be allowed to be expensed 
at the time of purchase. This puts into effect the true expense 
paid out against income in the appropriate tax year.
    Most small businesses purchase software programs tailored 
to their business as part of a computer package. This requires 
the business to depreciate the computer and software over a 
five year period. If software is purchased separately it is 
required to be depreciated over a three year period. One major 
problem is that many businesses cannot keep a computer five 
years and remain current. Both the computer and software must 
be continually upgraded to meet ever changing businessoftware 
programs do not even operate three years without requiring 
frequent upgrades. A specific example, is my own tax program 
which must be upgraded or replaced every year to keep current 
with the ever changing Internal Revenue Service tax laws. By 
forcing business to depreciate software over a three year 
period a negative effect is created in the year of the software 
purchase, because business now has to pay tax on money they 
have already expended.
    As previously stated the depreciation tables are not 
realistic. For example, a new roof on residential rental 
property as required by the Internal Revenue Service law must 
be depreciated over 27.5 years. There are not many roofs built 
today that can last that long. Most roofs are only guaranteed 
form 5 to 15 years. The depreciation tables by not being 
realistic discourages many businesses from investing in 
equipment as often as they would normally do.

        3. Section 179, first year expensing for small business.

    The section 179 deduction should be increased 
substantially. Due to the high cost of purchasing most 
equipment, the current allowable deduction of $18,000.00 is not 
sufficient. By increasing the allowable amount of deduction 
business will be encouraged to expand and upgrade their 
equipment more frequently.
    Many new businesses are not aware that they will not get 
full credit for the money they have expended for new equipment 
or starting a business. This places a major strain on business 
to pay out money for new equipment and still be able to cover 
required taxes. At tax year end, business now owes taxes on 
money they have used to purchase new equipment. This situation 
has caused many businesses to owe substantial tax money to 
Internal Revenue Service. In many cases business is forced to 
buy on the installment basis so they can maintain sufficient 
money to cover the taxes, ultimately the end result is business 
pays more money in interest and fee charges.
    Both my clients and I believe the Internal Revenue Service 
should get the appropriate taxes due, but the tax laws should 
encourage business to expand and improve and should not make 
operating a business a tax hardship. There needs to be better 
coordination of business needs and taxes.
    In closing it is my belief that the tax codes do not need 
to be thrown out. A whole new tax system does not need to be 
developed. A flat tax system is definitely unfair to the 
majority of taxpayers. The income tax laws as presently written 
do contain many inequities. By reviewing the tax codes and 
incorporating common sense and simplicity, we can achieve a 
system that is acceptable for both individuals and business 
alike.
      

                                

    Chairman Johnson of Connecticut. Thank you very much, Carl.
    Mr. Evanich.
    Mr. Evanich. Evanich.
    Chairman Johnson of Connecticut [continuing]. Member of the 
Board of Governors and member of the Federal Tax Division, 
Connecticut Society of Certified Public Accountants.

STATEMENT OF JOHN L. EVANICH, JR., CERTIFIED PUBLIC ACCOUNTANT, 
 MEMBER, BOARD OF GOVERNORS, AND MEMBER, FEDERAL TAX DIVISION, 
     CONNECTICUT SOCIETY OF CERTIFIED PUBLIC ACCOUNTANTS, 
                    WALLINGFORD, CONNECTICUT

    Mr. Evanich. Good afternoon, Madam Chairman, and Members of 
this distinguished Subcommittee. We, the Connecticut Society of 
CPAs, appreciate this opportunity to testify today on the 
individual alternative minimum tax, the marriage penalty, and 
the section 179 expensing deduction. My name is John Evanich, 
and I'm a certified public accountant from Connecticut. I'm a 
member of the Board of Governors of the Connecticut Society of 
CPAs and a member of their Federal Tax Division. I'm also a 
member of the American Institute of CPAs and their tax 
division.
    The Connecticut Society of CPAs currently has over 6,600 
members, many of whom are in public practice or otherwise 
prepare tax returns for many thousands of individual taxpayers 
and small businesses. Accordingly, we see firsthand many horror 
stories of taxpayers caught in the tangled web of tax law 
complexities and the unexpected traps of certain provisions of 
the tax laws. These complexities and traps cause taxpayers to 
lose faith in the tax system in general and in their ability to 
understand the tax consequences of otherwise straightforward 
transactions.
    The three issues that I will be addressing involve concerns 
of complexity in the Tax Code, but they also involve concerns 
of fairness in our tax laws. As we all know, there are often 
unexpected consequences of well-intentioned tax provisions. 
These need to be continually sought out and corrected, 
particularly in light of continuing complexity of these same 
tax provisions.
    As I said, I will briefly discuss three tax issues 
affecting middle-income individuals and small businesses, all 
of which are a concern to the Connecticut Society of CPAs. 
Namely, I would like to explain our concerns with the AMT, the 
marriage penalty, and the section 179 expensing deduction.
    The alternative minimum tax, first. As you know, our tax 
laws contain many provisions allowing special treatment for 
certain types of income and gains, and special deductions for 
expenses and losses if certain rules are met. In the past, 
these tax laws allowed some taxpayers to pay little or no 
income tax, even though they may have received substantial 
economic income. Through passage and subsequent expansion of 
the alternative minimum tax, many more of these taxpayers now 
pay at least a minimum of tax on their economic income.
    Unfortunately, in order to accomplish this goal, the AMT 
rules have become increasingly complex. In fact, the AMT is one 
of the most complex provisions in the tax system. The many 
items of preference and adjustment, which must be calculated in 
order to determine the taxpayers' AMT liability, are extremely 
complex, and many require a taxpayer to keep detailed and time-
consuming records of assets and transactions. In effect, 
taxpayers must keep two complete sets of books, one for regular 
tax purposes and another for AMT purposes.
    Furthermore, many of the provisions of the Taxpayer Relief 
Act of 1997, while each accomplishing its intended benefit, 
also cause some unexpected results.
    First, many of the technical AMT tax provisions were 
actually made more complex. And second, many more individual 
taxpayers will now be subject to the AMT. In fact, many 
taxpayers who will not actually pay the AMT, must still keep 
these detailed records just to correctly determine which tax 
they are to pay--the regular income tax or the AMT tax.
    Further complicating this situation is the increasingly 
complex nature of these provisions, as already mentioned. With 
a significant increase in the number of taxpayers subject to or 
potentially subject to the AMT, there will now be many less 
sophisticated taxpayers expected to be aware of and understand 
these provisions. Since an increasing number of these middle-
class taxpayers, who will now be subject to the AMT, may 
currently prepare their own tax returns, either manually or 
using consumer type tax preparation software, and since in many 
cases the AMT cannot correctly be calculated from information 
directly used in preparing these returns, there's a 
significantly increased chance that taxpayers subject to the 
AMT will not correctly calculate and pay this tax. Needless to 
say, this will add significant further enforcement efforts to 
the responsibilities of an already overburdened Internal 
Revenue Service.
    The Connecticut Society of CPAs strongly recommends that 
consideration be given to simplifying the AMT provisions as 
they're now written so that an average taxpayer would have at 
least a fair chance of understanding this tax and correctly 
preparing their own tax return each year.
    Furthermore, we suggest these rules be modified to provide 
an exemption from the AMT for certain taxpayers with income 
below certain thresholds and with only certain specific 
preferences or adjustments.
    If it's OK, I'm going to skip some of the details since I'm 
out of time. I would like to mention, if I could take another 
minute, the marriage penalty provisions.
    Those are a significant concern. In effect, what they do 
is, the tax laws are causing people to either postpone getting 
married or actually consider divorce simply for purposes of tax 
saving.
    In addition, the last item I have, the section 179 
expensing deduction, while the expense allowance is being 
increased each year, from currently $18,500 to eventually 
$25,000, there's a reduction limitation if a taxpayer spends 
over $200,000 a year in total equipment costs. That $200,000 
limitation hasn't been increased at all since it was first 
enacted in 1986. And again, the Connecticut Society of CPAs 
recommends that that be increased or eliminated entirely.
    The Connecticut Society of CPAs is honored to be invited to 
appear before this Subcommittee to present our views on certain 
tax provisions needing modification in the interest of 
simplification and fairness. We thank you for this opportunity 
and stand ready to work with you on these or any other tax 
provisions under consideration.
    Thank you.
    [The prepared statement follows:]

Statement of John L. Evanich, Jr., Certified Public Accountant, Member, 
Board of Governors, and Member, Federal Tax Division, Connecticut 
Society of Certified Public Accountants, Wallingford, Connecticut

                              Introduction

    Good afternoon, Madam Chair, and members of this 
distinguished Subcommittee. We appreciate this opportunity to 
testify today on the individual alternative minimum tax (AMT), 
the ``marriage penalty,'' and the ``Section 179 Expensing 
deduction.'' My name is John Evanich, and I am a Certified 
Public Accountant from Connecticut. I am a member of the Board 
of Governors of the Connecticut Society of CPAs, and a member 
of their Federal Tax Division. I am also a member of the 
American Institute of CPAs and their Tax Division.
    The Connecticut Society of CPAs currently has over 6,600 
members, many of whom are in public practice or otherwise 
prepare tax returns for many thousands of individual taxpayers 
and small businesses. Accordingly, we see first-hand many 
horror stories, of taxpayers caught in the tangled web of tax 
law complexities and the unexpected traps of certain provisions 
of the tax laws. These complexities and traps cause taxpayers 
to lose faith in the tax system in general, and in their 
ability to understand the tax consequences of otherwise 
straightforward transactions.
    The three issues that I will be addressing involve concerns 
of complexity in the tax code, but they also involve concerns 
of fairness in our tax laws. As we all know, there are often 
unexpected consequences of well-intentioned tax provisions, 
these need to be continually sought out and corrected, 
particularly in light of continuing complexity of these same 
tax provisions.
    As I said, I will briefly discuss three tax issues 
affecting middle-income taxpayers and small businesses, all of 
which are of concern to the Connecticut Society of CPAs. 
Namely, I would like to explain our concerns with the 
Alternative Minimum Tax, the ``marriage penalty,'' and the 
``Section 179 Expensing Deduction.''

                        Alternative Minimum Tax

    As you know, our tax laws contain many provisions allowing 
special treatment for certain types of income and gains, and 
special deductions for expenses and losses if certain rules are 
met. In the past, these tax laws allowed some taxpayers to pay 
little or no income tax, even though they may have received 
substantial economic income. Through passage and subsequent 
expansion of the alternative minimum tax (AMT), many more of 
these taxpayers now pay at least a minimum amount of tax on 
their economic income.
    Unfortunately, in order to accomplish this goal, the AMT 
rules have become increasingly complex. In fact, the AMT is one 
of the most complex provisions in the tax system. The many 
items of ``preference'' and ``adjustment'' which must be 
calculated in order to determine a taxpayer's AMT liability are 
extremely complex, and many require a taxpayer to keep detailed 
and time consuming records of assets and transactions. In 
effect, taxpayers must keep two complete sets of records--one 
for ``regular'' tax purposes and another for ``AMT'' tax 
purposes.
    Furthermore, many of the provisions of the Taxpayer Relief 
Act of 1997, while each accomplishing its intended benefit, 
also cause some unintended results--first, many of the 
technical ``AMT'' tax provisions were actually made more 
complex, and second, many more individual taxpayers will now be 
subject to the AMT. In fact, many taxpayers who will not 
actually pay the AMT, must still keep these detailed records, 
just to correctly determine which tax they are to pay--the 
``regular'' income tax or the ``AMT'' tax.
    Further complicating this situation is the extremely 
complex nature of these provisions, as already mentioned. With 
a significant increase in the number of taxpayers subject to 
(or potentially subject to) the AMT, there will now be many 
less-sophisticated taxpayers expected to be aware of and 
understand these provisions. Since an increasing number of 
these middle-class taxpayers who will now be subject to the AMT 
may currently prepare their own tax returns (either manually or 
using consumer-type tax preparation software), and since in 
many cases the AMT cannot correctly be calculated from 
information directly used in preparing these returns, there is 
a significantly increased chance that taxpayers subject to the 
AMT will not correctly calculate and pay this tax. Needless to 
say, this will add significant further enforcement efforts to 
the responsibilities of an already overburdened Internal 
Revenue Service.
    The Connecticut Society of CPAs strongly recommends that 
consideration be given to simplifying the AMT provisions as 
they are now written, so that an ``average'' taxpayer would 
have at least a fair chance of understanding this tax, and 
correctly preparing their own tax return each year.
    Furthermore, we suggest that these rules be modified to 
provide an exemption from the AMT for certain taxpayers, with 
income below certain thresholds or with only certain specific 
``preferences'' or ``adjustments.'' For example, taxpayers with 
only itemized deductions and personal exemptions shouldn't be 
paying the AMT at all. Likewise, taxpayers who qualify for 
either the new ``Child Tax Credit'' or ``Education Tax 
Credits'' shouldn't find themselves giving this tax break back, 
in the form of an AMT.
    There are many other ways that the AMT provisions can be 
modified to be more ``user-friendly'' for middle-class 
taxpayers, so that only those taxpayers originally intended to 
be subject to the AMT--those with large economic income and 
little or no regular income tax--will again be subject to both 
the tax itself and the burdensome recordkeeping requirements of 
these provisions.

                            Marriage Penalty

    Under the current tax system, both a ``marriage penalty'' 
and a ``marriage bonus'' exist. A ``marriage penalty'' occurs 
when two married individuals have a greater tax liability when 
compared to two similarly situated single individuals. A 
``marriage bonus'' occurs when the opposite result ensues B two 
married individuals paying a lower tax liability than two 
similarly situated single taxpayers. In nearly all cases, 
current tax laws result in a ``marriage penalty,'' meaning that 
spouses with separate incomes usually will pay a higher tax 
than they would pay if they were allowed to file as single 
taxpayers. It has been estimated that about two-thirds of all 
married couples pay more income taxes than they would if they 
divorced!
    Furthermore, tax complexity has again created an unbearable 
situation for many taxpayers. There are at least 63 provisions 
in the Internal Revenue Code where tax liability depends on 
whether a taxpayer is married or single. Many of these 
differences were originally created to be fair, to target 
benefits to specific taxpayers, or to prevent abuses of 
specific provisions. The Taxpayer Relief Act of 1997 added even 
more complexity in this area, specifically in the provisions 
regarding the Child Tax Credit, Education Tax Credits and other 
tax incentives for education, and even Roth Individual 
Retirement Accounts to name just a few!
    Furthermore, there is now an ever-increasing list of tax 
provisions tied to some level of Adjusted Gross Income (AGI) or 
Modified AGI. Since nearly all of these AGI-controlled 
provisions impose a further ``marriage penalty'' on married 
taxpayers, the ``penalty'' continues to grow.
    The Connecticut Society of CPAs strongly recommends that 
consideration be given to eliminating the ``marriage penalty.'' 
This would result in a more fair and equitable tax system, one 
in which marital status would not affect the amount of taxes 
paid by two similarly situated individuals. In addition, 
elimination of the ``marriage penalty'' would result in 
simplifying the tax laws, meaning that an ``average'' taxpayer 
would again have at least a fair chance of understanding their 
income tax, and correctly preparing their own tax return each 
year. Finally, the government would no longer be viewed as 
discouraging taxpayers from remaining married, or from getting 
married in the first place!
    Also, consideration should be given to simplifying the 
calculation of a couple's income tax liability, by eliminating 
many of the AGI-controlled limitations and phase-outs. In this 
way, taxpayers will feel two immediate benefits B simplified 
tax laws that they have a greater chance of understanding, and 
increased faith in the fairness of our overall tax system.

                    Section 179 Expensing Deduction

    Since 1982, small businesses have been allowed to elect to 
deduct currently, instead of depreciating over several years, 
the cost of certain qualifying property purchased for use in 
their business. Although originally limited to $5,000 of cost 
per year of such property, this annual limit has been increased 
several times over the past 16 years. The Section 179 
limitation ($18,500 for 1998) is currently in the midst of 
scheduled increases, and will eventually reach a maximum annual 
deduction of $25,000 by year 2003.
    However, since 1986, this tax benefit also has a specific 
limitation imposed on it. In order to qualify for the maximum 
deduction under this provision, a taxpayer cannot have 
purchased more than $200,000 of total qualifying property 
during the tax year. For each dollar of property purchased in 
excess of this $200,000, the Section 179 deduction is reduced 
by one dollar.
    This reduction if property is acquired in excess of 
$200,000 was added by the Tax Reform Act of 1986. 
Unfortunately, while the annual deduction under Section 179 has 
been increased several times since 1986, this ``reduction 
limitation'' has not increased at all during these past twelve 
years.
    Since prices of equipment and other property have almost 
certainly increased since 1986, this limitation has actually 
discouraged certain taxpayers from purchasing new property if 
they are at or near this limitation. While other tax provisions 
are intended to encourage businesses to reinvest in new 
equipment and other property, this provision may often have the 
unintended result of actually discouraging such investment.
    The Connecticut Society of CPAs strongly recommends that 
consideration be given to eliminating the ``disincentive'' that 
may result from this Section 179 ``reduction limitation.'' In 
order to encourage all businesses to invest in qualifying 
property, and as a further step toward simplification, 
consideration should be given to the complete elimination of 
this ``reduction limitation.'' Alternatively, consideration 
should at least be given to increasing the dollar threshold, 
over the same period as the current schedule of deduction 
increases, in order to at least not reduce or eliminate the 
potential benefits of this increase for many small businesses.
    Furthermore, this would result in a more fair and equitable 
tax system, since all capital-intensive businesses would be 
able to take advantage of this deduction on an equal basis, 
regardless of the amount spent on qualifying property purchased 
in any one tax year. Finally, the elimination of this 
``reduction limitation'' would also eliminate the necessity of 
small businesses postponing their purchase of necessary 
equipment, merely because they have maximized their qualifying 
purchases for the current year.

                               Conclusion

    The Connecticut Society of CPAs is honored to be invited to 
appear before this Subcommittee, to present our views on 
certain tax provisions needing modification in the interest of 
simplification and fairness. Although we believe that there are 
many provisions of the tax law that can be improved, these 
three specific provisions are of particular concern for all 
middle-income individuals and small businesses.
    We thank you for this opportunity, and stand ready to work 
with you on these or any other tax provisions under 
consideration. We believe that ``Tax Simplification'' and an 
improved level of ``fairness'' in our tax system is in the best 
interest of the entire country. Thank you for taking the time 
to hear our concerns.
      

                                

    Chairman Johnson of Connecticut. I thank you all for your 
input. I found it extremely interesting, and let me ask first, 
how do you as preparers keep up in the changes? What does it 
take to be out there as a CPA advising people on tax law in 
today's world?
    Mr. Olandt. Madam Chairperson, for myself, I subscribe to 
four professional tax accounting organizations and receive 
their monthly newsletters, and study them, scrutinize them 
every month for the changes and their explanation. And numerous 
times after IRS comes out with some policy direction even what 
our, such as the National Society of Accountants and other 
organizations have given their interpretation to it, it 
becomes--they rechange it when they send it to you to reexplain 
it to you so that it keeps us very much on our toes.
    Chairman Johnson of Connecticut. Mr. Bafundo.
    Mr. Anthony Bafundo. Well, we do it from three sources. 
First, we attend seminars given. Second, we have tax services 
that provide monthly updates. And third, we also have in-house 
seminars where we take a section of the Code and explain it to 
the rest of the staff. And we also send around certain changes 
that they have to read--we get a weekly change. And we make 
sure that every staff member signs off that they've read the 
changes for that particular week.
    Chairman Johnson of Connecticut. You mentioned, Mr. Steve 
Bafundo, in your testimony the difficulty for taxpayers who 
rent part of their homes. I assume you're thinking about the 
residences that are common in Connecticut--two families, three 
families, situations like that. Is there--and this actually 
goes to a number of aspects of each of our testimony. As in 
other parts of the law, and in the individual Code, we 
recognize the need to exempt low-income filers from complexity. 
Is there a need to exempt, to make, to draw some different 
lines, on who is going to be affected by what? And if you were 
going to do that, for instance, at what income would you want 
to exclude people from the AMT--simplify the law in regard to 
rental--in an owner-occupied building?
    Mr. Steven Bafundo. Well, first of all Congressman Johnson, 
you know that your own hometown of New Britain is filled with 
multifamily houses, and we do a heck of a lot of New Britain 
residents' tax returns. Most of these individuals don't make 
over $50,000 a year. They're working-class families, and yet 
they are dealing with complex depreciation issues. In certain 
cases, the passive activity losses could come in if their 
income goes a little higher. But certainly they have to take a 
look at those forms.
    And the only conclusion I draw is that when these laws were 
made up for rental properties, the assumption was that whoever 
wrote the laws figured that either everybody who had a rental 
property was going to a tax preparer, or they had access to a 
computer to be able to do those kind of computations. I think 
there should be some kind of differentiation as to whether you 
rent out a portion of your principal residence versus somebody 
that has a 10-unit apartment building. I think that you could 
clearly make things a lot easier for individuals to rent out 
the second floor, or maybe the second and third floors, and yet 
occupy that property. There's a lot of people that have to pay 
a fair sum of money to have their returns prepared solely 
because they rent out a portion of their house, something 
that's necessary for them to do to make ends meet.
    Chairman Johnson of Connecticut. A similar issue that you 
raised in regard to sole proprietors, you know, people who have 
a part-time business or really are a small sole proprietor. 
When you enumerate the things that they have to take into 
account, would it be useful to consider an alternative single 
deduction that you could choose rather than enumerating all of 
these?
    Mr. Steve Bafundo. That would be great. I know a couple of 
years ago, there was an effort made to make it a little 
simpler, with the form C-EZ that was put in. But that doesn't 
really exempt them from the different considerations that they 
do have. For example, the vehicle usage, home office--if they 
have home office--and some of the other depreciation aspects. 
These--it would be tough to come up with a standard deduction 
per se for a small business owner, but maybe that's something 
that you consider. The problem is that some of these small 
businesses--so many of them are so different--have different 
needs or different ways of doing business--that I don't know if 
you could come up with a standard. But it would be something to 
look at, because, once again, there's a lot of people that make 
very little money that need our services because they're up at 
4 o'clock in the morning shoveling or plowing driveways, or 
they're delivering bulk newspapers. I'm giving you real-world 
examples. Or maybe they pick up a few thousand dollars during 
the year cleaning somebody's office at night. And yet these 
people have to pay hundreds of dollars to get their tax returns 
done, because they can't figure it out for themselves.
    Mr. Anthony Bafundo. Well, there's also another 
consideration: Self-employment tax. Somebody who makes $2,000, 
they may not pay any income tax, but they're subject to Social 
Security, so they have to file a tax return even though they 
don't owe Federal income tax.
    And the second thing, sometimes we run across elderly 
people who own a house and rent a second floor, and they 
really--the only thing they have is the Social Security and the 
rent they get from the home. And when you figure out their tax, 
it's zero income tax. But they have to file a return because of 
taking taxable income into consideration when you file a 
return, you have to take gross income subject to taxation. So 
these people may have a rental property where they collect 
$10,000 a year, and they're 70 years old, and they still have 
to file a tax return, even though they have no tax to pay. And 
most of these people are not in the best of financial shape.
    Chairman Johnson of Connecticut. On the alternative minimum 
tax, let me just run down for you a couple of the suggestions 
that our tax staff has made and get your opinion as to whether 
this would be very--it would be helpful or not. Some of it may 
not pertain to the sizes of businesses that you deal with, but, 
for instance, we could repeal provisions that, in fact, are 
obsolete that relate to passive losses, R&D expenses, 
circulation expenses, farming losses, mining exploration, 
development expenses, long-term contracts, and pollution 
control facilities. Most of that wouldn't pertain to most of 
the small businesses you deal with, except the passive losses. 
Would that make any difference?
    Mr. Anthony Bafundo. The----
    Chairman Johnson of Connecticut. There are some others so 
you can----
    Mr. Anthony Bafundo. We do quite a few contracting 
companies. Well, the long-term contract provisions where they 
have to--we use sometimes cash basis or percentage of 
completion.
    Chairman Johnson of Connecticut. In other words, if we 
excluded that, that would be helpful?
    Mr. Anthony Bafundo. Right, that would be helpful. Yes.
    Chairman Johnson of Connecticut. What about coordinating 
certain provisions of the AMT with regard to regular tax, such 
as providing for the regular tax 7.5-percent AGI floor, rather 
than the alternative minimum tax 10-percent floor for medical 
expenses. You know, if we align to these things, would that 
make that easier?
    Mr. Anthony Bafundo. Yes. Definitely. Especially medical. 
If somebody has medical expenses, normally they need the help. 
If they have to go over 7\1/2\ percent of their adjusted gross 
income, they probably have a similar amount of medical expenses 
and are in poor shape financially.
    Chairman Johnson of Connecticut. And then, one of the 
things that we've discussed quite extensively is allowing 
deductions under the AMT for items not generally considered to 
be tax preferences, such as employee business expenses and 
investment expenses; that those would not be--they would not 
come under the AMT.
    Mr. Anthony Bafundo. Yes, that makes sense.
    Chairman Johnson of Connecticut. I am interested as you go 
home and sort of think about this, as you--you know, the more 
you can help us come up with specific ideas as to how to 
simplify and give us some ideas as to if we do this, how many 
does that help? Are you seeing a lot of individuals now coming 
into the alternative minimum tax system? Are you seeing more 
coming in now than you did 2 or 3 years ago?
    Mr. Evanich.
    Mr. Evanich. Yes, Madam Chairman. Definitely more, and 
there will be significantly more as the provisions of the 
Taxpayer Relief Act of 1997 take effect. We're going to, for 
the first time, have taxpayers realizing that they're thinking 
they're getting an education tax credit or a child tax credit, 
but then finding out that they're giving it right back in the 
form of an AMT, and that's going to hit this year when they 
file their returns.
    Chairman Johnson of Connecticut. This year?
    Mr. Evanich. Yes.
    Chairman Johnson of Connecticut. I'd be interested in what 
you--what you--what change you think we need to make in the 
threshold to stave that off. We are looking at the possibility 
of excluding those expenses, allowing those preferences before 
the AMT hits. But it would be interesting to know what the--how 
you would have to lift the threshold in order to avoid denying 
people the benefits that we just gave them.
    Mr. Coyne.
    Mr. Coyne. Thank you, Madam Chairman. I would like to yield 
to Mrs. Thurman.
    Mrs. Thurman. I'd like to thank the gentleman.
    I really want to focus on one issue because many of us have 
been doing some hearings for the last couple of weeks under 
guidance of the Chairman, Nancy Johnson, and the year 2000 
issue. And I noticed in much of the testimony--or in some of 
the testimony today specifically you talked about some small 
business expensing and depreciation, including computer 
software. One of the things that we're concerned about is what 
are small businesses going to do out there while we're trying 
to worry about government, we're worried about how they're 
going to network and how they're going to interact without 
getting--because we need to get 2000 done.
    Can you give us some ideas of some kinds of things that 
might promote to businesses or particularly to small businesses 
in the Tax Code that would maybe get them to kind of jump into 
this or at least see something in the Tax Codes that would help 
them get to this problem?
    Mr. Evanich. Congresswoman, I'd like to answer that. Yes, 
first of all in the section 179 expensing deduction area, 
elimination of the $200,000 a year limitation, where you start 
to lose a dollar for every dollar that you spend over that, 
would allow all businesses to spend whatever they truly need to 
spend to purchase equipment without worrying about artificial 
limitations; so that we tax advisors don't sit with them in the 
11th month, and say, no, don't buy any more equipment this 
year, wait until next year. They can truly buy what is right 
for their business. It's very easy to hit $200,000 nowadays.
    Mrs. Thurman. Would it be, I mean could we do it in a way 
that we could just keep it for a short period of time because 
this is an immediate problem? And so, say, we said that if you 
do it in 1998, 1999, obviously, because we have to worry about 
how we would pay for all of this--I mean, I think, you know, 
we're trying to figure out the best way to do this. We've done 
some research and it says that, you know, I guess you could 
take some because of repair. Because there's a part of the Code 
that you could actually use this as a repair tax credit. I've 
tried to look at depreciation. I've tried to look at some other 
areas that I'm just trying to get these people motivated out 
there, because we are really concerned about what's going to 
happen when they don't have the equipment available. I mean is 
that--I mean, I know that kind of makes everything crazy in the 
Tax Code, but even if we limited it for a short period of time 
based on whatever money amount we needed. I mean, that's going 
to be our big issue.
    Mr. Evanich. Yes, unfortunately that is just bringing in 
one more element of complexity into----
    Mrs. Thurman. I know.
    Mr. Evanich [continuing]. What's already unbearable.
    Mrs. Thurman. And I really don't want to do that. That's a 
problem for me, but at the same time, I don't know how long you 
could continue that for a long period of time and what the cost 
of that would be. And, of course, we have to offset any 
expenditures that we have, and trying to find a replacement for 
that, depending on whatever--you know, it would be what the Tax 
Committee would come back with as the amount of dollars. And 
that could be huge, I suppose.
    Mr. Steve Bafundo. If I could address this for 1 second. 
The cost of computers these days, with the turnover in 
technology, is such that I believe if you did something maybe 
even permanently, but especially in light of the Y2K problem, I 
think it would be a tremendous savings to people if you could 
take electronic data processing type of equipment and maybe put 
on a special writeoff of some sort to encourage people to stay 
current. Without their computers, you know, one of the problems 
they have is they're not able to keep up with their accounting 
systems and with their tax preparation. So I think you would be 
helping people if you did something special with EDP type of 
deductions or writeoffs.
    Mr. Anthony Bafundo. Right now, they're 5 years, so, you 
know, if you could have 3-year or a 2-year writeoff, or a 
complete writeoff, even though it is complicating the law.
    Mr. Olandt. It would definitely help if you gave special 
exemption to the data processing part of it because every 
business is going to have to replace or readjust for the year 
2K. And if you gave them just a flat exemption in that area, 
that would allow them to move into year 2K with their business 
and have everything correct to date. And for the amount that it 
would be based on the computer part or industry, I don't 
believe would cost the Federal Government that much money.
    Mrs. Thurman. OK. You want to add. You looked like you were 
ready to add something there?
    Mr. Anthony Bafundo. Well, the computers, by their nature, 
do depreciate. Five years is practically infinity.
    Ms. Thurman. I did notice that in the testimony that there 
seems to be some consensus that this is an area. Quite frankly, 
in talking to my CPAs at home when I first ran for Congress, 
they told me the one thing you can do in business is to help 
them through some of their tax credits. That being one of them 
and, of course, we did some of that in 1993 where, I guess, we 
jumped up to about $17,000 in equipment. They said the same 
thing that was the one thing you could do to keep them fueled 
and running. So it seems pretty consistent. I will say that I 
think all of us agree on the AMT. I hear it from everybody. 
That is just a nightmare out there.
    There's another issue and I found this as an interesting 
one and I'm talking about because my Chairman is on the phone. 
But when I talked to my accountants this year, they told me on 
the capital gains issue--which seems to have gotten some 
attention--actually they have a different opinion. They said 
this first year was a nightmare because it was new and it was 
complicated and those kinds of things. But they kind of told me 
that after this year getting through this that it probably was 
not a big deal. I mean, you can agree or disagree.
    Mr. Olandt. Well, I tend to agree that for the accountant 
it's not a big deal and especially as we get more used to its 
items. But for the individual taxpayer, you've set up 10 
percent--20 percent--25 and 28 percent, but the individual 
taxpayer really doesn't understand all this. For the majority--
especially for about the 55 people that had capital gains--or 
60 returns that I did, they in essence only saved somewhere 
around $30, $40. So we--but yet had to pay the accountant $15, 
$20, $25 to prepare that 1-page return. In fact, many of us 
experienced the whole--a whole bunch of new clients strictly 
because of the capital gains. I mean, it did a lot to help us 
accountants but didn't do anything for the poor middle-class 
taxpayers.
    Ms. Thurman. But would that change even if we took it back 
to 12 months versus 18? Or is it just the whole issue of the 
rules and regulations that went with it?
    Mr. Olandt. It's the whole issue of the rules and 
regulations----
    Ms. Thurman. But not the month of the time period in which 
you hold it.
    Mr. Olandt. Right. That's part of the problem is they're--
--
    Ms. Thurman. OK.
    Mr. Olandt [continuing]. Keeping the complexity of paying 
attention to the direct buy and sell date which they have to do 
anyway. But the fact that it's so complicated and they have to 
take it off the regular tax and they have to compute at what 
level of tax it is. For the savings at the end, they look at a 
lot of work for not a lot of that kind of money.
    Mr. Evanich. The Connecticut Society of CPAs, as a public 
service for our two largest newspapers in Connecticut, man the 
telephones during tax seasons for their readers to call in with 
questions.
    Ms. Thurman. Bless them. [Laughter.]
    Mr. Evanich. I think we did for 3 nights altogether--4 
nights altogether. About 80 percent of the questions that we 
got revolved around capital gains and losses and sale of 
residence. Unfortunately with five different rates for capital 
gains and potentially five different AMT capital gains rates, 
the average taxpayer--especially trying to prepare their own 
returns--just doesn't have a chance of understanding.
    Ms. Thurman. OK. Well, thank you.
    Chairman Johnson of Connecticut. Very sobering. I wanted to 
pursue this issue of expensing a little bit further. For years, 
the Committee has tried to increase the expensing threshold. 
How useful is that? At what level do you think expensing ought 
to be at? Software is becoming really, in a sense, a normal 
business expense now. Should that even be included in the 
expensing provisions or should it be limited to the hardware--
to the computers and other equipment? So one is the level and 
second whether software should still be part of it.
    Mr. Olandt. Madam Chairman, I would say that the software 
itself should be just taken as a consumable product as I 
submitted in my written testimony.
    Chairman Johnson of Connecticut. As a business expense?
    Mr. Olandt. As a business expense, yes. A lot of 
businesses, as I said, get tailored software to their 
businesses. If you're a contractor and you're trying to keep up 
with the materials, you're buying a package every year that 
gives roughly prices and they upgrade it semiannually usually. 
A lot of the contractors that I have, on their laptop 
computers, will upgrade their pricing so that when they go out 
and give a bid on producing a job, doing a home improvement, 
building an addition--they have some readily available 
information as to what the materials are going to cost them and 
have costed out what their time factor is going to cost them. 
Then continually having to rebuy either upgrades to it or new 
packages periodically all the time because of the ever-changing 
mode. What happens is--I mean--the one that they bought if they 
have to depreciate over 3 years is useless after less than 1 
year, yet they're still expensing it out. It should be just 
made a consumable product the same as the way we go and buy 
paper--copy paper or----
    Chairman Johnson of Connecticut. We do have proposals 
before the Ways and Means Committee to reduce the depreciation 
time for software. But what you're saying is that it should 
just be expensed as a business expense each year.
    Mr. Olandt. That's my opinion and most of my clients. Many 
of them probably----
    Chairman Johnson of Connecticut. What about the expensing 
limit? What level do we need to--what level would be useful for 
most small businesses so that the Tax Code wouldn't drive the 
decision as to whether to buy the equipment this year or a few 
months later?
    Mr. Olandt. Well, the $18,500 that came into this year--I 
mean, it's just not sufficient. You take a person that buys a--
I have a couple of clients that have a lawn mowing business. 
They are actually spending for a good high-powered seat big 
lawnmower that can cost him anywhere from close to $30,000. So 
they're saving that money to put out and then they don't have a 
lot of money to cover the taxes on what they can't write off 
for that. It would also encourage a lot of other people that 
would go into business because they're saving to make this 
investment. But they have to be careful because if they spend 
everything into their business, they have no money at the end 
of the year. They actually get taxed on some of that money 
they've already spent. It's extremely hard for the small 
business and the person to make a go.
    Mr. Steve Bafundo. If I could, on the software issue. One 
of the requirements of our appearance before this Subcommittee 
is that we came up with software--or our testimony--written in 
WordPerfect 5.1. Well, we had a heck of a time finding 
WordPerfect 5.1. It's about three or four generations back. 
Thank God I have a neighbor that's a packrat that saved his old 
version of it. So if you want to see how quickly things are 
moving, you only have to look at this Committee itself and take 
a look at how quickly software becomes obsolete.
    Chairman Johnson of Connecticut. That's very interesting 
because we reversed our order this year for this hearing and 
had the practitioners come before some of the organized groups. 
That really is wonderful--I mean, that's a perfect example of 
some--of just a small corner of the difficulties.
    Mr. Anthony Bafundo. One other thing they ought to 
eliminate is the--they have a lower alternative minimum tax 
threshold on the kiddie tax. I have one guy that has nine 
children under 14 and takes me about 6 or 7 hours to do those 
returns. The----
    Chairman Johnson of Connecticut. Just for the kiddie tax 
portion?
    Mr. Anthony Bafundo. No, there's a $1,000--I think it's 
gone up to about 15 now--$1,500.
    Chairman Johnson of Connecticut. Yes.
    Mr. Anthony Bafundo. It's gone up to $1,500. There's only a 
$1,500 limitation on alternative minimum tax for children under 
14 years alone--14 years of age. This guy has nine children 
under 14 who have income. It takes me 5 or 6 hours to do that 
tax return. It's unbelievable. I don't understand why they did 
that. I guess they did that because the children are paying at 
the parent's rate on the regular tax. But when you get to the 
alternative minimum, they end up paying more tax on the 
alternative minimum tax than they would on the regular tax 
because the low----
    Chairman Johnson of Connecticut. You mean the children do?
    Mr. Anthony Bafundo. The children, yes.
    Chairman Johnson of Connecticut. That's a very good point.
    Mr. Anthony Bafundo. Because of the low--it's only a $1,500 
exemption as opposed to $45,000 and so forth that you get on 
the regular AMT.
    Chairman Johnson of Connecticut. What level of expensing 
would you recommend given your experience with small 
businesses?
    Mr. Anthony Bafundo. Well they're taxing the child at the 
parent's rate anyway. So I would say--I would raise the limit 
to around $5,000--the AMT.
    Chairman Johnson of Connecticut. Under the AMT, the limit 
for child deductions to $5,000?
    Mr. Anthony Bafundo. Yes.
    Chairman Johnson of Connecticut. And what about----
    Mr. Anthony Bafundo. It's now $1,500.
    Chairman Johnson of Connecticut. What about expensing for 
small businesses? Would separate startup costs from annual 
expensing limits? If so, what would they be? Because we do also 
have proposals for a separate start-off--startup cost 
deductions. I'm reluctant to get into the complexity of 
differentiating between startup costs and----
    Mr. Anthony Bafundo. Yes, right.
    Chairman Johnson of Connecticut [continuing]. Other year 
costs. But, for instance, what is a usable level of expensing? 
What would be good to help small businesses grow in terms of 
expensing level?
    Mr. Anthony Bafundo. Well, I would say that they--I would 
say 10,000 to 20,000--somewhere in that area would probably--
for somebody to start up a business. I don't know what you're 
considering a startup cost. That's the other question----
    Chairman Johnson of Connecticut. But what about on an 
annual----
    Mr. Anthony Bafundo. You're talking about buying 
equipment--equipment, of course, you have the $18,500 anyway.
    Chairman Johnson of Connecticut. What about on an annual 
basis? What would be a good expensing level to allow?
    Mr. Anthony Bafundo. For startup costs?
    Chairman Johnson of Connecticut. No, just regular, every 
year--annual?
    Mr. Anthony Bafundo. From the AMT?
    Chairman Johnson of Connecticut. No, just regular tax 
expensing level.
    Mr. Anthony Bafundo. Oh, you're talking about section 179?
    Chairman Johnson of Connecticut. Yes.
    Mr. Anthony Bafundo. I'm not quite sure what you're 
referring to.
    Chairman Johnson of Connecticut. Yes, right, sorry. That's 
exactly----
    Mr. Anthony Bafundo. Oh, OK. I would say $30,000 would be.
    Chairman Johnson of Connecticut. How about the rest of you?
    Mr. Evanich. I was going to say my suggestion would be 
first--get to the $25,000 or $30,000 as quickly as possible. 
Second, that $200,000 limit is really a secondary problem. But 
in addition, if a person is involved in more than one business, 
not only does each business have that limitation--$18,500 right 
now, but the individual also has an overall limitation. So if I 
own two businesses, those businesses in aggregate can only have 
$18,500 of expenses. So I can't spend $18,500 on each of those 
businesses.
    Chairman Johnson of Connecticut. So it should be business 
specific, not tax specific?
    Mr. Anthony Bafundo. For businesses it should be, rather 
than limited per individual.
    Mr. Olandt. Personally, I'd like to see it go a little 
higher, Madam Chairperson, to approximately about $50,000. 
Equipment is so expensive today for the small business person. 
Again, like I said I have people that have--do lawn care and 
their lawnmowers, their tractors that they must use for the big 
jobs that they take on are not cheap. They're extremely 
expensive. It's not just them. A person that's doing 
snowplowing--that buys the truck and the plow and the 
attachments to it--$25,000 may sound like a lot but when you 
talk--if you're just starting out and you have to put some 
office equipment, then office equipment I'm including copy 
machines, fax machines, and computer. Also, the regular 
equipment to run your business. That $25,000 is eaten up quite 
quickly. I'd really like to see for the small business men it 
go a little higher.
    Chairman Johnson of Connecticut. If there are no further 
questions, we'll move onto the other panel. I thank the 
witnesses very much for your input. We are going to have a vote 
fairly soon, so I want to move on to the other panel. But thank 
you very much. As you have other thoughts, please feel free to 
share them with us. I thank you for the specificness of your 
testimony--that was very helpful.
    Robert McIntyre, director of Citizens for Tax Justice; 
Michael Mares, American Institute of Certified Public 
Accountants; and Robert Weinberger, vice president of H&R 
Block. Thank you very much for being with us this afternoon. 
We'll start right in so that we can at least get most of the 
testimony in before we have to vote.
    Mr. McIntyre.

  STATEMENT OF ROBERT S. MCINTYRE, DIRECTOR, CITIZENS FOR TAX 
                            JUSTICE

    Mr. McIntyre. Thank you, Madam Chairman--or Chairman, or 
whatever we say these days. It's great to be after the 
Connecticut panel. My wife of 27 years was born in Connecticut, 
so it must be a great State--right?
    It's also nice to hear you guys talking about tax 
simplification. We've been pushing the idea of a fairer and 
simpler tax system for years. Of course, given recent history, 
it's possible that you'll be striking fear into the hearts of 
most taxpayers just bringing up the word simplification, since 
it often means something rather different than that when the 
rubber hits the road.
     If we were having a comprehensive hearing about dealing 
with complexity in the Tax Code, I'm sure we would be talking 
about the hundreds of billions of dollars of special provisions 
in the Code now that are largely responsible for why we have 
all this complexity. But I want to focus today--in my brief 
time--on one item that didn't sound complex when it was first 
proposed, but has become one of the most complicated provisions 
in the Tax Code for average taxpayers--and that's last year's 
enacted child credit.
    You remember when things started, it was just going to be 
$500 per kid for everybody. What could be simpler than that? 
But then some people said, Well, you know, we really shouldn't 
be giving this to high-income people. They don't need the 
money. Some other people said Well, we probably shouldn't be 
giving this to low-income people because the Congress does need 
the money to do other things. Then other people said Well, if 
we're going to give this allowance as a tax credit, we want to 
make sure it doesn't reduce people's taxes down too low. After 
all, that's not a good idea--at least not for people with 
significant incomes. So, you ended up with a tax credit 
worksheet that I think is going to look a lot like what I've 
got up here in this poster.
    You are going to spend the first third of the form--like 
you do with the dependent care credit now--finding out if these 
credits will take you down below what you'd owe under the 
alternative minimum tax. To figure that out, you'll have to 
compute the alternative minimum tax in many cases.
    So we're going to have 27 to 28 million families faced with 
the possibility of filling out the minimum tax form just to 
determine whether they are allowed to take the new $500 child 
credit. Not all of them will have to fill out the whole thing. 
Some will be able to stop after awhile, but they'll be facing 
one of the most complex forms in the Tax Code for the first 
time--thanks to the legislation adopted last year.
    Now once you get by the minimum tax--and by the way that 
provision actually affects only about half a million out of the 
28 million people who will get the child credit, but of those 
28 million, many million will have to fill it out----
    Chairman Johnson of Connecticut. Excuse me, you mean the 
refundable part of it only----
    Mr. McIntyre. No, we haven't got to the refundable part 
yet--we're doing nonrefundable. We're working our way down this 
form to the refundable section. Part 1 deals with the 
nonrefundable part of the credit and that's where the 
alternative minimum tax comes into play. If the credit turns 
out to be refundable, which it is for larger families, then you 
don't have to worry as much about the alternative minimum tax, 
although there can be interactions where it will become part of 
your calculation.
    Once you have determined the nonrefundable issues which 
involve the alternative minimum tax, then you have to write 
down all of your different tax credits separated out between 
nonrefundable, personal credits and the other kinds of credits 
that are nonrefundable, but aren't called nonrefundable for 
purposes of section 26 of the Tax Code and the alternative 
minimum tax. That's largely the foreign tax credit, which 
involves people who get a dividend from a foreign corporation 
or something like that, although there are certain business 
credits that fall into this category.
    Having listed those credits in separate baskets, you then 
go on to start computing. Of course, it depends whether you 
have two kids or three which route you will take on the form. 
If you have three children or more, you may find the credit is 
refundable but you then need to calculate the sum of your 
income tax limit in the earlier section plus your FICA taxes 
minus the earned income tax credit, and other credits that you 
didn't deduct before in computing the other limit. If that 
turns out to be bigger than your limit under the first 
calculation, which is the nonrefundable limit, that portion may 
be refundable to you. Therefore you can get your taxes down in 
some cases quite low.
    On the other hand, at least as adopted in the 1997 bill, 
there's been some technical corrections proposed which have not 
yet been adopted which are different, if you would fall into 
the nonrefundable situation, but that limit, because of a 
foreign tax credit, is greater than your limit as computed 
under the refundability portion which normally would not apply 
to you as a family with only two children or less, you may find 
part of the credit to be refundable. At least that's the 
statute that was passed.
    So I'm figuring that this probably--and I'll be filling out 
this credit form next year--is even more complicated than last 
year's new capital gains form. It's also going to be filled out 
by a lot more taxpayers.
    Most of these complex things were enacted with good 
intentions--most of them, not all of them. I think the so-
called supplemental credit was put in for some mean-spirited 
reasons. But most of it was done for ostensibly good reasons. 
Yet all this complexity turns out not to amount to much except 
as complexity, and probably could be dispensed with to a large 
degree--if you treated simplification as an important item on 
the agenda. I hope you do. I hope that as you move forward to 
deal with other tax legislation, that you also hire somebody on 
the Joint Tax Committee as the Tax Simplification Monitor and 
find out what these tax forms are going to look like before you 
pass another piece of legislation that turns out to be as 
monstrous as this one has turned out to be. Thank you.
    [The prepared statement follows. The attachments are being 
retained in the Committee files.]

Statement of Robert S. McIntyre, Director, Citizens for Tax Justice

    Today's topic before the Subcommittee is tax complexity. A 
comprehensive discussion of this issue would, by necessity, 
address the hundreds of billions of dollars worth of provisions 
that have been put into the tax code for reasons extraneous to 
fair and efficient tax collection--generally to encourage 
behavioral changes or simply to reward certain activities or 
taxpayers. As long-time advocates of a simpler, fairer tax 
system, we at Citizens for Tax Justice have written and 
testified extensively on this topic. See, for example, The 
Hidden Entitlements (1996), available from our office or at our 
web site, www.ctj.org.
    Today, however, I want to limit my remarks to a discussion 
of the rather extraordinary complexity introduced by one, 
seemingly innocuous new tax provision: the $500 per child tax 
credit adopted in the 1997 Taxpayer Relief Act.

           The $500 Child Credit: A Case Study in Complexity

    The new child tax credit provision of the tax law had its 
genesis in the notion that every family in America should get a 
$500 allowance for each of their children. But other 
considerations quickly emerged.
    Some people didn't think that such an allowance made much 
sense for well-off families. Others argued that it shouldn't go 
to lower-income families either (in part based on cost 
considerations). And because the $500 allowance was conceived 
from the beginning as a tax credit--apparently so it could be 
described as a (praiseworthy) tax cut rather than a (wicked) 
spending increase--many worried about excusing large families 
with significant incomes from paying any income tax at all.
    As a result of all these conflicting goals, we now have a 
child tax credit that will require potentially qualifying 
taxpayers to fill out not only a new child-credit tax form, but 
also an extremely complicated new worksheet and in some cases 
the Alternative Minimum Tax form--a combination often even more 
complex than the much-bemoaned new capital gains tax 
calculation form also mandated by the 1997 tax act.
    The new child credit form itself will probably not be 
hugely complex, and I will not dwell on it here. Essentially, 
the new form will require taxpayers to list and count their 
children age 16 and under, multiply that amount by $500 ($400 
for tax year 1998) and, if necessary, apply the income phase-
out rules at higher income levels.
    The real complexity of the new child credit arises when it 
comes to the ``worksheet'' that must be completed to calculate 
various other limits on the credit and to determine whether it 
is refundable or non-refundable. In broad strokes, this 
worksheet is designed (1) so that the credit cannot reduce tax 
liability below what would be owed under the Alternative 
Minimum Tax for families with one or two children, and (2) for 
larger families, so the credit cannot exceed combined income 
and FICA tax liability less the earned-income tax credit.
    I have devised an example of a new child credit limit 
worksheet, based on the statutory goals it must accomplish. The 
new worksheet can be combined with the old 10-line credit-limit 
worksheet for the dependent care credit, with the addition of 
18 new lines. I've attached a representation of such a new 
worksheet, along with several examples of filled-income 
worksheets by taxpayers in different situations.
    Here is a brief line-by-line explanation of what taxpayers 
will face in completing the new child credit (and dependent 
care credit) limit worksheet:
    Lines 1-11 of the new worksheet are based on the design of 
the current dependent care credit limit worksheet. The purpose 
is to limit certain non-refundable tax credits, mainly the 
dependent care credit and the new child credit, so that they do 
not reduce tax liability below what would be owed under the 
Alternative Minimum Tax (AMT). To calculate their credit 
limits, taxpayers claiming the dependent care credit and/or the 
$500 child credit must fill out either the complex AMT form (a 
copy is attached) or in some cases a shortened version of the 
AMT computation provided on the credit limit worksheet itself.
    Because of its fairly large exemption--$45,000 for couples 
and $33,750 for unmarrieds--the AMT doesn't actually affect 
many child credit claimants (even if they do have to fill out 
the form). But some middle-income couples with lots of children 
may find that the AMT can limit the amount of dependent care 
credit and child credit they're allowed to take--although 
generally only because their taxes are very, very low. The 
effects of this rule on the $500 child credit, however, are 
substantially mitigated by the refundable rule for families 
with more than two children. See example 7.
    Lines 12-14 of the new worksheet list other non-refundable 
credits that come into play in calculating the limits on the 
$500 child credit. It should be noted that the foreign tax 
credit and certain business credits are treated differently 
than other non-refundable credits in calculating the limit on 
the $500 child credit for families with one or two children. In 
effect, some families who have these kinds of credits may be 
eligible for a partially or fully refundable child credit, 
while families with similar amounts of other types of non-
refundable credits would not be eligible for a refundable child 
credit. See example 6. One rationale for special treatment of 
the foreign tax credit may be the principle that we do not 
intend to tax foreign income twice.\1\
---------------------------------------------------------------------------
    \1\ Different technical corrections included in the pending House 
and Senate IRS restructuring bills rewrite this refundability rule, and 
appear to make it inoperative for families with fewer than three 
children and largely meaningless, albeit still quite complicated, for 
larger families.
---------------------------------------------------------------------------
    Oddly, for families with 3 or more children, it is 
sometimes advisable not to claim an otherwise claimable foreign 
tax credit or business credit, because these credits do affect 
refundability of the $500 child credit under the alternative 
limit calculation (limit B). Not many taxpayers take the 
foreign tax credit, but for those who do, making this 
determination will probably require professional assistance. 
See example 4.
    Lines 15-20 compute the $500 child credit under limit B, 
which can generate a refundable credit. For families with three 
or more children, the portion of the credit that is refundable 
is equal to the excess of the sum of the regular non-refundable 
credit limit and FICA taxes, less the earned-income tax credit, 
over credit limit A (see below). Although generally, these 
calculations are applicable only to families with three or more 
children, they can also be necessary for taxpayers with one or 
two children who also have foreign tax credits or certain 
business credits.\2\
---------------------------------------------------------------------------
    \2\ See footnote 1.
---------------------------------------------------------------------------
    Line 21 calculates the $500 child credit under limit A. 
Under this limit, the child credit cannot reduce taxes (after 
other non-refundable credits, such as the dependent care 
credit) below what would be owed under the Alternative Minimum 
Tax. The credit computed under limit A is generally a non-
refundable credit, but if the limit calculated here is bigger 
than the amount computed under limit B, then the excess will be 
refundable. Generally, this only affects taxpayers with foreign 
tax credits. See example 6.\3\
---------------------------------------------------------------------------
    \3\ See footnote 1.
---------------------------------------------------------------------------
    Lines 22-26 get to the final child tax credit, parsing it 
between non-refundable and refundable portions. This 
distinction does not always matter, but often will, especially 
for families with large numbers of children.

            Lessons from the Complexity of the Child Credit

    So there we have it. An apparently simple idea--to give 
every family $500 for each child--has been transformed into one 
of the more complicated items in the tax code from the point of 
view of affected tax filers.
    What can we learn from this? For one thing, it illustrates 
the danger, even folly, of trying to implement non-tax policies 
through the tax code. Our instinctive insistence that tax laws 
be fair makes it difficult to use the tax code for non-tax 
policy purposes without adding much more complexity than a 
direct spending program would typically entail. Similar 
criticisms, of course, can be leveled at many other tax-based 
spending programs, including many adopted in last year's tax 
act.
    Of course, even a tax code that is limited as much as 
possible to the goal of collecting enough revenue to pay for 
government programs fairly and efficiently will have some 
complexity. Business taxation, in particular, will always be 
complicated, both because of the inherent complexity of 
business itself and because overly simple rules can often be 
gamed by aggressive taxpayers. Tax proposals that pretend 
otherwise, such as the flat tax, are frauds.
    But we can and should make our tax laws much simpler than 
they are today for the vast majority of taxpayers. Indeed, the 
tax code after the Tax Reform Act of 1986 was far simpler for 
most people than it had been. It is only in recent years that a 
bipartisan coalition of tax complexifiers has moved us so far 
away from the principle of tax simplicity.
    Tax simplification, does not, by the way, require 
compromising progressivity. On the contrary, those who promote 
radical tax redistribution proposals like the flat tax or a 
national sales tax get in the way of true simplification. It's 
not just that these half-baked proposals are actually far more 
complex than advertised. More important, middle-and low-income 
voters are not likely to tolerate paying a much larger share of 
the tax burden than they do now in the name of simplicity (as 
the single rate plans would necessarily require). The recent, 
widely criticized House vote to abolish the tax code without 
naming a replacement illustrates the widespread understanding 
by members of Congress of the politically disastrous nature of 
these flat-rate proposals.
    Although recent history makes one wary, the right kind of 
comprehensive, progressive tax reform remains an excellent 
idea. Proposals like Representative Gephardt's plan show that 
it is at least theoretically possible. In the meantime, members 
of the tax-writing committees ought to focus more on using the 
tax code for its primary purpose of raising revenue fairly, 
rather than as a tool of economic and social policy. Or if 
that's a pipe dream in the short run, then what Congress 
wrought in enacting last year's child credit should at least 
encourage taxwriters to pay a lot more attention to complexity 
issues when they pass tax laws.
      

                                

    Chairman Johnson of Connecticut. Thank you, Mr. McIntyre. 
Just for the record, you probably are aware that in the IRS 
reform bill, we do include in the Conference Committee, as we 
write tax legislation a member of the IRS--a tax expert from 
the IRS--so that we can try to avoid this kind of problem in 
the future to a far greater extent than we have in the past. 
There's a famous story about 2 lines of pension law that result 
in 1,000 pages of regulations. So I am very interested to--I 
was not aware that the child credit had resulted in such 
extraordinary complexity. In the testimony of the earlier 
panel, it's very clear that reverberations on this are families 
through the alternative minimum tax mechanism. I'd like to 
recognize Michael Mares from the American Institute of 
Certified Public Accountants.

  STATEMENT OF MICHAEL MARES, CHAIR, TAX EXECUTIVE COMMITTEE, 
       AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS

    Mr. Mares. Thank you and good afternoon, Madam Chair and 
Members of this distinguished Subcommittee.
    The AICPA has long been an advocate of tax simplification. 
Tax law complexity helps create perceptions of unfairness, 
difficulty of administering the laws, it increases compliance 
cost, and it interferes with economic transaction decisions. 
The end result of this is an erosion of voluntary compliance. 
To maintain a voluntary tax system that's viable, 
simplification must have a prominent position in the tax 
process. Although it should not necessarily take precedence 
over revenue and tax policy objectives. While a tax system that 
is simple for all taxpayers may never be designed, 
simplification must be an integral part of the system both from 
the legislative and regulatory process, as well as from the 
administrative process.
    We believe at least four elements are necessary to create a 
simpler tax system--both through new legislative proposals and 
a review of existing law. First, there must be a visible 
constituency. That constituency must communicate the need for 
simplification to Congress and to the administration. Next, 
guiding principles for tax simplification must be identified 
followed by factors that contribute to complexity must also be 
identified. Finally, simplification must be considered at all 
stages of the process. I will spend the rest of my time 
discussing specific areas of complexity, particularly the 
alternative minimum tax, or AMT.
    The AMT is one of the most complex parts of our tax system. 
Among its numerous complexities is the maintenance of a number 
of supplementary schedules for many years to allow the 
computation of future AMT items as the adjustments and 
preferences turn around. This complexity also calls into 
serious question the ability of the IRS to audit compliance 
with the AMT. Unfortunately several items enacted in the 
Taxpayer Relief Act of 1997 will have a dramatic impact on the 
number of individuals who will find themselves shifting to the 
alternative tax system. Many of these have been previously 
discussed in prior testimony. For many this will be a shock and 
in all likelihood will cause further problems for the IRS, 
which will have to dedicate significant resources to ensure 
compliance, educate taxpayers, and handle taxpayers' questions.
    We wish we had the answer to the problem, but we recognize 
there is no simple solution given the likely revenue loss to 
the government. As a start, however, Congress should consider 
first, indexing the AMT brackets and exemption amounts. Then 
allowing some or all of an individual's itemized deductions and 
personal exemptions as adjustments to regular taxable income in 
arriving at AMT. Third, Congress could eliminate many of the 
AMT preferences by reducing for all taxpayers the regular tax 
benefits of some AMT preferences. For example, extending 
regular depreciable lives.
    Next Congress should consider allowing certain regular tax 
credit against AMT such as the child credit, or the education 
credit as had been mentioned earlier. Providing an exemption 
for AMT for low- and middle-income tax payers with regular, 
taxable adjusted gross income of less than $100,000 would go a 
long way toward alleviating many of the problems discussed. 
Finally, and perhaps most importantly, Congress should consider 
the impact of alternative minimum tax on all future tax 
legislation.
    Due to the increasing complexity, compliance problems and a 
perceived lack of fairness toward the intended target, an 
additional alternative Congress might also want to consider is 
repealing the individual AMT altogether. Hidden tax breaks are 
another result of the complexity added to our tax laws over the 
past decade. The phaseouts of itemized deductions, personal 
exemptions, IRA deductions are examples of provisions which 
increase the effective tax rate individuals pay. Since married 
filing separate taxpayers are denied many deductions outright, 
their effective tax rate is even higher. Instead of a 
straightforward tax rate increase, Congress has used back-door 
approaches such as phaseouts and limitations to raise the 
effective tax rate on high-income individuals.
    Under section 179, taxpayers may elect to treat the cost of 
certain qualified property as an expense rather than a capital 
asset. For each dollar of section 179 expense--in excess of the 
$200,000 cap--the maximum amount of deduction will be reduced 
by each dollar. Since the maximum deductible amount is being 
increased from $17,525, we believe the $200,000 cap should also 
be raised incrementally to be consistent. It also is equitable. 
It would also assist small businesses to take advantage of this 
particular election.
    In today's world, one piece of machinery or even several 
pieces of machinery can easily exceed this limit. We would be 
happy to work with you on any specific proposals as this 
Congress moves forward in this complex area that deserves 
careful analysis and consideration. We thank you for this 
opportunity to present our comments and suggestions on 
simplifying the tax law. I will be happy to answer any 
questions you may have.
    [The prepared statement and attachment follow. Additional 
attachments are being retained in the Committee files.]

Statement of Michael Mares, Chair, Tax Executive Committee, American 
Institute of Certified Public Accountants

                              Introduction

    Good morning, Madam Chair, and members of this 
distinguished Subcommittee. We appreciate this opportunity to 
testify today on simplification, individual alternative minimum 
tax (AMT), tax rates and phase-outs. I am Michael Mares, Chair 
of the Tax Executive Committee of the American Institute of 
Certified Public Accountants (AICPA). The AICPA is the national 
professional organization of CPAs, with more than 331,000 
members. Many of our members are tax practitioners who, 
collectively, prepare income tax returns for millions of 
Americans.

                             Simplification

    The AICPA has long been an advocate of simplification of 
the tax system. The complexity of our tax law has reached the 
point where many taxpayers and practitioners believe that it is 
undermining voluntary compliance. Frequent change, the lack of 
deliberation in the legislative process, and the increasing 
magnitude and complexity of the Internal Revenue Code are our 
principal concerns. The following significant problems result 
from existing tax complexity:
     Perceptions of unfairness. The lax law is 
perceived by many as unfair.
     Difficulty of administration. It is difficult for 
the Internal Revenue Service to administer the tax law.
     Compliance costs. The cost of compliance for all 
taxpayers is increased. Of particular concern are the many 
taxpayers, especially those with unsophisticated financial 
affairs who are forced to seek professional tax return-
preparation assistance.
     Interference with economic transactions. 
Complexity interferes with economic decision making.
    The end result is erosion of voluntary compliance. 
Taxpayers and tax practitioners simply find it harder to 
understand and comply with the tax law.
    To maintain a viable voluntary tax system, simplification 
must have a prominent position in the tax process, although it 
should not take precedence over revenue and tax policy 
objectives. While a tax system that is simple for all taxpayers 
may never be designed, simplification must be an integral part 
of the tax legislative, regulatory, and administrative process.

What is Needed

    At least four elements are necessary to create a simpler 
tax system, both through new legislative proposals and a review 
of existing tax law:
     A visible constituency must communicate the need 
for simplification to Congress and the Administration.
     Guiding principles for tax simplification must be 
identified.
     Factors that contribute to complexity must be 
identified. This will lead to development of a framework for 
analyzing the balance among equity, policy, revenue, and 
simplification objectives.
     Simplification must be considered at all stages of 
the legislative process. The process itself must provide 
thorough consideration of tax proposals, including 
simplification issues.

Guiding Principles and Factors that Result in Complexity

    We believe the guiding principles in pursing a simpler tax 
law are:
     The legislative process should consider the 
objectives of equity, efficiency and revenue needs, balancing 
them with simplification.
     Once tax policy objectives have been identified, 
alternative approaches to implementing the policy should be 
considered to provide the simplest possible design and 
administration.
     The long-term benefit of any change made to 
simplify the tax law should more than offset any transitory 
complexity that results by a change.
     The law and regulations should be drafted within a 
rational, consistent framework.
     There should be a balance between simple general 
rules and more complex detailed rules.
     The benefit of a provision should be weighed 
against the cost of compliance.
     Tax rules should build on common industry record 
keeping and business practices.
    We also must recognize that the following factors create 
complexity:
     The effects of change;
     Subjectivity;
     Lack of consistent concepts;
     Structural complexity;
     The effect on taxpayers not targeted by a 
particular provision;
     Forms;
     Administrative issues;
     Transactional application and business dynamics;
     Diffusion of responsibility;
     Inconsistent application of rules; and
     The legislative process.
    One approach to evaluating these factors is the use of the 
attached complexity index. Assistance in evaluating a 
proposal's contribution to simplification or complexity is 
needed. There must be a framework for considering tax 
legislative proposals. It is not sufficient to merely develop 
tools for measuring a proposal's effect on the complexity of 
the law. Procedures should be adopted to ensure that the tools 
are used and that the information obtained is formally 
considered in the process.
    The AICPA has drafted and proposed many simplification 
proposals targeting specific areas of the tax law, including 
AMT, phase-outs, and rates, which are covered in our testimony. 
In addition, we have drafted individual tax simplification 
proposals for: the earned income tax credit, capital gains tax, 
estimated tax safe harbor, kiddie tax, education IRAs, 
underpayments, charitable contributions, mileage allowance, 
domestic relations, and interest expense; as well as various 
small business tax simplification proposals for: section 179 
expensing, self-employed health insurance premium deduction, 
employee versus independent contractor, and the half-year 
requirements. We have included these proposals at the end of 
our testimony. Please feel free to review the attached 
proposals for further details on these issues.

                           Background on AMT

    Our tax laws give special treatment to certain types of 
income and allow special deductions for certain expenses. These 
laws enable some taxpayers with substantial economic income to 
significantly reduce or eliminate their regular tax. The 
purpose of the AMT is to ensure that these taxpayers pay a 
minimum amount of tax on their economic income.

                           Complexity of AMT

    The AMT is one of the most complex parts of the tax system. 
Each of the adjustments of Internal Revenue Code (IRC) section 
56, and preferences of IRC section 57, requires computation of 
the income or expense item under the separate AMT system. The 
supplementary schedules used to compute many of the necessary 
adjustments and preferences must be maintained for many years 
to allow the computation of future AMT as items ``turn 
around.''
    Generally, the fact that AMT cannot always be calculated 
directly from information on the tax return makes the 
computation extremely difficult for taxpayers preparing their 
own returns. This complexity also calls into question the 
ability of the Internal Revenue Service (IRS) to audit 
compliance with the AMT. The inclusion of adjustments and 
preferences from ``pass through'' entities also contributes to 
the complexity of the AMT system.

   Effects of the Taxpayer Relief Act of 1997 and AMT on Individual 
                               Taxpayers

    Several items enacted in the Taxpayer Relief Act of 1997 
will have a dramatic impact on the number of individuals who 
will find themselves shifting to the alternative minimum tax 
(AMT) system in addition to being subject to tax under the 
regular tax system. For many, this will come as a real surprise 
and, in all likelihood, will cause substantial problems for the 
IRS, which will have to redirect significant resources to this 
area in the future to ensure compliance, educate taxpayers, and 
handle taxpayer questions.
    In fact, John Scholz, Deputy Assistant Secretary in the 
Treasury Tax Policy Analysis Office, has stated that the number 
of taxpayers subject to the AMT (which is currently less than 
one percent) is expected to escalate 30 percent a year for at 
least ten years. He noted that the trend will mean eight 
percent of United States taxpayers, or 11 million individuals, 
will be subject to AMT by 2007. One point to keep in mind--11 
million individuals will actually have to pay the AMT, how many 
million more will have to fill out the complex Form 6251 to 
show they do not owe it?
    Most sophisticated taxpayers understand that there is an 
alternative tax system, and that they may sometimes wind up in 
its clutches; unsophisticated taxpayers may never have even 
heard of the AMT, certainly do not understand it, and do not 
expect to ever have to worry about it. Unfortunately, that is 
changing--and fairly rapidly--since a number of the more 
popular items, such as the education and child credits that 
were recently enacted, offset only regular tax and not AMT. Due 
to these changes, we believe it is most important that Congress 
obtain information (from Treasury, the Joint Committee on 
Taxation staff, or OMB) not only as to the revenue impact of 
the interaction of all these recent tax changes with the AMT, 
but also of the likely number of families or individuals that 
will be paying AMT as a result of 1997's tax legislation.
    Specifically, taxpayers' situations will be exacerbated by 
the following.
    1. The child tax credit is not available against the AMT. 
Thus, middle-income taxpayers will see their regular tax go 
down by $500 or more (depending upon the number of dependent 
children), but their AMT potential liability will not be 
reduced at all.
    2. Under the Hope tuition tax credit, middle-income 
families receive up to a $1,500 credit, per eligible student, 
for regular tax purposes, though none of the credit is 
available against AMT. The same is true of the Lifetime 
Learning Credit, with a maximum $1,000 credit through 2002, and 
$2,000 credit thereafter. These credits alone will generate a 
substantial number of new AMT filers. With one or more children 
in college and others at home under 17 years of age, the result 
is a large group of taxpayers who would, under no 
circumstances, be considered rich, but who will now be paying 
the alternative minimum tax.
    For example, a couple with a teenage child ($400 child care 
credit), a child in the first year of college ($1,500 Hope 
Scholarship Credit), and a child in the last year of college 
($1,000 Lifetime Learning Credit), with total earnings of 
$65,000; $3,000 of interest and dividends; $500 each IRA 
deductions; a standard deduction of $7,100 and $13,500 of 
personal exemptions would have a net regular tax liability of 
$4,587 ($7,487 tax, less $2,900 credits), but because of AMT 
would lose the benefit of $1,133 of those credits. (See the 
attached Appendix E for further details.)
    Another example (also in Appendix E) is a head of household 
taxpayer, earning $45,000; with $500 interest and dividends; a 
$750 IRA deduction; $6,250 of standard deduction, and $8,100 of 
personal exemptions for herself, one child with a $1,500 Hope 
Scholarship Credit and one child with a $1,000 Lifetime 
Learning Credit. This taxpayer loses $800 of credits due to the 
AMT.

                Indexing the AMT Brackets and Exemption

    While the AICPA has not undertaken detailed studies, 
anecdotal examples (such as those in our attached Appendix E) 
indicate the likelihood that taxpayers with adjusted gross 
incomes in the $60,000-$70,000 range (or below) will be subject 
to AMT. Aside from the fairness issues involved--this is not 
the group that the AMT has ever been targeted to hit--we see 
some potentially serious problems of compliance and 
administration. Many of these taxpayers have no idea that they 
may be subject to the AMT (if, indeed, they are even aware that 
there is an AMT). Thus, we anticipate large numbers of 
taxpayers not filling out a Form 6251 or paying the AMT who may 
be required to do so, thus requiring extra enforcement efforts 
on the part of the IRS to make these individuals (most of whom 
will be filing in absolute good faith) aware of their added tax 
obligations. Further, IRS notices to these taxpayers assessing 
the proper AMT may well be perceived as unfair, subjecting the 
IRS to unfair criticism that should be directed elsewhere.

                     Individual AMT Recommendations

    We wish we had ``the'' answer to the problem, but recognize 
there is no simple solution given the likely revenue loss to 
the government. As a start, however, Congress should consider:
     Indexing the AMT brackets and exemption amounts.
     Eliminating itemized deductions and personal 
exemptions as adjustments to regular taxable income in arriving 
at alternative minimum taxable income (AMTI) (e.g., all--or 
possibly a percentage of--itemized deductions would be 
deductible for AMTI purposes).
     Eliminating many of the AMT preferences by 
reducing for all taxpayers the regular tax benefits of AMT 
preferences (e.g., require longer lives for regular tax 
depreciation).
     Allowing certain regular tax credits against AMT 
(e.g., low-income tax credit, tuition tax credits).
     Providing an exemption from AMT for low and 
middle-income taxpayers with regular tax AGI of less than 
$100,000.
     Considering AMT impact in all future tax 
legislation.
    Due to the increasing complexity, compliance problems, and 
a perceived lack of fairness towards the intended target, an 
additional alternative Congress might also want to consider is 
eliminating the individual AMT altogether.

                 Contribution to Simplification of AMT

    The goal of fairness that is the basis for AMT has created 
hardship and complexity for many taxpayers who have not used 
preferences to lower their taxes but have been caught up in 
AMT's attempt to bring fairness. Many of these individuals are 
not aware of these rules and complete their return themselves, 
causing confusion and errors. The 1997 law and the impact of 
inflation on indexed tax brackets and the AMT exemption are 
causing more lower income taxpayers to be inadvertently subject 
to AMT. Recommendation 1 of indexing the AMT brackets and 
exemption would solve this problem.
    Under recommendation 2, those individuals who are affected 
only by itemized deductions and personal exemption adjustments 
would no longer have to compute the AMT. Itemized deductions 
are already reduced by the 3 percent AGI adjustment, 2 percent 
AGI miscellaneous itemized deduction disallowance, 7.5 percent 
AGI medical expense disallowance, $100 and 10 percent AGI 
casualty loss disallowance, and the 50 percent disallowance for 
meals and entertainment. Similarly, the phase out of exemptions 
already affects high income taxpayers. It is also worth noting 
that because state income taxes vary, taxpayers in high income 
tax states may incur AMT solely based on the state in which 
they live, while other taxpayers with the same adjusted gross 
income (AGI), but who live in states with lower or no state 
income taxes, would not pay AMT.
    In addition, under recommendation 3, many of the AMT 
preferences could be eliminated by reducing for all taxpayers 
the regular tax benefits of present law AMT preferences (e.g., 
require longer lives for regular tax depreciation). This would 
add substantial simplification to the Code, recordkeeping and 
tax returns. Under recommendation 4, those who are allowed 
regular tax credits, such as the low income or tuition tax 
credits, would be allowed to decrease their AMT liability by 
the credits. This would increase simplicity and create 
fairness. Compliance would be improved.
    Under recommendation 5, fewer taxpayers will be subject to 
AMT and the associated problems. By increasing the AMT 
exemption to exclude low and middle income taxpayers, the AMT 
will again be aimed at its original target--the high-income 
taxpayer.
    By eliminating AMT altogether, all the individual AMT 
problems would be solved.

                           Conclusion on AMT

    In conclusion, we see AMT as becoming more prevalent and 
causing considerable disillusion to many taxpayers who do not 
see themselves as wealthy and who will believe they are being 
``punished'' unfairly. AMT will apply to many taxpayers it was 
not originally intended to affect. We believe our proposals 
offer a wide range of ways to help reduce this problem.

                            Hidden tax rates

    Hidden tax rates are a result of the complexity added to 
our tax laws over the last decade. The phase-outs of itemized 
deductions, personal exemptions, and IRA deductions are 
examples of hidden rates which add to the effective tax rate 
individuals pay. In addition, the limitation on deductions, 
such as 7.5 percent of AGI for medical expenses, 2 percent of 
AGI for miscellaneous itemized deductions, and 10 percent of 
AGI for casualty losses increases the effective tax rate for 
many individuals. Since married filing separate taxpayers are 
denied many deductions, their effective tax rate is even 
higher. There has been a reluctance by Congress to raise tax 
rates to achieve progressivity. Instead of a straight forward 
rate increase, Congress has used backdoor approaches, such as, 
phase-outs and limitations to raise the effective tax rate on 
high-income individuals. A chart detailing many of the phase-
outs in current law is attached.
    For example, under current law, if an individual's adjusted 
gross income exceeds a certain level, otherwise allowable 
itemized deductions are reduced. Likewise, the personal 
exemption amount for a taxpayer whose adjusted gross income 
exceeds a specified threshold is reduced. The goal of these 
measures is to increase the progressivity of the tax system by 
having high income taxpayers pay a greater tax burden. However, 
the same results could be achieved through adjusting the top 
tax rate. It is our understanding that H.R. 4053, recently 
introduced by Representatives Rangel and Neal, would simplify 
and repeal the phase-outs on itemized deductions and personal 
exemptions, and would replace them with a straight forward rate 
increase. We support such an approach.
    The impact of new or complex tax laws and complicated 
phase-outs must be considered when tax legislation is enacted. 
Congress should actively strive for simplification and 
stability. Tax law complexity originates with the statutes. 
Higher than advertised effective tax rates result from limiting 
provisions throughout the Code to certain taxpayers, instead of 
simply increasing tax rates. Tax law complexity is the result. 
The phase-outs are the clearest example of hidden tax rates, so 
we have concentrated the remainder of our testimony on them.

             Background on Phase-outs Based on Income Level

    Numerous sections in the tax law provide for the phase-out 
of benefits from certain deductions or credits over various 
ranges of income based on various measures of the taxpayer's 
income. There is currently no consistency among these phase-
outs in either the measure of income, the range of income over 
which the phase-outs apply, or the method of applying the 
phase-outs. Furthermore, the ranges for a particular phase-out 
often differ depending on filing status, but even these 
differences are not consistent. For example, the traditional 
IRA deduction phases out over a different range of income for 
single filers than it does for married-joint filers; whereas 
the $25,000 allowance for passive losses from rental activities 
for active participants phases out over the same range of 
income for both single and married-joint filers. Consequently, 
these phase-outs cause inordinate complexity, particularly for 
taxpayers attempting to prepare their tax returns manually; and 
the instructions for applying the phase-outs are of relatively 
little help. See the attached Appendices A and B for a listing 
of most current phase-outs, including their respective income 
measurements, phase-out ranges (for 1998) and phase-out 
methods.
    Currently, many of the phase-out ranges for married-filing-
separate (MFS) taxpayers are 50 percent of the range for 
married-filing-joint (MFJ), while many of the phase-out ranges 
for single and head of household (HOH) taxpayers are 75 percent 
of married-joint. That increases the marriage penalty as the 
spouses' incomes become equal.

                  Recommended Change to the Phase-outs

    Simplicity can be achieved by eliminating phase-outs 
altogether. However, if that is considered either inequitable 
(simplicity is often at odds with equity) or bad tax policy, 
significant simplification can be achieved by providing 
consistency in the measure of income, the range of phase-out 
(including as between filing statuses) and the method of phase-
out.
    Instead of the 20 or so different phase-out ranges (shown 
in attached Appendix C), there should only be three phase-out 
ranges for low, middle, and high income taxpayers.
    If there are revenue concerns, the ranges and percentages 
could be adjusted, so long as the phase-outs for each income 
level group (i.e., low, middle, high income) remained 
consistent for all relevant provisions. In addition, the 
``marriage penalty'' impact should be considered in adjusting 
phase-out ranges for revenue needs.
    We have proposed that, to eliminate the marriage penalty 
and simplify the Code, all phase-out ranges for married-filing-
separate (MFS) taxpayers would be the same as those for single 
and head of household (HOH) taxpayers, which would be 50 
percent of the range for married-filing-joint (MFJ) range.
    The benefits that are specifically targeted to low-income 
taxpayers, such as the earned income credit, elderly credit, 
and dependent care credit, would phase-out under the low-income 
taxpayer phase-out range. The benefits that are targeted not to 
exceed middle income levels, such as the traditional IRA 
deduction and education loan interest expense deduction, would 
phase-out under the middle-income taxpayer phase-out range. 
Likewise, those benefits that are targeted not to exceed high 
income levels, such as the new child credit, new education 
credits and IRA, and the new Roth IRA, as well as the existing 
law AMT exemption, itemized deductions, personal exemptions, 
adoption credit and exclusion, series EE bond exclusion, and 
section 469 $25,000 rental exclusion and credit, would phase-
out under the high-income taxpayer phase-out range. See the 
chart below.
    Additionally, instead of the differing methods of phase-
outs (shown in attached Appendix D), the phase-out methodology 
for all phase-outs would be the same, such that the benefit 
phases out evenly over the phase-out range. Every phase-out 
should be based on adjusted gross income (AGI).

 Proposed Income Level Range for Beginning to End of Phase-Out for Each
                              Filing Status
------------------------------------------------------------------------
                                                  Married
             Category of Taxpayer                  Filing      Single &
                                                   Joint      HOH & MFS
------------------------------------------------------------------------
LOW-INCOME....................................  $15,000-$37
                                                      ,500   $7,500-$18,
                                                                    750
MIDDLE-INCOME.................................  $60,000-$75
                                                      ,000   $30,000-$37
                                                                   ,500
HIGH-INCOME...................................  $225,000-$4
                                                    50,000   $112,500-$2
                                                                 25,000
------------------------------------------------------------------------

              Contribution to Simplification of Phase-outs

    The current law phase-outs complicate tax returns immensely 
and impose marriage penalties. The instructions are difficult 
to understand and the computations often are difficult to do 
manually. The differences among the various phase-out income 
levels are significant. True simplicity could easily be 
accomplished by eliminating phase-outs altogether. However, if 
that is not feasible, for whatever reason, significant 
simplification can be achieved by creating consistency in the 
measure of income, the phase-out range (including as between 
filing statuses) and the phase-out methodology. The phase-outs 
should be eliminated by adjusting rates, or by applying the 
phase-outs to consistent ranges, using a consistent 
methodology. This would ease the compliance burden on many 
individuals. If there were only three ranges to remember and 
only one methodology, it would be a lot simpler and easier to 
recognize when and how a phase-out applies. Many portions of 
numerous Internal Revenue Code sections could be eliminated. By 
making the MFJ phaseout ranges double the ranges applicable to 
single individuals and making the MFS ranges the same as single 
individuals, the marriage penalty attributable to phase-out 
ranges would be eliminated.

                          Expensing Deduction

    Under section 179, taxpayers may elect to treat the cost of 
qualifying property as an expense rather than a capital asset. 
Section 179 will be gradually increased to $25,000 by year 
2003. This section restricts the amount of the election in 
circumstances where the taxpayer places into service qualifying 
property in excess of $200,000. For each dollar of section 179 
property in excess of $200,000, the maximum credit ($18,000 for 
1997) will be reduced by one dollar. We suggest the maximum 
deductible amount is being increased from $17,500 to $25,000. 
The $200,000 limit should also be raised in increments to stay 
even. It would be equitable. Plus, it assists small businesses 
to be able to take advantage of this election. In today's 
world, one piece of machinery or several pieces of equipment 
can easily exceed this limit.

                               Conclusion

    We would be happy to work with you on specific proposals as 
this Congress moves forward in this complex area that deserves 
careful analysis and consideration. The AICPA again thanks you 
for this opportunity to present our comments and suggestions on 
simplifying AMT, tax rates and phase-outs.
      

                                

    Chairman Johnson of Connecticut. Thank you very much. You 
should know that actually the accountants, 2 years ago, 
developed some simplification proposals and brought them around 
to their members. That really is the ground of which this 
hearing grew. I appreciate your input very much, and 
particularly the detail in your testimony.
     Mr. Weinberger.

 STATEMENT OF ROBERT A. WEINBERGER, VICE PRESIDENT, GOVERNMENT 
    RELATIONS, H&R BLOCK; ACCOMPANIED BY ANITA EDWARDS, TAX 
                      PREPARER, H&R BLOCK

    Mr. Weinberger. Thank you, Madam Chair, and Members of the 
Subcommittee. I'm Bob Weinberger, vice president for government 
relations at H&R Block. I'm part of the team that prepared the 
10 simplification suggestions we submitted in 1997 and 1998. 
With me this afternoon is Anita Edwards, from Olney, Maryland, 
who's been an H&R Block tax preparer for the past 22 years and 
who can join me in responding to your questions.
    Just a brief word about H&R Block. We're the Nation's 
largest tax preparation company. At our 8,800 offices 
throughout the country, we handle 15.6 million individual 
returns--which is about 1 out of every 7 received by the IRS. 
That works out to about 36,000 per congressional district. We 
also do over half the electronic returns that practitioners 
filed with the IRS and produce tax software in the form of 
Kiplinger's TaxCut.
    I have four points that I want to stress today before 
addressing particular changes.
    The first is that simplicity is often offset by other 
important objectives for a tax system such as fairness, 
enforceability, economic efficiency and incentives for saving 
and economic growth.
    One brief example is the adoption credit. It is thought 
widely to be good public policy but it adds complexity to the 
Code. It trades off simplicity for a valuable social policy 
goal.
    Second, preparing tax returns is relatively simple for most 
Americans, although recent laws are making returns more 
complex. Complexity is concentrated on high-income and business 
taxpayers. This is a point which I think is important to make 
to give the discussion about complex provisions some context.
    Millions of Americans are below the filing threshold. Of 
the 124 million who do file, about 52 million or 42 percent 
either file a 1040-EZ or a 1040-A form, both of which are 
relatively simple. Twenty-six million of them are able to file 
by a telephone through the IRS TeleFile Program. Over 70 
percent of taxpayers take the standard deduction and do not 
itemize. For these taxpayers, the tax system is still 
relatively simple.
    The burden of complexity focuses on business filers, 
especially on small businesses, on those who are self-employed, 
and on high-income individuals who itemize and have income from 
passive activities or in the form of capital gains, dividends, 
rents, and pension and annuity disbursements.
    While over one-half of taxpayers do use a tax preparer, and 
complexity is certainly one reason, many taxpayers do so 
primarily to expedite their refund, which 70 percent receive, 
or to free more time for family or other pursuits. Many of us 
are capable of changing the oil in our car but find that paying 
someone to do it allows better use of our time.
    That picture may be changing. The Taxpayer Relief Act of 
1997 is a major culprit with complex capital gains and IRA 
changes and new credits with multiple phaseouts, although it 
does simplify taxes on home sales.
    Similarly, the alternative minimum tax, forms now filled 
out by fewer than 1 percent of taxpayers, will be required of 6 
to 8 percent in a decade. Many taxpayers who don't consider 
themselves wealthy but use credits for education, children or 
dependent care may be surprised to find themselves subject to 
the AMT.
    But while these provisions are genuinely complex, they 
still affect a minority of taxpayers, albeit an increasingly 
significant and understandably vocal minority.
    Third, the main reasons for complexity have little to do 
with progressive tax brackets. But they arise from defining 
income, rewarding congressionally favored activities, and 
meeting budget needs. A multirate structure may invite 
complicated tax minimization strategies and activities, but it 
is not a cause of complexity by itself. Most taxpayers simply 
look up their tax in a table or apply a formula.
    There are other reasons for complexity which are in the 
province of the Committee. They involve tailoring or 
personalizing the tax system to individual circumstances. For 
example, the earned income tax credit would be less complex if 
it were less finely tuned to family circumstances. The simplest 
of taxes, a poll tax, which is one-size-fits-all is very 
unfair. So complexity may be a byproduct of achieving other 
goals like personalization that achieves fairness.
    Also, Congress and the administration, for example, have 
increasingly turned to targeted tax cuts, credits and 
deductions as more attractive vehicles for programs than 
traditional spending through government agencies--which again 
adds complexity to the Tax Code.
    Finally, much can be done to simply the Code now even as we 
continue to debate and discuss wholesale reform or replacement.
    We've submitted 10 suggestions to the Committee and 2 have 
been selected for today's discussion. I think they've received 
a fairly adequate discussion so far. I'll be happy to respond 
to questions on them. The points that we were asked to discuss 
are in the supplemental material which I submit for the record. 
They involve expensing computer software and the alternative 
minimum tax.
    We look forward to working with the Subcommittee in making 
the tax system a simpler one and welcome your questions.
    [The prepared statement and attachment follow. Additional 
attachments are being retained in the Committee files.]

Statement of Robert A. Weinberger, Vice President, Government 
Relations, H&R Block

    Madam Chair and Members of the Subcommittee:
    Thank you for the opportunity to discuss tax code 
simplification. I'm Robert Weinberger. I was part of the H&R 
Block team which prepared the ten simplification suggestions 
sent to the Ways & Means Committee and the Treasury Department 
in 1997 and 1998. With me is Anita Edwards from Olney, Maryland 
who has been an H&R Block tax preparer for the past 22 years 
and who can join me in responding to your questions.

                            About H&R Block

    H&R Block, founded in 1955 and headquartered in Kansas 
City, is the nation's largest tax return preparation company. 
Our 8,800 company-owned and franchised offices are located in 
every state. In 1998, we handled 15.6 million individual 
returns, which is about 36,000 per Congressional district and 
one in seven received by IRS. We originate over half the 
electronically-filed returns that the IRS receives from 
practitioners. Over 120,000 individuals take our tax training 
courses annually. Block Financial Corp. develops and markets 
Kiplinger TaxCut tax preparation software with over 1.5 million 
users. Other subsidiaries offer financial products and services 
including mortgage loans.

                               Key Points

    Before addressing the specific proposals, I'd like to make 
four points to put complexity in context:
     First, simplicity is often offset by other 
important objectives, like fairness;
     Second, while preparing tax returns is relatively 
simple for most Americans, recent laws are making returns more 
complex; complexity is concentrated on high-income and business 
taxpayers;
     Third, the main reasons for complexity have little 
to do with progressive tax brackets; they arise from defining 
income, rewarding favored activities, and meeting budget needs; 
and
     Fourth, much can be done to simplify the existing 
code even as we debate wholesale reform or replacement.
    First, simplicity is only one of several goals for a good 
tax system and it is often balanced against other objectives 
such as fairness and progressivity, enforceability, economic 
efficiency, and incentives for savings and economic growth. For 
example, the adoption credit complicates the code but its 
supporters believe it represents the overriding objective of 
good social policy. Similarly, indexing capital gains for 
inflation, which has been proposed but not adopted and which 
Assistant Treasury Secretary Lubick calls ``the mother of all 
complexity,'' has support from many advocates of simplicity 
because they believe not doing so is profoundly unfair. 
Simplicity gets traded off for other goals. What constituency 
there may be for simplification usually melts when revenue is 
needed or attractive changes are offered, however complex.\1\
---------------------------------------------------------------------------
    \1\ Simplicity in tax law is hard to achieve. As Judge Learned Hand 
wrote over a half century ago, ``In my own case, the words of such an 
act as the Income Tax . . . merely dance before my eyes in a 
meaningless procession . . . cross-reference to cross-reference, 
exception upon exception--couched in abstract terms that offer no 
handle to seize hold of--[and] leave in my mind only a confused sense 
of some vitally important, but successfully concealed, purport, which 
it is my duty to extract, but which is in my power, if at all, only 
after the most inordinate expenditure of time.'' Cited in Panel 
Discussions on Tax Reform, House Committee on Ways & Means, 94th 
Congress, 1st Session (1975), p. 138.
---------------------------------------------------------------------------
    Second, preparing tax returns is relatively simple for a 
majority of Americans. Without minimizing complexity, it should 
be kept in perspective. Millions of low-income Americans are 
below the filing threshold. Of 124 million taxpayers who do 
file, about 52 million, or 42%, are able to use simple Forms 
1040EZ--including 26 million eligible to file by telephone--and 
1040A. Only 29% of filers itemize deductions. One survey found 
that 45% of all taxpayers spend less than 10 hours per year on 
their taxes.\2\ About 80% of income tax filers pay at or below 
the 15% marginal rate on taxable income; and two thirds pay 
less than a 10% effective rate on their AGI.
---------------------------------------------------------------------------
    \2\ Cited in Joel Slemrod and Jon Bakija, Taxing Ourselves (1996), 
p. 2. These comments rely on Professor Slemrod's July 12, 1995 
testimony before the National Commission on Economic Growth and Tax 
Reform. ``For the majority of Americans with an uncomplicated financial 
situation, the tax system is not all that burdensome . . . .[M]ost of 
the cost of compliance of the individual income tax is borne by a 
fairly small fraction of taxpayers.'' Testimony, p. 8. See also 
Slemrod's chapter on simplification in Henry J. Aron and William G. 
Gale, eds., Economic Effects of Fundamental Tax Reform (1996), ch. 10, 
and David Bradford and Joel Slemrod, Making Tax Choices (1996), p. 16-
17.
---------------------------------------------------------------------------
    The burden of complexity is focused on businesses, 
especially small business (although some accounting and 
bookkeeping would be done anyway), and on high-income 
individuals, especially the self-employed, who itemize and have 
diverse sources of income in the form of capital gains, 
dividends, rent, and pension or annuity disbursements. While 
over half of taxpayers receive professional help--and 
complexity is one reason, many taxpayers do so primarily to 
expedite their refund--which 70% receive--or to free more time 
for family or other pursuits. Many of us are capable of 
changing the oil in our car, but find that paying someone to do 
it allows better use of our time.
    That picture may be changing. The Taxpayer Relief Act of 
1997 is a major culprit--with complex capital gains and IRA 
changes and new credits with multiple phaseouts, although it 
does simplify taxes on home sales. Similarly, the Alternative 
Minimum Tax forms now filed by fewer than 1% of taxpayers will 
be required of 6-8% in a decade.\3\ Taxpayers who don't 
consider themselves wealthy but take large deductions for 
employee business expenses or use tax credits for education, 
children, or dependent care may be surprised to find themselves 
subject to the AMT. But while these provisions are complex, 
they still affect a minority of taxpayers, albeit an 
increasing, significant and understandably vocal minority.
---------------------------------------------------------------------------
    \3\ See Joint Committee on Taxation, Present Law and Issues 
Relating to the Individual Alternative Minimum Tax (``AMT'') (JCX-3-
98), February 2, 1998, and Description of Possible Proposals Relating 
to the Individual Alternative Minimum Tax (``AMT'') (JCX-48-98), June 
22, 1998. The Taxpayer Relief Act of 1997 contained 36 retroactive 
changes, 114 changes effective August 8, 1997, 69 changes effective 
January 1, 1998, and 5 thereafter, 285 new sections and 824 amendments 
to the Code. It followed legislation in 1996 that made 600 other 
changes to the code. On average, since the enactment of the Internal 
Revenue Code, major tax legislation has been adopted every 18 months.
---------------------------------------------------------------------------
    Third, the main reasons for complexity are defining and 
measuring income, subsidizing Congressionally-favored 
activities, and squeezing or stretching tax provisions to fit 
budget needs. A multi-rate structure may invite complicated tax 
minimization strategies, but it is not a cause of complexity by 
itself since most taxpayers simply look up their tax in a 
table.\4\ Complexity can arise from personalizing and tailoring 
tax laws to individual circumstances instead of one-size-fits-
all--a poll tax, for example, is simple but unfair. The Earned 
Income Tax Credit could be less complex, but more unfair, if it 
were less finely tuned to family circumstances. Complexity can 
also arise from defining income. Taxing capital gains and wage 
income identically would simplify taxes, but it would also 
trade off other objectives such as creating incentives to 
invest.
---------------------------------------------------------------------------
    \4\ Slemrod 1995 testimony, p. 11: ``An oft-cited cause of tax 
complexity is the number of tax brackets. But here one must be careful. 
The number of tax brackets per se does not cause substantial 
complexity. One of the great red herrings during the debate over the 
Tax Reform Act of 1986 was that collapsing 14 tax brackets (15, for 
single filers) to three was an important simplification. This is 
nonsense, because once taxable income is computed, calculating tax 
liability from the tax tables is a trivial operation that is not 
perceptibly simplified by having fewer brackets [although a single 
bracket would simplify tax administration and withholding].'' See also 
Aron and Gale, eds., Economic Effects of Fundamental Tax Reform (1996), 
p. 6.
---------------------------------------------------------------------------
    Some complexity may be needed to maintain progressivity. 
And some may be needed to favor activity that Congress feels is 
in the public interest--such as child care, education, 
retirement savings, home ownership, charity, or business 
R&D.\5\ Budget needs can also influence complexity--phaseouts 
and limits on eligibility are sometimes needed to fit the cost 
of tax provisions into funds available. Finally, Congress and 
the Administration have increasingly found ``targeted'' tax 
cuts, credits and deductions more attractive vehicles for 
programs than traditional spending through government 
agencies--which adds complexity, sometimes for good reasons.
---------------------------------------------------------------------------
    \5\ See Slemrod 1995 testimony, p. 2. Another reason deserves 
mention: the legislative process involves compromise, splitting the 
difference rather than choosing between competing versions, and 
pressured drafting that often adds complexity. This may explain the 
convoluted calculations that will be needed to take the child credit, 
especially for low-income families with 3 or more children. For earlier 
examples from the Tax Reform Act of 1986, see Jeffrey H. Birnbaum and 
Alan S. Murray, Showdown at Gucci Gulch (1987).
---------------------------------------------------------------------------
    Fourth, much can be done to simplify the current code now. 
We shouldn't let the debate over more wholesale reform or 
replacement of the tax code detract from that important effort. 
That is why H&R Block forwarded ten modest suggestions for 
simplifying tax provisions that affect average taxpayers in 
1997 and 1998.\6\ We're eager to cooperate in improving the 
existing code even as we participate in the longer-range 
dialogue about broader reforms.
---------------------------------------------------------------------------
    \6\ Our 1998 suggestions were prepared by a team in H&R Block's Tax 
Training Department led by Rusty Wallower, our late Director of Tax 
Research and Information Delivery, and sent to members of the House 
Ways & Means and Senate Finance Committees on February 9, 1998. We sent 
follow-up correspondence March 13, 1998 and June 2, 1998 about the 
opportunity to amend the IRS Restructuring Bill (H.R. 2676) to permit 
use of a table in place of complex calculations required by the child 
credit provisions of the TRA. The additional information on software 
and AMT was prepared by a team in our Education Department led by Karen 
Yeager.
---------------------------------------------------------------------------
    Much can be done administratively. The IRS presently has a 
major effort underway to simplify forms and reduce the number 
of notices sent, an effort in which we have assisted. The 
Service deserves credit for its efforts to reduce the time and 
expense burdens of paperwork for tax compliance.
    You've asked us specifically about two of our suggestions--
permitting deductions of non-customized software in the year of 
purchase, and modifying or eliminating the individual AMT. 
Attached to my testimony are our 1998 Simplification 
Suggestions and expanded comments on the software and AMT 
proposals. With your permission, I'd like to submit them for 
the record along with more detailed examples of the effect of 
these laws that were developed by our Tax Training Department 
for hypothetical taxpayers.

               Simplify Deductions for Business Software

    We propose simplifying the purchase of non-customized 
software, up to a specified dollar limit, such as $1,000, by 
allowing a full deduction in the year of purchase. This is a 
good example of a small change that will help millions of small 
business owners and the IRS. Current law dictates that most 
software of this type be amortized over 36 months. Common 
software for word processing, communications, and tax 
preparation is usually updated within that recovery period. 
This causes additional complexity in recordkeeping and tax 
preparation when the deduction, which is usually small, is 
claimed over several years. Many taxpayers are unaware of these 
rules and fail to comply. The revenue impact would be small 
since the costs are eventually written off anyway.

                     Simplify or Eliminate the AMT

    We also propose eliminating the complex AMT for individuals 
or minimizing its impact by increasing the exemption and 
simplifying rules relating to depreciation and dependents. The 
existence of a second, parallel tax system to guarantee that no 
one escapes taxation completely because of tax preferences adds 
complexity and has the perverse effect of Congress giving 
benefits with one hand and taking them away with the other.
    In general, AMT income is calculated by adding certain 
adjustment and preference items to regular taxable income. One 
unnecessarily complicated preference item is the difference 
between AMT depreciation and regular depreciation. AMT 
depreciation for nonresidential real property is based on a 40-
year life and regular depreciation is based on a 39-year life. 
The difference is minuscule but must be calculated by the 
taxpayer with non-residential rental property.
    I've submitted an example of the AMT effect on heads of 
households claiming the child credit, where someone earning 
$75,000 may receive more benefit from the child credit than a 
similar taxpayer with earnings of $60,000, and several examples 
showing the computations and paperwork involved. I've also 
submitted several AMT simplification alternatives.
    We welcome the opportunity to work with your Subcommittee 
to improve the tax system.
      

                                

Proposals for Eliminating Certain Tax Complexities

               Simplify Deductions for Business Software

Proposal:

    Allow a direct deduction in the year of purchase of non-
customized software up to a specified dollar limit (such as 
$1,000).

Reason:

     Often the costs of the software are relatively 
small.
    The requirement under section 167(f)(1) that software be 
depreciated over a 36 month period using a straight-line method 
can create a very small deduction. Proposed Sec. 1.167(a)-14 
states that the deduction is determined by amortizing the 
adjusted basis of the computer software using the straight line 
method described in Sec. 1.167(b)-1 (except that its salvage 
value is treated as zero) and an amortization period of 36 
months beginning with the month that the computer software is 
placed in service.
    For instance, a $99 software package would result in a $33 
deduction if placed in service in January.
     Improve Compliance
    Many taxpayers are unaware of the requirement to amortize 
and out of ignorance fail to comply with the law.

Benefits:

     Help small businesses
    Small businesses rely on purchased software to meet their 
business needs. Under Sec. 167(f)(1) an expense for purchased 
software must be deducted over 36 months. If the software 
should meet the definition of section 197 property, the expense 
would have to amortized over 15 years. The tax compliance costs 
and recordkeeping cost are additional burdens for the small 
business owner.
     Reduces recordkeeping
    If the taxpayer can expense the item in the year of 
purchase, there is no need for maintaining records over three 
years.
     Less paperwork
    Tax compliance adds additional forms and statements to the 
return such as Form 4562, Form 4797, and attachments.
     Saves administration costs for the IRS
    Allowing an expense for business software in the year of 
purchase would save the IRS by reducing costs of input, 
handling, storage, and paperwork.
     Increase Fairness
    Taxpayers who pay to have their tax returns prepared by a 
tax professional bear the additional burdens of compliance. The 
paid tax preparer will treat the expense properly while the 
taxpayer who prepares his or her own return may not understand 
these complicated rules and may deduct the entire cost in the 
year of purchase.
     Simplicity
    Deducting software costs below a certain limit will make 
tax compliance simpler and easier.

                                Example:

    John Smith owns a small accounting business. In 1998, he 
purchased a tax software package for $600 on January 2. He 
bought a word processing program for $360 in March and a 
utility software package for $99 in February.
    In 1997, John purchased tax software for $600.

Effect on Tax Compliance:

    John must keep records on each of these purchases.
    John would amortize the $600 tax software package over 36 
months. Under current law, he would be allowed a deduction of 
$200 on his 1998 tax return. John records the amortized 
deduction on Form 4562 which he attaches to his tax return 
along with a required statement explaining the amortization. He 
must keep a worksheet for this asset to record what has been 
deducted and what is available for deduction in future years.
    The word processing program (costing $360) must be 
amortized over 36 months. In 1998, John would be allowed a 
deduction of $100. Once again, John must keep records of his 
purchase and the deductions claimed. An entry would be made on 
Form 4562 to report and deduct the allowed expense and a 
statement would be attached to the return.
    The utility software package (cost $99) must be amortized 
over 36 months. John would be allowed a deduction of $30 on his 
1998 return, $33 on the 1999 return, $33 on the 2000 return, 
and $3 on the 2001 tax return.
    On the 1998 tax return, John may be allowed to deduct the 
unrecovered cost of the tax software he purchased in 1997 if he 
can prove that it is obsolete. He must file Form 4797 to deduct 
the unrecovered cost.

Additional Forms and Paperwork for Tax Compliance:

    Form 4562
    Form 4797
    Amortization Worksheet

      Simplify or Eliminate the Individual Alternative Minimum Tax

Proposal:

    Eliminate the Alternative Minimum Tax (AMT) for individuals 
entirely. Or minimize the impact by increasing the exemption 
and simplifying the rules.

Reasons:

     Complexity
    AMT is a big part of what is wrong with the tax code. IRC 
Sec. 56 provides numerous complex adjustments that can 
eliminate a tax benefit claimed for regular tax purposes. The 
rationale of AMT is to prevent high income taxpayers from 
paying little or no income tax due to their ability to utilize 
tax preferences. The reality is that many middle income 
taxpayers can find their much needed credits or deductions 
reduced or eliminated. The law gives a benefit for regular 
income tax purposes but takes it away through the complex rules 
of AMT.
     Schedule A Deductions Can Subject a Taxpayer to 
AMT
    Large itemized deductions on Schedule A can subject a 
taxpayer to AMT.
    Employee business expenses can subject a taxpayer to AMT. 
Employee business expenses can put an employee at a 
disadvantage. Many employees who are not reimbursed for their 
business expenses can only deduct these on Schedule A. Often, 
these amounts are substantial and the employee loses the 
benefit of the deduction because of AMT.
     Credits
    The Dependent Care Credit can be substantially reduced by 
AMT. See the Wayne and Gloria Ambrose Example.
    The Child Tax Credit is eliminated for many middle class 
taxpayers by AMT limitations. See the Table in Example 1.
    The Foreign Tax Credit's interaction with AMT can become so 
complex that many tax practitioners (and the IRS) can't 
calculate it correctly. Many taxpayers pay substantially more 
tax than they owe because they do not understand the AMT 
Foreign Tax Credit so they don't claim it on Form 6251. The 
taxpayer ends up losing the credit for regular tax purposes.

Benefits:

     Simplicity
    AMT is a parallel tax system with complicated rules. 
Individuals who have taken advantage of certain incentives to 
reduce their tax find the complicated rules of AMT can 
substantially reduce or eliminate the benefits.
    A better way of limiting these benefits may be through 
expanded use of the AGI phaseouts available through the regular 
tax system. A phaseout can be an effective and simpler method 
of limiting benefits to higher income taxpayers rather than the 
complicated calculations related to AMT.
     Fairness
    Many taxpayers do not understand the complexities of AMT. 
Many taxpayers who prepare their own returns may ignore the 
complex AMT adjustments.
    Taxpayers are often surprised when a certain tax benefit is 
eliminated by AMT.
    It is not just high income taxpayers who are affected by 
AMT. Moderate income taxpayers with credits such as the 
dependent care credit and the child tax credit can find these 
credits reduced by AMT. A review of the table contained in 
Example 1 makes clear that a head of household taxpayer earning 
$75,000 may well see more benefit from the child tax credit 
than a similar taxpayer with earnings of $60,000.
     Reduce Recordkeeping
    AMT requires parallel recordkeeping for many of the 
credits, deductions, and expenses. Taxpayers must maintain the 
records even though he or she may not be subject to AMT in the 
current tax year.
     Reduce Paperwork
    Additional Forms, worksheets, and records are required to 
comply with the complex AMT rules.
     Enhance Compliance
    Self-preparers who are unaware of the complex AMT rules 
may, through ignorance, avoid providing the IRS with 
information needed to correctly calculate their AMT.
     Reduce IRS costs
    It is difficult to figure out who might be subject to AMT 
without auditing a return. Certain AMT adjustments are not 
readily apparent from the tax returns. IRS is able to determine 
at least partial AMT liability from the tax return and must 
design and maintain systems to identify under-calculation of 
AMT. If a under-calculation is found, IRS must then notify 
taxpayers of their additional AMT liabilities. Many IRS notices 
are sent to taxpayers requesting that they complete a Form 6251 
only to find that the taxpayer doesn't owe AMT.
     Decrease Dissatisfaction with Tax Code
    Congress intended AMT to instill confidence in the tax 
system by preventing higher income taxpayers from paying little 
or no tax. However, the complexity of section 56 increases 
frustration with the code.

                               Examples:

    Five examples are provided that demonstrate the current 
complexities of AMT. These examples illustrate the following:
     Impact of AMT on heads of households claiming a 
child tax credit
     The volume of forms and paperwork necessary to 
comply
     The volume of paperwork necessary to calculate the 
proper capital gains rate for AMT
     The impact of AMT on the calculation of the 
dependent care credit.

Example 1--Child Tax Credit Table

    Demonstrates the impact of AMT on head of household 
taxpayers.

Example 2--Martha Matthews Return

    The Martha Matthews return includes six pages of forms that 
are required only in order to calculate the foreign tax credit 
allowed for AMT purposes. The end result of these calculations 
is a $0 AMT tax.

Example 3--Single Taxpayer Return

    The Single Taxpayer return includes six pages of forms 
required only in order to calculate the correct capital gains 
tax for AMT purposes.

Example 4--Nicky Beverly Return

    The Nicky Beverly return includes six pages of forms and 
worksheets required only in order to calculate the correct AMT 
tax. This return also indicates where additional recordkeeping 
is required to track:
     AMT differences for depreciation and property 
basis
     AMT credit carryforward.
     AMT allowed losses for passive activities.

Example 5--Wayne and Gloria Ambrose illustration

    The Wayne and Gloria Ambrose example demonstrates how a 
$480 dependent care credit is reduced because of AMT to $23. 
The Ambroses itemize their deductions and, for AMT, must add 
back part of their medical expense deduction, all of their 
state taxes paid and deducted, all of their miscellaneous 
itemized deduction amount, and the reduction in cost of stock 
purchased through and incentive stock option.

Additional Forms and Paperwork for Tax Compliance:

    Form 6251
    Form 8801
    Multiple Worksheets
      

                                

    Chairman Johnson of Connecticut. Thank you very much for 
your testimony, Mr. Weinberger. Thank you all.
    I'm sorry that because of the series of votes we're going 
to have, we aren't going to be able to get into questions. But 
I do appreciate the detail of your testimony and the effort 
that you've helped us get started here today. It is a very big 
job.
    But I think we need to understand what the challenge is of 
simplification--both in terms of how to effect it, you know, 
how to make it happen and what the revenue costs would be. 
Because a lot of the complexity is due to the effort to reduce 
the revenue loss of tax benefits or to target those tax 
benefits at certain groups of individuals or businesses, so 
complexity is the result of policy objectives, but nonetheless 
at a certain point that complexity in and of itself becomes a 
policy issue. It's perfectly clear from this hearing today that 
we are absolutely at that point and we are beginning to 
compound our problems through further use of the Tax Code as we 
did in the last tax bill. So I do consider this a very 
important project even though today's hearing got kind of 
jammed in between things. We do appreciate the depth of your 
testimony and we invite you to think about what are the next 
things we ought to be thinking about.
    I do see this as kind of a two-prong operation and one that 
will take--will be ongoing. One is clearing the deadwood--
removing obsolete provisions and the other is simplifying key 
provisions. Some of the bigger ones are going to take us a long 
time, but in the immediate future, we must deal with some of 
the problems in the AMT and certainly we do intend to make 
change in the marriage penalty.
    So thank you very much for your written testimony, thank 
you for being with us today. My colleague has no questions and 
thank you very much.
    [Whereupon, at 4:27 p.m., the hearing was adjourned subject 
to the call of the Chair.]
    [Submissions for the record follow:]

Statement of Hon. Barbara B. Kennelly, a Representative in Congress 
from the State of Connecticut

    Thank you, Madame Chair, for allowing me to appear before 
the Subcommittee today on behalf of two pieces of legislation I 
have introduced which are designed to lessen the impact of the 
individual alternative minimum tax on the average family. The 
individual AMT was designed to prevent high rollers with 
sophisticated tax planners from paying no tax. The problem is 
that it has become much more than that. Both of these bills 
were made necessary by inattention to detail and a conscious 
disregard for fulfilling promises made in the enactment of last 
year's tax bill. These problems must be addressed.

                          Family Inflation Tax

    First, my legislation, H.R. 3965, would repeal the family 
inflation tax. While the $500 per child credit enacted in last 
year's Taxpayer Relief Act will provide vital tax relief to 
millions of American families, it will result in a tax increase 
for other families.
    Did you know that some families, after receiving the 
initial benefit, will actually have their taxes increased in 
the future because of complicated efforts to reduce the 
benefits of the $500 child credit? Yes, that is correct. Over 
time, a number of families will see future tax increases even 
if their income does not change!
    This happens because of the interaction of three 
provisions, the partially refundable family credit, the 
reduction of the partially refundable family credit by minimum 
tax liability and the inflation adjustments to the regular tax. 
For some families paying the minimum tax, the inflation 
adjustments cause tax increases by increasing minimum tax 
liability and thereby reducing partially refundable credits. 
Each year, the inflation adjustment of the standard deduction 
and personal exemptions--a provision that results in tax 
savings for the majority of taxpayers--actually results in a 
tax increase for these families. We should not allow this to 
happen. That is why I introduced H.R. 3965. Because tax year 
1998 is the first year for the $500 per child credit, it is 
vital that we fix this problem before returns have to be filed.
    On a related note, there is a tremendous amount of 
bipartisan support for fixing the marriage penalty. One of the 
most popular proposals would increase the standard deduction 
for married couples, a proposal that would actually make this 
problem with the alternative minimum tax worse. I have been 
talking about the need to fix the marriage penalty for years. 
We should fix it but we should also include this fix so we 
don't increase taxes on families in the name of eliminating a 
penalty.

    H.R. 2545--to make nonrefundable personal credits, the standard 
  deduction and personal exemptions creditable against the individual 
                        alternative minimum tax

    Second, my legislation, H.R. 2545, would make good on a 
promise we made the American people. The Taxpayer Relief Act of 
1997 promised American families both an education and a family 
credit. Unfortunately for many American families these credits 
will turn out to be phantom credits.
    Many average families will be thrown into the alternative 
minimum tax (AMT) simply because they take advantage of the new 
child and education credits. This happens because individuals 
pay the greater of regular tax reduced by nonrefundable credits 
or the AMT not reduced by nonrefundable credits. And because 
both the family and the education credit are added back for 
purposes of the AMT, families with children are more likely to 
be thrown into the AMT simply by using these credits. In the 
case of families with 3 or more children young enough to be 
eligible for the family credit, the bill permits the family 
credit against the employee share of FICA so that the minimum 
tax is no longer a problem for those families. However, it will 
be unpleasant surprise for many others.
    In 2008, 8 million families will lose the child credit 
because of AMT and 3 million families will lose the HOPE credit 
because of AMT. For example:
     a single mother with 2 children in day care with 
$51,400 in gross income would lose all of her child credit plus 
$141 of her dependent care credit in the year 2000 because she 
gets thrown into the AMT.
     a two-parent family with 3 children including one 
college freshman and $67,000 in gross income would lose $1,477 
of their $2500 combined family and HOPE Scholarship credit 
because they get thrown into the AMT.
     a two-parent family with 2 children in college and 
$64,100 in income would lose $723 of their Hope scholarship 
credit because they get thrown into the AMT.
    This simply makes no sense! The AMT was meant to assure 
that sophisticated taxpayers couldn't zero out their taxes. It 
was never intended that your children would throw you into the 
AMT.
    As some on the Subcommittee may recall, I offered an 
amendment during markup of the Taxpayer Relief Act of 1997 
which would have made the new child and education credits 
creditable against the AMT. While this amendment failed, it was 
included in the Democratic alternative. While the Joint 
Committee on Taxation has determined that without a change in 
the law, the number of individual returns affected would grow 
from 605,000 in 1997 to 8.4 million in 2007, this dramatic 
growth is not merely the result of inflation, but rather 
deliberate policy choices. Simply adjusting the exemption for 
inflation would not address the child or education credit 
problem.
    Therefore, I have introduced H.R. 2524 which would make 
nonrefundable personal credits creditable against the 
individual AMT and the personal exemption and standard 
deduction deductible for purposes of the individual AMT. I 
would hope that we could resolve this problem this year before 
taxpayers file their first returns claiming these new credits. 
And I would hope that we could work to find common ground on 
this very serious issue. Thank you.
      

                                

Statement of National Federation of Independent Business

    Madame Chair, the National Federation of Independent 
Business (NFIB) is pleased to have the opportunity to submit 
the views of its constituents before the Ways and Means 
Subcommittee on Oversight.
    NFIB is the nation's largest small business advocacy 
organization, representing 600,000 members in all fifty states 
and the District of Columbia. The typical NFIB member has five 
employees and grosses $350,000 in annual sales. Our membership 
reflects perfectly the nation's commercial economy--we have the 
same representation of retail, service, manufacturing and 
construction that makes up the nation's business community. 
NFIB sets its legislative positions and priorities based upon 
regular surveys of its membership.

                           Tax Simplification

    It is NFIB's position that the only real solution for a 
fairer, simpler tax code for all Americans is to scrap the 
current code and replace it with one that promotes investment 
and savings. We need a tax code that rewards hard work and that 
all Americans can understand. For that reason, NFIB applauds 
the House of Representatives for voting last week to adopt the 
``Tax Code Termination Act'' and looks forward to seeing this 
legislation move through the Senate and to the President's 
desk.
    In the short term, however, there are specific tax 
provisions that are particularly onerous to small business. If 
Congress has a 1998 tax cut bill, we hope these issues will be 
addressed. They are payroll tax reform, death taxes, health 
care deductibility for the self-employed, independent 
contractor clarification, increased small business expensing, 
capital gains simplification, and abolishing the Alternative 
Minimum Tax.

                          Reform Payroll Taxes

    First, Congress must reform payroll taxes. One of the 
biggest disincentives to job creation for small businesses is 
the burden of payroll taxes on both employers and employees. Of 
five major tax burdens, payroll taxes were listed as the most 
costly tax in the NFIB tax survey, just ahead of personal 
income taxes. And 53 percent said payroll taxes are less fair 
or much less fair than business income taxes.
    One payroll tax is especially burdensome--the Federal 
Unemployment Tax, or FUTA tax. Unlike the workers compensation 
system, the federal government plays a very significant and 
intrusive role in the administration of state unemployment 
compensation programs. Washington imposes a payroll tax and 
requires enormous paperwork burdens on state governments. Much 
of the money that Washington collects from this tax goes to 
finance the deficit, not to run the program.
    We need to eliminate the FUTA tax and let the states run 
the unemployment compensation system. The states have done an 
excellent job in taking over control of the old welfare system 
(or AFDC), and it certainly makes sense to give them control 
over the unemployment system as well.
    The effect on small business from eliminating this tax 
could help create new jobs by reducing the cost of hiring new 
employees. It would also send a strong signal to small business 
that Washington understands that payroll taxes are too high and 
that strong action is needed.
    At the very minimum, Congress should repeal the .2 percent 
FUTA surtax that was extended as part of year's tax bill. The 
``temporary'' FUTA surtax was enacted in 1976 in order to repay 
borrowing of the federal unemployment trust fund from the 
Treasury. These debts have been repaid since 1987, yet the FUTA 
surtax continues to be collected solely as a means of reducing 
the federal deficit NFIB supports full and immediate repeal of 
the FUTA surtax.

                        Eliminate the Death Tax

    Although last year's tax bill provided targeted relief, the 
death tax continues to be one of the most oppressive taxes on 
small businesses and family farms. NFIB considers death tax 
reform to be crucial to the continued survival of the small 
American family business. Current death tax rates cripple a 
small business passed on to heirs, and can force them to 
liquidate the very enterprise they have worked in their whole 
lives. The death tax may provide government revenue in the 
short run, but the long-run costs--a thriving business 
extinguished, productive jobs lost, the American dream 
diminished--far outweigh the gains.
    Small businesses are also particularly vulnerable to the 
intricacies of death tax law. Some owners with mobile assets 
can ensure a successful transfer to heirs by purchasing life 
insurance and through other methods, but many small business 
men and women cannot afford this kind of planning. They neither 
have the time nor the liquid assets to properly structure their 
estate. Unfortunately, unlike a publicly traded corporation, 
which continues operation regardless of how shareholders plan 
for their death, a closely held business, unless there has been 
careful and costly planning, is usually devastated by the death 
of an owner.
    Furthermore, because all assets are included in calculating 
the estate--such as the decedent's home and other personal 
assets--many businesses worth far less than the exemption level 
become victims of the death tax. Because so many small 
businesses operate on cash flow, often with extremely small or 
negative profit margins, current law allowing small businesses 
to spread their tax liability over fourteen years does not 
provide adequate relief.
    The 1995 White House Conference on Small Business voted 
death taxes as the fourth greatest problem to small business 
needing reform. Eliminating the death tax for family businesses 
would remove one of the greatest government burdens imposed 
upon small family businesses, setting national priorities where 
they should be: encouraging the continued operation and 
expansion of family business through generations. This issue 
will continue to be a priority on NFIB's agenda until it is 
eliminated.

         100% Deductibility for Self-Employed Health Care Costs

    Another area where Congress could build on last year's tax 
bill would be to increase health care deductibility for the 
self-employed. While the number of uninsured continues to rise, 
one way Congress can help ease this is to move more quickly to 
100-percent deducibility for the self-employed. Current law 
phases the deduction up to 45 percent this year and next.
    Unfortunately, full deduction will not be realized by the 
self-employed until the year 2007. Small business men and women 
cannot put off all their health care needs until the year 2007. 
They should not have to wait until then to completely deduct 
them either. Congress should be applauded for putting the 
deduction on a glide path to 100 percent, but any tax bill 
adopted this year should provide immediate 100-percent 
deductibility.

            Clarify the Definition of Independent Contractor

    The current 20 common law factor test for determining who 
is an employee versus an independent contractor has for too 
long handcuffed small businesses. These instructions are at 
best vague and unclear, making it difficult for small employers 
to honestly know whether they are complying with the rules.
    At the 1995 White House Conference on Small Business the 
top recommendation of the delegates was clarifying the 
independent contractor definition. In addition, a recent NFIB 
Education Foundation Survey of small business owners found that 
the issue of determining an independent contractor was one of 
the biggest problems facing small business today.
    NFIB supports legislation that would clarify the definition 
of an independent contractor.

                        Small Business Expensing

    Another positive step taken last Congress was to increase 
the annual limit on businesses expensing to $25,000 by the year 
2003--less than what was called for in the Contract for 
America, but still an improvement.
    Expensing is critically important because it: 1) allows 
small businesses to escape the complexity associated 
calculating depreciation schedules for different pieces of 
equipment; 2) reduces cash flow problems by allowing small 
businesses to deduct more up front--putting those dollars back 
in the hands of business faster; 3) helps the small businesses 
who need working capital as well as entrepreneurs looking to 
purchase an important piece of equipment; and 4) is good for 
the economy--if businesses are allowed to write-off investments 
in the year they are purchased, they are more likely to invest, 
thereby increasing growth and jobs.
    NFIB believes that increasing expensing is the best tool 
the Congress has to encourage investment by small and medium 
size firms. NFIB supports an immediate increase in the 
expensing limit to $35,000.

                             Capital Gains

    NFIB has long been an advocate for reducing the tax on 
capital gains to encourage investment and job creation. Last 
year's ``Taxpayer Relief Act'' reduced the top tax rate on 
capital gains, but only at the expense of simplicity.
    The ``Taxpayer Relief Act'' reduced the long-term tax rate 
on capital gains from 28 to 20 percent, but it also increased 
the holding period necessary to claim a long-term gain from 12 
months to 18 months, effectively creating three top tax rates 
for capital gains--40 percent for gains on assets held less 
than 12 months, 28 percent for assets held between 12 and 18 
months, and 20 percent for those held more than 18 months. This 
longer holding period has added needless cost and complexity to 
the exchange of productive assets, as well as numerous 
additional lines to the tax form.
    Even with the increased complexity of the three rate 
system, last year's capital gain tax cut has been wildly 
successful at stimulating economic activity. According to 
recent reports, the latest revenue figures show that instead of 
losing revenue, as was previously estimated, the tax cut will 
actually increase federal collections significantly.
    NFIB supports a further reduction in the capital gains tax 
rate to 15 percent. In addition, NFIB supports returning the 
holding period for long-term capital gains to 12 months.

          Abolish the Alternative Minimum Tax for Individuals

    Finally, NFIB would like to raise a tax provision which, 
although not a burning issue today, is likely to become a major 
concern to many small business owners in the near future--the 
individual Alternative Minimum Tax.
    According to the Joint Committee on Taxation, fewer than 1 
in 150 taxpayers is subjected to the AMT today. By 2007, 
however, that number is expected to grow to 1 in 14, with the 
largest increase coming from taxpayers earning between $50,000 
and $100,000. The individual AMT is a remarkably complex and 
obtuse provision in a tax code not known for its clarity. It 
literally requires taxpayers to calculate their taxes twice, 
and then pay the larger amount. While originally designed to 
ensure that wealthy Americans pay a reasonable level of their 
income in taxes, the AMT has the side effect of hitting 
taxpayers--increasingly middle-class taxpayers--when they can 
least afford the bill. The AMT literally kicks taxpayers ``when 
they are down.''
    In 1993 and 1997, Congress made numerous reforms to the 
corporate AMT to reduce its complexity and cost to certain 
industries. But many small businesses file as individuals, not 
corporations. The NFIB supports abolishing the individual 
Alternative Minimum Tax. At the very least, the existing AMT 
exemption--currently just $33,750 for single filers and $45,000 
for married couples--should be increased and indexed to shield 
middle-income taxpayers from this onerous tax.

                               Conclusion

    NFIB would like to thank the Madame Chair for this 
opportunity to testify before the Ways and Means Subcommittee 
on Oversight on the important issue of tax simplification. 
There is no greater burden placed on small businesses by 
government than that of the tax code, and we look forward to 
working with the members of this committee and all members of 
Congress to move towards a simpler, flatter tax code.
      

                                

Statement of Hon. Richard E. Neal, a Representative in Congress from 
the State of Massachusetts

    Madam Chairwoman, first of all I would like to thank you 
for holding this hearing which addresses complexity of the tax 
code for individual taxpayers and small businesses. I will 
focus my testimony on the complexity of our current tax system 
for individuals. Our tax code has become too complicated and I 
think it time that we review it and make concrete change to 
simplify it. This hearing is a good starting point.
    Last year, Congress passed the Taxpayer Relief Act of 1997 
which created a whole new host of complexities to the code. The 
Taxpayer Relief Act added about 320 pages to the tax code. The 
new provisions are complicated because of the different 
effective dates and eligibility requirements. The new tax bill 
will cause more individuals to be thrown in the alternative 
minimum tax (AMT) and this will result in many taxpayers not 
being able to take advantage of the newly passed credits.
    Present law imposes a minimum tax known as the alternative 
minimum tax (AMT) on an individual taxpayer to the extent the 
taxpayer's minimum liability exceeds his regular tax liability. 
The AMT imposes a lower marginal rate of tax on broader base of 
income. Since 1969, some form of the AMT has been in place. The 
purpose of the AMT is to have individuals with some measure of 
economic income to pay at least a minimum amount of tax.
    Under present law in 1998, 848,000 taxpayers will pay the 
AMT and this is 0.8 percent of taxpayers. In 2008, 8,822,000 
taxpayers will pay the AMT or 7.2% of all taxpayers. A reason 
for this expected increase is personal exemptions, standard 
deduction, and tax brackets are indexed for inflation and the 
AMT is not indexed for inflation.
    Last year's new bill created many new credits which 
benefited families, such as the child credit and the HOPE 
Scholarship credit. When calculating the AMT, the family credit 
and the education credit are added back. In the next few years, 
many families will not be able to receive benefits of the 
credits. The disallowance of credits can begin with income 
limits as low as $42,350.
    Rep. Kennelly and I have introduced legislation which would 
make nonrefundable personal credits (dependent care, child, and 
education credits) and the standard deduction and personal 
exemption deductible for AMT purposes. We have also sponsored 
legislation to repeal the family inflation tax. The $500 per 
chid credits enacted in last year's Taxpayer Relief Act will 
provide tax relief to millions of American families. However, 
some families will face a tax increase.
    Due to the interaction of three provisions, for some 
families paying the minimum tax, the inflation adjustments 
cause tax increases by increasing minimum tax liability and 
thereby reducing partially refundable credits. The three 
provisions are the partially refundable family credit, the 
reduction of the partially refundable family credit by minimum 
tax liability and the inflation adjustments to the regular tax.
    The two bills just described fix problems that were 
exacerbated by the Taxpayer Relief Act. I think this Committee 
should look at both of these proposals thoroughly. These two 
proposals would help working families take full advantage of 
the new tax credits.
    Recently, I introduced H.R. 4053, legislation to simplify 
the computation of taxes for individuals. This legislation 
would replace two worksheet schedules with a total of 19 lines 
and replace them with one line.
    This legislation simplifies the individual income tax by 
repealing the adjusted gross (AGI) limitation on itemized 
deductions and the personal exemption. Under current law, 
personal exemptions are reduced by 2% for each $2,500 which the 
AGI of the taxpayer exceeds $181,000 for joint filers and 
$121,200 for single filers. If an individual's adjusted gross 
income exceeds $121,200, certain otherwise allowable deductions 
are reduced by the lesser of 3% of the excess of adjusted gross 
income over the applicable amount, or 80% of the itemized 
deductions otherwise allowable for the tax year.
    This legislation repeals the complicated provisions 
described above and replaces them with an additional income tax 
of 1.59%. The bill simplifies the calculation of current 
phaseouts and removes the marriage penalty of these provisions.
    In order to remove the marriage penalty the new additional 
income tax will affect individuals with lower AGI. The 
additional income tax of 1.59% applies to individual taxpayers 
with adjusted gross income of $75,000 for individuals and 
$150,000 for joint filers. These thresholds are indexed for 
inflation. This additional tax does not apply to estates or 
trusts. This legislation is effective for taxable years 
beginning after December 31, 1998.
    This legislation is revenue neutral. The purpose of this 
legislation is to make it easier for individuals to compute 
their taxes and to remove unfair marriage penalties included in 
phase-out provisions. This legislation is a start to 
simplifying the tax code. We should be reviewing the code and 
simplifying many proposals. This hearing should provide useful 
information to pursue this task.
      

                                

Statement of Hon. Jim Ramstad, a Representative in Congress from the 
State of Minnesota

    Madame Chairman, thank you for convening this important 
hearing on the tax code complexity affecting small businesses 
and middle-income taxpayers.
    I don't need to recite the statistics that show how complex 
our tax code is. There is ample, painful evidence.
    For small business entrepreneurs, who represent 99.7% of 
employers, employ 53% of the private work force, contribute 47% 
of all sales and 50% of private gross domestic product to our 
nation's economy, tax complexity is a special burden.
    Small businesses have been crushed not only by high taxes, 
but also by mountains of tax paperwork. Small corporations 
spend over seven times what they actually pay in income taxes 
just trying to comply with our hopelessly complex tax code. 
This discourages investment, robbing small businesses of the 
opportunity to grow and create new jobs.
    And middle-income taxpayers, who will increasingly be 
pulled into Alternative Minimum Tax calculations, will soon be 
facing the ultimate complexity nightmare.
    Again, Madam Chairman, this is a critically important 
hearing. Thank you for your leadership in bringing attention to 
these issues.
      

                                

Statement of White House Conference on Small Business

    The undersigned are the elected Regional Chairs of Taxation 
representing the 2000 delegates to the White House Conference 
on Small Business. We were delegated the responsibility of 
advancing implementation of the conference's recommendations 
with regard to the tax issues and reporting progress back to 
the delegates. As the Ways and Means Committee prepares to 
consider tax policy issues, the delegates to the White House 
Conference on Small Business want to remind you of the 
important tax issues for the growth and progress of small 
businesses in America.

                               Simplicity

    The single largest concern of the White House Conference on 
Small Business was dealing with the overall complexity of 
government and the complexity of the tax code in particular. 
Allocating and reporting income taxes and payroll taxes is the 
one common experience of every business and may be the only 
interaction which most businesses have with the federal 
government. Simplifying the tax process would, therefore, 
improve the situation for every small business. Studies have 
shown that it costs small businesses more to comply with the 
tax code, and considerably more in comparison to each dollar of 
sales, than it costs large businesses. Small businesses have 
fewer sales over which to spread the cost.
    One of the major recommendations of the White House 
Conference was that Congress should concentrate on creating a 
simpler and fairer tax system. Within the context of the 
current tax code, four of the top White House Conference 
recommendations called for simplification of rules that are 
complex and frightening for small businesses:
     Clarification of the definition of an independent 
contractor. We will not expand on it today, except to say that 
it continues to be a source of concern for small businesses. 
Testimony was previously submitted on this subject.
     Immediate deduction of healthcare insurance 
premiums for the self employed.
     Repeal of the estate tax.
     An increased expensing allowance (in lieu of 
depreciation) under IRS 179 for equipment purchases for small 
businesses.
    Each of these recommendations was born out of the 
frustration accompanying a tax code which is perceived as 
complex and unfair. Studies have shown that it costs many small 
businesses more money to comply with the tax record-keeping and 
reporting obligations than it costs to pay the taxes 
themselves.

            100% Health Care Deduction for the Self-Employed

    We were pleased that Congress approved an eventual increase 
to 100% deductibility, but were disappointed that the increase 
will be phased out in over 10 years. This desire was in line 
with the White House Conference recommendation that the tax 
deductible amount be raised immediately to 100% and be 
deductible prior to the calculation of the self employment tax. 
Although there is some tax cost, the increase helps serve the 
policy goal of providing health insurance to as many people as 
possible. When there is little or no tax incentive for 
employers to buy health insurance for themselves and their 
families (note that 1.4 million children of self-employed 
individuals have no health coverage), they are likely to decide 
to forgo offering it to their employees as well. In other types 
of businesses, C-corporations for example, the health insurance 
premiums of the principals in the business are already fully 
deductible. We feel tax based decisions should not be 
substituted for sound business judgment in the selection of 
business structure. If a tax bill is considered in 1998, we 
urge Congress to include this proposal as a matter of equity 
for all business people.

                           Estate Tax Reform

    One of the strongest recommendations of the White House 
Conference on Small Business was a call for the repeal of the 
estate and gift tax. The Taxpayer Relief Act of 1997 included a 
provision which provides some help for a qualifying small 
business (in cases where the value of the small business is 
over half of the gross estate.) While this is welcome relief, 
more needs to be done to protect businesses from being 
dismantled at the death of the principal. The passage of a 
small business from one generation to the next has a positive 
impact on the community, promoting stable employment, long-term 
community support of community groups, and an active interest 
in maintaining the quality of education and life in the 
``neighborhood.''
    If outright repeal is too costly under the budget 
requirements, we feel that proposals which provide for 
continued reduction of the tax and the administrative burden on 
small businesses would be helpful. By focusing the legislation, 
Congress can provide relief directly to farms and small family 
businesses while foregoing a relatively small amount of 
revenue. The Congress should adopt a tax policy that moves the 
country toward the positive goal of sustaining the economic 
vitality of a small business and away from a policy which 
requires expensive and complex estate plans and insurance. The 
reality today is that elaborate and costly estate plans often 
must be undertaken, which drains assets from productive 
business investment. Without such plans, there is no guarantee 
that the business will last to serve the next generation of 
owners or workers.

                               Expensing

    The expensing limit of IRC Sec. 179 will be gradually 
increased to $25,000 (by the year 2003) from its current level 
by the Small Business Job Protection Act passed by Congress in 
1996. We appreciate the attention Congress gave to this issue, 
but would urge greater increases and quicker implementation. 
Expensing is perhaps one of the most useful tax simplifiers for 
small business; however, its use still remains limited. In 
addition, Congress did not correspondingly raise the $200,000 
limit on purchases. These days, one piece of machinery (even 
for a very small business) can exceed this limit, effectively 
eliminating many small businesses from any benefits. Finally, a 
technical correction added to the bill changed the definition 
of small business property from IRC Sec. 1245 property 
depreciable under IRC Sec. 168 to add the requirement that the 
property qualifies under IRC Sec. 38 retroactively to 12/31/90. 
This retroactive change imposes a burden on small businesses 
which had made investment decisions based on existing law.

                   Software Expensing & the Year 2000

    One area where we, the Regional Chairs for Taxation of the 
White House Conference on Small Business, feel Congress could 
make a tremendous contribution is to allow expensing in the 
year a business purchases software obtained for business 
purposes. It is practically impossible to declare with 
certainty what the useful life of software is within a 
business. With the pace of technology, useful life gets shorter 
and shorter as better products which exploit hardware advances 
seem to hit the market continuously.
    Particularly troublesome are the problems caused by the 
year 2000 (Y2K) which many small businesses do not fully 
understand. The cost to them to upgrade their software and 
hardware might be considerable. We believe it serves public 
policy to provide incentives to help small businesses assess 
their exposure to the problem and purchase new software as soon 
as possible. This will insure the continuity and free flow of 
business in 2000.
    In 1996, the Gartner Group estimated that the year 2000 
problem would cost $600 billion to fix. Later estimates by 
Lloyds of London have been as high as $1 trillion. Economist Ed 
Yardeni has estimated that there is a 35% chance of a global 
recession because some businesses will be unable to deal with 
their year 2000 problems. And, unlike most projects, the final 
due date can not be changed with the year 2000 problem--the 
year 2000 will arrive whether we are ready or not.
    The Federal Reserve is currently predicting that 1% to 7% 
of US businesses will fail because of the year 2000 problem. 
The Board is encouraging all businesses to address the problem 
as early as possible. The Small Business Administration and the 
Department of Commerce are encouraging all small businesses to 
make plans to assess the situation now so that actions can be 
taken in a timely manner. Many of the affected businesses will 
need new items of software and hardware, and we would urge that 
the materials immediately be deemed able to be expensed.

                                Summary

    In general, the White House Conference urged Congress to 
investigate a simpler, fairer tax system but purposely did not 
specify what changes should be made. The Conference also 
suggested a number of specific changes which we hope the 
Committee will continue to consider. We would like to recommend 
that any changes that are considered be analyzed for their 
impact on small businesses and that representatives of the 
small business community be included in future hearings on the 
subject.
    We would like to work with you, your colleagues, and your 
staff to help you better understand the importance of these 
proposals to small businesses and the U.S. economy. Thank you 
for your time and attention to this matter.

            Sincerely,
                                   THE WHITE HOUSE CONFERENCE TAX 
                                       CHAIRS

                                   Region 1 Debbi Jo Horton, 
                                       Providence, Rhode Island
                                   Region 2 Joy Turner, Piscataway, New 
                                       Jersey
                                   Region 3 Jill Gansler, Baltimore, 
                                       Maryland
                                   Region 4 Jack Oppenheimer, Orlando, 
                                       Florida
                                   Region 5 Paul Hense, Grand Rapids, 
                                       Michigan
                                   Region 6 Joanne Doherty, Houston, 
                                       Texas
                                   Region 7 Edith Quick, St. Louis, 
                                       Missouri
                                   Region 8 Jim Turner, Salt Lake City, 
                                       Utah
                                   Region 9 Sandra Abalos, Phoenix, 
                                       Arizona
                                   Region 10 Eric Blackledge, 
                                       Corvallis, Oregon

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