**DESCRIPTION OF MAJOR PROVISIONS**

**CONTAINED IN THE "TAXPAYER RELIEF ACT OF 1998"**

**Scheduled for a Markup by the**

**HOUSE COMMITTEE ON WAYS AND MEANS**

**On**

**September 17, 1998**

**Prepared by the Staff**

**of the**

**JOINT COMMITTEE ON TAXATION**

**September 15, 1998**

**JCX-60-98**

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**CONTENTS**

**INTRODUCTION**

**I. 	FAMILY TAX RELIEF PROPOSALS**

	A.	Marriage Penalty Tax Relief		

	B.	Partial Exclusion for Interest and Dividends		

	C.	Treatment of Personal Credits Under the Individual Minimum Tax		

	D.	Exclusion of Gain on the Sale of a Principal Residence by a Member of 		the Uniformed Service or the Foreign Service of the United States		

**II.	EDUCATION AND INFRASTRUCTURE PROPOSALS**

	A.	Permit Private Higher Education Institutions to Establish Qualified		Prepaid Tuition Programs		

	B.	Expand Exception from Arbitrage Rebate for Tax-Exempt Bonds	Issued to Finance Public School Construction		

	C.	Increase State Volume Limits on Private Activity Tax-Exempt Bonds		

**III.	SMALL BUSINESS AND FARMER TAX RELIEF PROPOSALS**

	A.	Acceleration of Increased Exemption From Estate and Gift Tax		

	B.	Increase Deduction for Health Insurance Expenses of Self-Employed		Individuals		

	C.	Accelerate Increase in Expensing for Small Businesses		

	D.	Permanent Extension of Income Averaging for Farmers		

	E.	Extend the Net Operating Loss Carryback Period for Farmers		

	F.	Accelerated Production Flexibility Contract Payments Not Included		in Income Prior to Receipt		

	G.	Designation of 20 Renewal Communities		

**IV.	EXTENSION OF EXPIRING PROVISIONS**

	A.	Extension of Research Tax Credit		

	B.	Extension of Work Opportunity Tax Credit		

	C.	Extension of the Welfare to Work Tax Credit		

	D.	Extend the Deduction Provided for Contributions of Appreciated Stock		to Private Foundations; Public Inspection of Private Foundation	Annual Returns		

		1.	Deduction for contributions of appreciated stock to private			foundations		

		2.	Public inspection of private foundation annual returns		

	E.	Exceptions under Subpart F for Certain Active Financing Income		

	F.	Extension of the Generalized System of Preferences		

**V.	REVENUE OFFSET PROPOSAL**

	A.	Treatment of Certain Deductible Liquidating Distributions of Regulated	Investment Companies and Real Estate Investment Trusts		

**VI.	SOCIAL SECURITY PROVISIONS**

	A.	Increases in the Social Security Earnings Limit for Individuals Who Have Attained Retirement Age		

	B.  Recomputations of Benefits after Normal Retirement Age		

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**INTRODUCTION**

	On September 17, 1998, the House Committee on Ways and Means has scheduled amarkup of certain tax cut proposals contained in the "Taxpayer Relief Act of 1998."

	This document,(1) prepared by the staff of the Joint Committee on Taxation, describes theproposals contained in the Chairman's mark.(2)  Part I of this document contains family tax reliefproposals; Part II contains education and infrastructure proposals; Part III contains small businessand farmer tax relief proposals; Part IV contains proposals relating to the extension of certainexpiring provisions; Part V contains a revenue offset proposal; and Part VI contains provisionsrelating to social security.

	A separate document (JCX-62-98) provides estimates of the budget effects of the taxproposals.

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**I. FAMILY TAX RELIEF PROPOSALS**

**A.  Marriage Penalty Tax Relief**

**Present Law**

**Marriage penalty**

	A married couple generally is treated as one tax unit that must pay tax on the unit's totaltaxable income.  Although married couples may elect to file separate returns, the rate schedulesand provisions are structured so that filing separate returns usually results in a higher tax thanfiling joint returns.  Other rate schedules apply to single persons and to single heads ofhousehold.

	A "marriage penalty" exists when the sum of the tax liabilities of two unmarriedindividuals filing their own tax returns (either single or head of household returns) is less thantheir tax liability under a joint return (if the two individuals were to marry).  A "marriage bonus"exists when the sum of the tax liabilities of the individuals is greater than their combined taxliability under a joint return.

	While the size of any marriage penalty or bonus under present law depends upon theindividuals' incomes, number of dependents, and itemized deductions, as a general rule marriedcouples whose earnings are split more evenly than 70-30 suffer a marriage penalty.  Marriedcouples whose earnings are largely attributable to one spouse generally receive a marriage bonus.

	Under present law, the size of the standard deduction and the tax bracket breakpointsfollow certain customary ratios across filing statuses.  The standard deduction and tax bracketbreakpoints for single filers are roughly 60 percent of those for joint filers.(3)  With these ratios,unmarried individuals have standard deductions whose sum exceeds the standard deduction theywould receive as a married couple filing a joint return.  Thus, their taxable income as joint filersmay exceed the sum of their taxable incomes as unmarried individuals.

**Basic standard deduction**

	Taxpayers who do not itemize deductions may choose the basic standard deduction (andadditional standard deductions, if applicable), which is subtracted (along with the deduction forpersonal exemptions) from adjusted gross income ("AGI") in arriving at taxable income.  Thesize of the basic standard deduction varies according to filing status and is indexed for inflation. For 1999, the size of the basic standard deduction is projected to be as follows:(4)

| Filing Status            |  |  | Basic standard deduction |
|--------------------------|--|--|--------------------------|
|                          |  |  |                          |
| Married, joint return    |  |  | $7,200                   |
| Head of household return |  |  | $6,350                   |
| Single return            |  |  | $4,300                   |
| Married, separate return |  |  | $3,600                   |

	For 1999, the basic standard deduction for joint returns is projected to be 1.675 times thebasic standard deduction for single returns.

**Additional standard deductions**

	An additional standard deduction is allowed for a taxpayer who is either elderly (age 65or over) or blind.  Two additional standard deductions are allowed for a taxpayer who is elderly(age 65 or over) and blind.  In the case of a joint return, these rules apply to both the husband andthe wife.  For example, if both taxpayers filing a joint return are both elderly and blind then theyare entitled to four additional standard deductions.  For 1999, the amount of each additionalstandard deduction is projected to be $800 for married individuals and $1,050 for singles andheads of households.(5)  These amounts are indexed for inflation.

**Description of Proposal**

	The proposal would increase the basic standard deduction for a married couple filing ajoint return to twice the basic standard deduction for a single return in each taxable yearbeginning after December 31, 1998.  For example, the basic standard deduction for a marriedcouple filing a joint return would be increased from a projected $7,200 to $8,600 in 1999.  Also,under the proposal, the basic standard deduction for a married taxpayer filing separately wouldbe increased so that it would equal the basic standard deduction for singles and would equal one-half of the basic standard deduction for a married couple filing jointly for each taxable yearbeginning after December 31, 1998 (e.g., $4,300 in 1999).  The basic standard deduction for ahead of household would be unchanged.

	Also, the proposal would increase the additional standard deduction for marriedindividuals who are elderly or blind from $800 to $1,050 (the same amount allowed for singlesand heads of households).  This amount would be indexed for inflation.  The other rules relatingto the additional standard deduction would not be changed.

**Effective Date**

	The proposal would be effective for taxable years beginning after December 31, 1998.

**B.  Partial Exclusion for Interest and Dividends**

**Present Law<
	The Code states that, except as otherwise provided, "gross income means all income fromwhatever source derived" (sec. 61).   Because there is no exclusion for interest and dividends,interest and dividends received by individuals are includible in income and subject to tax.

**Description of Proposal**

	The proposal would provide an exclusion from income for individuals for up to $200($400 for married couples filing jointly) of combined interest and dividends received in a taxableyear.(6)

**Effective Date**

	The proposal would be effective for taxable years beginning after December 31, 1998.

**C.  Treatment of Personal Credits Under the Individual Minimum Tax**

**Present Law
	Present law imposes a minimum tax on an individual to the extent the individual'stentative minimum tax exceeds his or her regular income tax liability.  The tentative minimumtax is computed at rates of (1) 26 percent on the first $175,000 ($87,500 in the case of a marriedindividual filing a separate return) of alternative minimum taxable income ("AMTI") in excess ofa phased-out exemption amount and (2) 28 percent on the remaining AMTI.  AMTI is theindividual's taxable income adjusted to take account of specified preferences and adjustments. The maximum tax rates on net capital gain are the same as under the regular tax.  The exemptionamounts are: (1) $45,000 in the case of married individuals filing a joint return and survivingspouses; (2) $33,750 in the case of other unmarried individuals; and (3) $22,500 in the case ofmarried individuals filing a separate return, estates and trusts.  The exemption amounts  arephased out by an amount equal to 25 percent of the amount by which the individual's AMTIexceeds (1) $150,000 in the case of married individuals filing a joint return and survivingspouses, (2) $112,500 in the case of other unmarried individuals, and (3) $75,000 in the case ofmarried individuals filing separate returns or an estate or a trust.  These amounts are not indexedfor inflation. 

	Present law provides for certain nonrefundable personal tax credits (i.e., the dependentcare credit, the credit for the elderly and disabled, the adoption credit, the child tax credit, thecredit for interest on certain home mortgages, the HOPE and lifetime learning credits, and theD.C. homebuyer's credit).  Generally these credits are reduced or eliminated for individuals withadjusted gross incomes above specified amounts.  The aggregate amount of these credits whichare allowable in any taxable year generally may not exceed the amount by which the individual'sregular income tax liability exceeds the individual's tentative minimum tax.  For families withthree or more qualifying children, an additional child credit is provided which may offset theliability for social security taxes to the extent that tax liability exceeds the amount of the earnedincome credit.  The additional child credit is reduced by the amount of the individual's minimumtax liability.   A similar rule applies to the earned income credit.

**Description of Proposal**
	The proposal would allow the nonrefundable personal tax credits to offset both theindividual's regular income tax liability and the minimum tax liability.  The proposal would alsorepeal the rule that reduces the additional child credit and the earned income credit by the amountof the minimum tax liability.

**Effective Date**

	The proposal would be effective for taxable years beginning after December 31, 1997.

**D.  Exclusion of Gain on the Sale of a Principal Residence by a Member of the Uniformed Service or the Foreign Service of the United States**

**Present Law**

	Under present law, a taxpayer generally is able to exclude up to $250,000 ($500,000 ifmarried filing a joint return) of gain realized on the sale or exchange of a principal residence. Generally, to be eligible for the exclusion, the taxpayer must have owned the residence and usedit as a principal residence for at least two of the five years prior to the sale or exchange.  Ataxpayer who fails to meet these requirements by reason of a change of place of employment,health, or, to the extent provided under regulations, unforeseen circumstances is able to excludean amount equal to the fraction of the $250,000 ($500,000 if married filing a joint return) whichis equal to the fraction of the two years that the ownership and use requirements are met.  Thereare no special rules relating to members of the uniformed services or the Foreign Service of theUnited States.  The uniform services include: the armed forces (the Army, Navy, Air Force,Marine Corp, and Coast Guard); the commissioned corps of the National Oceanic andAtmospheric Administration; and the commissioned corps of the Public Health Service. 

**Description of Proposal**

	Under the proposal, the test period for ownership and use would be suspended duringcertain absences due to service in the uniformed services or the Foreign Service of the UnitedStates.  Specifically, the five-year period ending on the date of the sale or exchange of a principalresidence would not include any periods during which the taxpayer or the taxpayer's spouse wason qualified official extended duty as a member of the uniformed services or the Foreign Serviceof the United States and serving at a place of duty away at least 50 miles away from thetaxpayer's principal residence or under orders compelling residence in Government furnishedquarters.  Extended duty would be defined as any period of active duty pursuant to a call or orderto such duty for a period in excess of 90 days or for an indefinite period.

**Effective Date**

	The proposal would be effective for sales or exchanges of principal residences after thedate of enactment.

**II.  EDUCATION AND INFRASTRUCTURE PROPOSALS**

**A.  Permit Private Higher Education Institutions to Establish Qualified Prepaid Tuition Programs
**Present Law**

	Section 529 (enacted as part of the Small Business Job Protection Act of 1996) providestax-exempt status to "qualified State tuition programs," meaning certain programs establishedand maintained by a State (or agency or instrumentality thereof) under which persons may (1)purchase tuition credits or certificates on behalf of a designated beneficiary that entitle thebeneficiary to a waiver or payment of qualified higher education expenses of the beneficiary, or(2) make contributions to an account that is established for the purpose of meeting qualifiedhigher education expenses of the designated beneficiary of the account.  "Qualified highereducation expenses" are defined as tuition, fees, books, supplies, and equipment required for theenrollment or attendance at a college or university (or certain vocational schools), as well ascertain room and board expenses.  Section 529 also provides that no amount shall be included inthe gross income of a contributor to, or beneficiary of, a qualified State tuition program withrespect to any distribution from, or earnings under, such program, except that (1) amountsdistributed or educational benefits provided to a beneficiary (e.g., when the beneficiary attendscollege) will be included in the beneficiary's gross income (unless excludable under another Codesection) to the extent such amounts or the value of the educational benefits exceed contributionsmade on behalf of the beneficiary, and (2) amounts distributed to a contributor (e.g., when aparent receives a refund) will be included in the contributor's gross income to the extent suchamounts exceed contributions made by that person.(7)

**Description of Proposal**

	Under the proposal, the definition of a "qualified tuition program" would be expanded toinclude any program established and maintained by one or more eligible educational institutions(which may be private institutions that are not State-owned) that satisfy the requirements undersection 529 (other than present-law, State ownership rule).

**Effective Date**

	The proposal would be effective for taxable years beginning after December 31, 1998.

**B.  Expand Exception from Arbitrage Rebate for Tax-Exempt Bonds Issued to Finance Public School Construction**

**Present Law**

	Interest on bonds issued by States and local governments is excluded from income if theproceeds of the bonds are used to finance activities conducted and paid for by the governmentalunits (Code sec. 103).  Interest on bonds issued by these governmental units to finance activitiescarried out and paid for by private persons ("private activity bonds") is taxable unless theactivities are specified in the Internal Revenue Code.  Private activity bonds on which interestmay be tax-exempt include bonds for privately operated transportation facilities (airports, docksand wharves, mass transit, and high speed rail facilities),  privately owned and/or providedmunicipal services (water, sewer, solid waste disposal, and certain electric and heating facilities),economic development (small manufacturing facilities and redevelopment in economicallydepressed areas), and certain social programs (low-income rental housing, qualified mortgagebonds, student loan bonds, and exempt activities of charitable organizations described in Codesec. 501(c)(3)).

	Subject to limited exceptions, issuers of tax-exempt bonds are not permitted to earn andretain profits on investment of bond proceeds in a manner unrelated to the governmental purposeof the borrowing (the "arbitrage restrictions").  Profits are defined as earnings in excess of theinterest paid on the bonds.  The arbitrage restrictions require profits on these nonpurposeinvestments to be rebated to the Federal Government at 5-year intervals, with the final paymentbeing due following redemption of the bonds.

	Present law includes several exceptions to the requirement that arbitrage profits berebated to the Federal Government:

	(1) If all proceeds of an issue of tax-exempt bonds are spent for the governmental purposeof the borrowing within 6 months after the bonds are issued, no rebate is required for any profitsthat are earned (e.g., during the six-month period or afterwards on funds such as certain bona fidedebt service funds).  For governmental bonds, the 100-percent expenditure requirement for thefirst six months is reduced to 95 percent, if the remaining 5 percent of the proceeds is spentwithin one year after the bonds are issued.

	(2) In the case of tax and revenue anticipation notes, which are short-term bonds issued tofinance governmental cash flow deficits, no rebate is required if the amount of the borrowingdoes not exceed amounts determined by reference to the issuing government's projected cashflow shortfall.

	(3) In the case of governmental bonds and certain private activity bonds issued to financethe construction of property owned by a governmental unit or a section 501(c)(3) organization,no rebate is required (except profits on amounts invested in reserve funds) if proceeds are spentin a manner satisfying a 24-month "spend-down" exception (the "construction bond exception").  The construction bond exception requires expenditure of minimum amounts during each 6-monthperiod of the 24-month period (10 percent in the first 6 months; 45 percent in the first 12 months;75 percent in the first 18 months; and 100 percent (less retainage not exceeding 5 percent) by theend of the 24 month period).  This exception further allows issuers to elect to pay a fixed penaltyin lieu of calculating arbitrage profits and rebating them to the Federal Government if any of theexpenditure targets are not met.

	(4) In the case of governmental bonds issued by small governments, no rebate is required. "Small" governments are defined as governmental units with general taxing powers that, alongwith any subordinate units, issue no more than $5 million in governmental bonds during acalendar year.  In calculating the $5 million issuance limit, up to $5 million of bonds to financepublic school construction may be excluded, effectively increasing the issuance limit to $10million in the case of small governments engaging in public school construction.

**Description of Proposal**

	The proposal would liberalize the permitted expenditure period of the present-lawconstruction bond exception in the case of bonds issued to finance the construction of publicschools.  Amounts spent for the acquisition and improvement of land that is functionally relatedand subordinate to a school the construction of which is financed with proceeds of the bond issuewould be treated as spent for construction. Under the proposal, no rebate would be required onthe construction proceeds of these public school construction bonds if the proceeds (lesspresently allowed  retainage(8)) were spent within 4 years after the bonds are issued, and thefollowing intermediate spending targets are satisfied:

		(1)  10 percent or more of the construction proceeds is spent within 1 year afterthe bonds are issued;

		(2)   30 percent or more of the construction proceeds is spent within 2 years afterthe bonds are issued; and

		(3)   50 percent or more of the construction proceeds is spent within 3 years afterthe bonds are issued.

	As under the present construction bond exception, issuers could elect to pay fixedpenalties in lieu of calculating profits and rebating them to the Federal Government if they failedto satisfy the liberalized expenditure requirements.  Further, as under the present-law exception,profits earned on reasonably required reserve or replacement funds or on proceeds used otherthan for construction would be subject to the rebate requirement.

**Effective Date**

	The proposal would apply to bonds issued after December 31, 1998.

**C.  Increase State Volume Limits on Private Activity Tax-Exempt Bonds**

**Present Law
	Interest on bonds issued by States and local governments is excluded from income if theproceeds of the bonds are used to finance activities conducted and paid for by the governmentalunits (Code sec. 103).  Interest on bonds issued by these governmental units to finance activitiescarried out and paid for by private persons ("private activity bonds") is taxable unless theactivities are specified in the Internal Revenue Code.  Private activity bonds on which interestmay be tax-exempt include bonds for privately operated transportation facilities (airports, docksand wharves, mass transit, and high speed rail facilities),  privately owned and/or providedmunicipal services (water, sewer, solid waste disposal, and certain electric and heating facilities),economic development (small manufacturing facilities and redevelopment in economicallydepressed areas), and certain social programs (low-income rental housing, qualified mortgagebonds, student loan bonds, and exempt activities of charitable organizations described in Codesec. 501(c)(3)).

	The volume of tax-exempt private activity bonds that States and local governments mayissue for most of these purposes in each calendar year is limited by State-wide volume limits. The current annual volume limits are $50 per resident of the State or $150 million if greater.  Thevolume limits do not apply to private activity bonds to finance airports, docks and wharves,certain governmentally owned, but privately operated solid waste disposal facilities, certain highspeed rail facilities, and to certain types of private activity tax-exempt bonds that are subject toother limits on their volume (qualified veterans' mortgage bonds and certain "new"empowerment zone and enterprise community bonds).

**Description of Proposal**
	The proposal would increase the present-law annual State private activity bond volumelimits to $75 per resident of each State, or $225 million if greater.

**Effective Date
	The proposal would be effective beginning in calendar year 1999.

**III.  SMALL BUSINESS AND FARMER TAX RELIEF PROPOSALS**

**A.  Acceleration of Increased Exemption from Estate and Gift Tax**

**Present Law**

**Increase in exemption from estate and gift tax**

	Exemptions from the Federal estate and gift tax are provided by allowing reduction of theestate or gift tax by a credit, called the unified credit.  The 1997 Act increased the present-lawunified credit beginning in 1998, from an effective exemption of $600,000 in 1997 to an effectiveexemption of $1,000,000 in 2006.  The increase in the effective exemption (called the "applicableexemption amount") is phased in according to the following schedule: the effective exemption is$625,000 for decedents dying and gifts made in 1998; $650,000 in 1999; $675,000 in 2000 and2001; $700,000 in 2002 and 2003; $850,000 in 2004; $950,000 in 2005; and $1 million in 2006and thereafter.  The applicable exemption amount is not indexed for inflation.

**Deduction for interests in certain family-owned business**

	In addition, the 1997 Act provided a limited deduction for Federal estate tax purposes forcertain family-owned business interests.  The deduction for family-owned business interests maybe taken only to the extent that the exclusion for family-owned business interests, plus theapplicable exemption amount, does not exceed $1.3 million.  Under this provision, if an executorelects to utilize the qualified family-owned business deduction, the estate tax liability is calculatedas if the estate were allowed a maximum qualified family-owned business deduction of $675,000and an applicable exemption amount of $625,000, regardless of the year in which the decedentdies.  If the estate includes less than $675,000 of qualified family-owned business interests, theapplicable exemption amount is increased on a dollar-for-dollar basis, but only up to theapplicable exemption amount generally available for the year of death.  The family-ownedbusiness deduction is not indexed for inflation.

**Description of Proposal**

****The proposal would accelerate the scheduled increases in the applicable exemptionamount such that the equivalent exemption would be $1,000,000 for decedents dying and giftsmade after 1998.

**Effective Date**

	The proposal would be effective for decedents dying and gifts made after December 31,1998.

**B.  Increase Deduction for Health Insurance Expenses of Self-Employed Individuals**

**Present Law**

	Under present law, self-employed individuals are entitled to deduct a portion of theamount paid for health insurance for the self-employed individual and the individual's spouse anddependents.  The deduction for health insurance expenses of self-employed individuals is notavailable for any month in which the taxpayer is eligible to participate in a subsidized health planmaintained by the employer of the taxpayer or the taxpayer's spouse.  The deduction is available inthe case of self insurance as well as commercial insurance.  The self-insured plan must in fact beinsurance (e.g., there must be appropriate risk shifting) and not merely a reimbursementarrangement.

	The portion of health insurance expenses of self-employed individuals that is deductible is45 percent for taxable years beginning in 1998 and 1999, 50 percent for taxable years beginning in2000 and 2001, 60 percent for taxable years beginning in 2002, 80 percent for taxable yearsbeginning in 2003, 2004, and 2005, 90 percent for taxable years beginning in 2006, and 100percent for taxable years beginning in 2007 and thereafter.

	Under present law, employees can exclude from income 100 percent of employer-providedhealth insurance.

**Description of Proposal**

	The proposal would increase the deduction for health insurance of self-employedindividuals to 100 percent for taxable years beginning in 1999 and thereafter.

**Effective Date**

	The proposal would be effective for taxable years beginning after December 31, 1998.

**C.  Accelerate Increase in Expensing for Small Businesses**

**Present Law
	Present law provides that, in lieu of depreciation, a taxpayer with a sufficiently smallamount of annual investment may elect to deduct up to $18,500 (for taxable years beginning in1998) of the cost of qualifying property placed in service for the taxable year (sec. 179).  Ingeneral, qualifying property is defined as depreciable tangible personal property that is purchasedfor use in the active conduct of a trade or business.  The $18,500 amount is reduced (but notbelow zero) by the amount by which the cost of qualifying property placed in service during thetaxable year exceeds $200,000.  In addition, the amount eligible to be expensed for a taxable yearmay not exceed the taxable income for a taxable year that is derived from the active conduct of atrade or business (determined without regard to this provision).  Any amount that is not allowed asa deduction because of the taxable income limitation may be carried forward to succeedingtaxable years (subject to similar limitations).

	The $18,500 amount is increased to $25,000 for taxable years beginning in 2003 andthereafter.  The increase is phased in as follows: for taxable years beginning in 1999, the amountis $19,000; for taxable years beginning in 2000, the amount is $20,000; for taxable yearsbeginning in 2001 or 2002, the amount is $24,000; and for taxable years beginning in 2003 andthereafter, the amount is $25,000.

**Description of Proposal
	The proposal would provide that the maximum dollar amount that may be deducted undersection 179 is increased to $25,000 for taxable years beginning in 1999 and thereafter, without thepresent-law phase-in rule.

**Effective Date
	The proposal would be effective for taxable years beginning in 1999 and thereafter.

**D.   Permanent Extension of Income Averaging for Farmers**

**Present Law**

	The 1997 Act included a provision that allows individuals engaged in the trade or businessof farming an election to calculate their current year regular income tax liability by averaging,over the prior three-year period, all or a portion of their taxable income attributable to the farmingbusiness.

	Under the provision, a taxpayer (1) designates all or a portion of the current year incomefrom the farming business as "elected farm income," (2) allocates one-third of the "elected farmincome" to each of the prior three taxable years, and (3) determines the current year regularincome tax liability by determining the sum of (a) his or her current year income tax liability(without the elected farm income) plus (b) the increases in the income tax liability for each of thethree prior taxable years by taking into account the allocable share of the elected farm income forthose years.

	The provision does not apply for purposes of the self-employment tax or the alternativeminimum tax.  The provision is effective for taxable years beginning after December 31, 1997,and before January 1, 2001.

**Description of Proposal**

	The proposal would make permanent the income averaging provision for farmers.

**Effective Date**

	The proposal would be effective for taxable years beginning after December 31, 2000.

**E.  Extend the Net Operating Loss Carryback Period for Farmers**

**Present Law**

	The net operating loss ("NOL") of a taxpayer (generally, the amount by which the businessdeductions of a taxpayer exceeds its gross income) may be carried back two years and carriedforward 20 years to offset taxable income in such years.  A taxpayer may elect to forgo thecarryback of an NOL.  In the case of NOLs arising from (1) casualty or theft losses of individualtaxpayers, or (2) losses incurred in a Presidentially declared disaster area by taxpayers engaged ina farming business or a small business, such NOLs can be carried back three years.  For thispurpose, a "farming business" is defined as in section 263A(e)(4).  Other special rules apply toreal estate investment trusts (REITs) (no carrybacks), specified liability losses (10-yearcarryback), and excess interest losses (no carrybacks).

**Description of Proposal**

	The proposal would allow NOLs attributable to a farming business to be carried back fiveyears, whether or not incurred in a Presidentially declared disaster area.  The carryforward periodwould remain at 20 years.  A taxpayer may elect to not apply the 5-year carryback period.  TheNOL rule attributable to a farming business would be coordinated with the other NOL rules. 

**Effective Date**

	The proposal would be effective for net operating losses arising in taxable years beginningafter December 31, 1997.

**F.  Accelerated Production Flexibility Contract Payments Not Included in Income Prior to Receipt**

**Present Law**

	A cash basis taxpayer includes an item in income at the time of its actual or constructivereceipt.  If a cash basis taxpayer has an unrestricted right to demand the payment of an amount,the taxpayer is in constructive receipt of that amount whether or not the taxpayer makes thedemand and actually receives the payment.

	The Agricultural Market Transition Act provides for annual payments to certain farmers. These payments are made at specified times during the fiscal year.  The Emergency FarmFinancial Relief Act of 1998 provides that all payments for fiscal year 1999 are to be paid at suchtime or times during fiscal year 1999 as the recipient may specify.  Amounts that would otherwisebe paid after December 31, 1998 can be specified for payment in calendar year 1998. Thispotentially results in the constructive receipt (and thus inclusion in taxable income) of suchamounts in calendar year 1998, whether or not the amounts are actually received.

**Description of Proposal**

	Agricultural Market Transition Act payments for fiscal year 1999 would not be included inincome until actually received.

**Effective Date**

	The proposal would be effective for Agricultural Market Transition Act payments forfiscal year 1999.

**G.  Designation of 20 Renewal Communities**

**Present Law**

**In general**

	Zones and communities designated under OBRA 1993

	Pursuant to the Omnibus Budget Reconciliation Act of 1993 ("OBRA 1993"), theSecretaries of the Department of Housing and Urban Development (HUD) and the Department ofAgriculture designated a total of nine empowerment zones and 95 enterprise communities onDecember 21, 1994. As required by law, six empowerment zones are located in urban areas andthree empowerment zones are located in rural areas.(9)  Of the enterprise communities, 65 arelocated in urban areas and 30 are located in rural areas (sec. 1391). Designated empowermentzones and enterprise communities were required to satisfy certain eligibility criteria, includingspecified poverty rates and population and geographic size limitations (sec. 1392).

	The following tax incentives are available for certain businesses located in empowermentzones: (1) a 20-percent wage credit for the first $15,000 of wages paid to a zone resident whoworks in the zone; (2) an additional $20,000 of section 179 expensing for "qualified zoneproperty" placed in service by an "enterprise zone business" (accordingly, certain businessesoperating in empowerment zones are allowed up to $38,000 of expensing for 1997); (3) specialtax-exempt financing for certain zone facilities (described in more detail below); and (4) the so-called "brownfields" tax incentive, which allows taxpayers to expense (rather than capitalize)certain environmental remediation expenditures.(10)

	The 95 enterprise communities are eligible for the special tax-exempt financing benefitsand "brownfields" tax incentive, but not the other tax incentives (i.e., the wage credit andadditional sec. 179 expensing) available in the empowerment zones.  In addition to these taxincentives, OBRA 1993 provided that Federal grants would be made to designated empowermentzones and enterprise communities.

	The tax incentives (other than the "brownfields" incentive) for empowerment zones andenterprise communities generally will be available during the period that the designation remainsin effect (i.e., a 10-year period).

Additional zones designated under 1997 Act

Two additional urban zones with same tax incentives as previously designatedempowerment zones.--Pursuant to the Tax Relief Act of 1997 ("1997 Act"), the Secretary of HUDis authorized to designate two additional empowerment zones located in urban areas (therebyincreasing to eight the total number of empowerment zones located in urban areas) with respect towhich the same tax incentives generally apply (i.e., the wage credit, additional expensing, specialtax-exempt financing, and "brownfields" incentive) as are available within the empowermentzones authorized by OBRA 1993.(11)  The two additional empowerment zones are subject to thesame eligibility criteria under present-law section 1392 that apply to the original six urbanempowerment zones.(12)

	The two additional empowerment zones must be designated within 180 days afterenactment of the 1997 Act (i.e., the designations must be made by February 1, 1998).  However, aspecial rule provides that the designations of these two additional empowerment zones will nottake effect until January 1, 2000 (and generally will remain in effect for 10 years).

20 additional urban and rural empowerment zones.--The 1997 Act also authorizes theSecretaries of HUD and Agriculture to designate an additional 20 empowerment zones (no morethan 15 in urban areas and no more than five in rural areas).(13)  With respect to these additional empowerment zones, the present-law eligibility criteria are expanded slightly in comparison to theeligibility criteria provided for by OBRA 1993.  First, the general square mileage limitations (i.e.,20 square miles for urban areas and 1,000 square miles for rural areas) are expanded to allow theempowerment zones to include an additional 2,000 acres.  This additional acreage, which could bedeveloped for commercial or industrial purposes, is not subject to the poverty rate criteria and maybe divided among up to three noncontiguous parcels.  In addition, the general requirement that atleast half of the nominated area consists of census tracts with poverty rates of 35 percent or moredoes not apply to the 20 additional empowerment zones.  However, under present-law section1392(a)(4), at least 90 percent of the census tracts within a nominated area must have a povertyrate of 25 percent or more, and the remaining census tracts must have a poverty rate of 20 percentor more.(14)  For this purpose, census tracts with populations under 2,000 are treated as satisfyingthe 25-percent poverty rate criteria if (1) at least 75 percent of the tract was zoned for commercialor industrial use, and (2) the tract is contiguous to one or more other tracts that actually have apoverty rate of 25 percent or more.(15)

	Within the 20 additional empowerment zones, qualified "enterprise zone businesses" areeligible to receive up to $20,000 of additional section 179 expensing(16) and to utilize specialtax-exempt financing benefits.  The "brownfields" tax incentive (described above) also isavailable within all designated empowerment zones.  However, businesses within the 20additional empowerment zones are not eligible to receive the present-law wage credit availablewithin the 11 other designated empowerment zones (i.e., the wage credit is available only within the nine zones designated under OBRA 1993 and the two urban zones designated under the 1997Act that are eligible for the same tax incentives as are available in the nine zones designated underOBRA 1993).

	The 20 additional empowerment zones are required to be designated before 1999, and thedesignations generally will remain in effect for 10 years.(17)

**Definition of "qualified zone property"**

	Present-law section 1397C defines "qualified zone property" as depreciable tangibleproperty (including buildings), provided that: (1) the property is acquired by the taxpayer (from anunrelated party) after the zone or community designation took effect; (2) the original use of theproperty in the zone or community commences with the taxpayer; and (3) substantially all of theuse of the property is in the zone or community in the active conduct of a trade or business by thetaxpayer in the zone or community.  In the case of property which is substantially renovated by thetaxpayer, however, the property need not be acquired by the taxpayer after zone or communitydesignation or originally used by the taxpayer within the zone or community if, during any24-month period after zone or community designation, the additions to the taxpayer's basis in theproperty exceed 100 percent of the taxpayer's basis in the property at the beginning of the period,or $5,000 (whichever is greater).

**Definition of "enterprise zone business"**

	Present-law section 1397B defines the term "enterprise zone business" as a corporation orpartnership (or proprietorship) if for the taxable year: (1) the sole trade or business of thecorporation or partnership is the active conduct of a qualified business within an empowermentzone or enterprise community;(18) (2) at least 50 percent(19) of the total gross income is derived fromthe active conduct of a "qualified business" within a zone or community; (3) a substantial portionof the business' tangible property is used within a zone or community; (4) a substantial portion ofthe business' intangible property is used in the active conduct of such business; (5) a substantialportion of the services performed by employees are performed within a zone or community; (6) atleast 35 percent of the employees are residents of the zone or community; and (7) less than fivepercent of the average of the aggregate unadjusted bases of the property owned by the business isattributable to (a) certain financial property, or (b) collectibles not held primarily for sale tocustomers in the ordinary course of an active trade or business.

	A "qualified business" is defined as any trade or business other than a trade or businessthat consists predominantly of the development or holding of intangibles for sale or license.(20)  Inaddition, the leasing of real property that is located within the empowerment zone or communityto others is treated as a qualified business only if (1) the leased property is not residential property,and (2) at least 50 percent of the gross rental income from the real property is from enterprise zonebusinesses.(21)  The rental of tangible personal property to others is not a qualified business unlessat least 50 percent of the rental of such property is by enterprise zone businesses or by residents ofan empowerment zone or enterprise community.

**Tax-exempt financing rules**

	Tax-exempt private activity bonds may be issued to finance certain facilities inempowerment zones and enterprise communities. These bonds, along with most private activitybonds, are subject to an annual private activity bond State volume cap equal to $50 per resident ofeach State, or (if greater) $150 million per State.  However, a special rule (enacted in the 1997Act) provides that certain "new empowerment zone facility bonds" issued for qualified enterprisezone businesses in the 20 additional empowerment zones are not subject to the State privateactivity bond volume caps or the special limits on issue size generally applicable to qualifiedenterprise zone facility bonds.(22)

	Qualified enterprise zone facility bonds are bonds 95 percent or more of the net proceedsof which are used to finance (1) "qualified zone property" (as defined above(23)) the principal userof which is an "enterprise zone business" (also defined above(24)), or (2) functionally related andsubordinate land located in the empowerment zone or enterprise community.(25)  These bonds mayonly be issued while an empowerment zone or enterprise community designation is in effect.

	The aggregate face amount of all qualified enterprise zone bonds for each qualifiedenterprise zone business may not exceed $3 million per zone or community.  In addition, totalqualified enterprise zone bond financing for each principal user of these bonds may not exceed$20 million for all zones and communities.

**Description of Proposal**

	The proposal would authorize the designation of 20 "renewal communities" within whichspecial tax incentives would be available.  The following is a description of the designationprocess and the tax incentives that would be available within the proposed renewal communities.  

**Designation process**

Designation of 20 renewal communities.--Under the proposal, the Secretary of HUDwould be authorized to designate up to 20 "renewal communities" from areas nominated by Statesand local governments.  At least 20 percent of the designated communities must be in rural areas(defined as areas which (1) are within local government jurisdictions with a population less than50,000, (2) are outside of a metropolitan statistical area, or (3) are determined by HUD to be arural area).  The Secretary of HUD would be required to publish (within four months afterenactment) regulations describing the selection process, and all designations of renewalcommunities would have to be made within 24 months after such regulations are published.  Designations generally would remain in effect through December 31, 2006.

Old empowerment zones and enterprise communities could seek additional designation asrenewal communities.--The proposal would allow the previously designated empowerment zonesand enterprise communities to apply for designation as renewal communities.  Priority would begiven in the designation of the first 50 percent of renewal communities to nominated areas whichare empowerment zones or enterprise communities under present law and which otherwise meetthe requirements of the proposal for designation as a renewal community.  If a previouslydesignated empowerment zone or enterprise community is selected as one of the 20 renewalcommunities, then the area's designation as a empowerment zone or enterprise community wouldremain in effect and the same area would also be designated as a renewal community.  For such anarea obtaining dual-designation status, the special tax incentives available for empowerment zones(or enterprise communities, as the case may be) and for renewal communities would be available. If an area previously designated as an empowerment zone or enterprise community does not seekdesignation (or is not selected by the Secretary of HUD) as a renewal community, then thepresent-law empowerment zone and enterprise community provisions would continue to apply tothat area.

Eligibility criteria.--To be designated as a renewal community, a nominated area would berequired to meet all of the following criteria: (1) each census tract must have a poverty rate of atleast 20 percent; (2) at least 70 percent of the households have incomes below 80 percent of themedian income of households within the local government jurisdiction; (3) the unemployment rateis at least 1.5 times the national unemployment rate; and (4) the area is one of pervasive poverty,unemployment, and general distress.

	Except with respect to the designation of the first 50 percent of renewal communitieswhen priority would be given to existing empowerment zones and enterprise communities (asdescribed above), those areas with the highest average ranking of factors (1), (2), and (3) abovewould be designated as renewal communities.  The Secretary of HUD could also take into accountin selecting areas for designation the extent to which such areas have a high incidence of crime, aswell as whether the area has census tracts identified in the May 12, 1998, report of theGovernment Accounting Office regarding the identification of economically distressed areas. 

	There would be no geographic size or maximum population limitations placed on thedesignated renewal communities.  The proposal merely would require that the boundary of adesignated community be "continuous" and that the designated community have a population of atleast 4,000 if the community is located within a metropolitan statistical area (at least 1,000 in allother cases, or the community must be entirely within an Indian reservation).

Required State and local government course of action.--In order for an area to bedesignated as a renewal community, the proposal would require State and local governments tosubmit a written course of action which promises within the nominated area at least five of thefollowing: (1) a reduction of tax rates or fees; (2) an increase in the level of efficiency of localservices; (3) crime reduction strategies; (4) actions to remove or streamline governmentalrequirements; (5) involvement by private entities and community groups, such as to provide jobsand job training and financial assistance; (6) State or local income tax benefits for fees paid forservices performed by a nongovernmental entity which were formerly performed by a governmententity; and (7) the gift (or sale at below fair market value) of surplus realty by the State or localgovernment to community organizations or private companies.

	In addition, the proposal would require that the nominating State and local governments promise to promote economic growth in the nominated area by repealing or not enforcing (1)licensing requirements for occupations that do not ordinarily require a professional degree, (2)zoning restrictions on home-based businesses which do not create a public nuisance, (3) permitrequirements for street vendors who do not create a public nuisance, (4) zoning or otherrestrictions that impede the formation of schools or child care centers, and (5) franchises or otherrestrictions on competition for businesses providing public services, including but not limited totaxicabs, jitneys, cable television, or trash hauling, unless such regulations are "well-tailored tothe protection of health and safety."

**Tax incentives for renewal communities**

	The following tax incentives generally would be available during the seven-year periodbeginning January 1, 2000 and ending December 31, 2006.

	100-percent capital gain exclusion.--The proposal would provide for a 100 percent capitalgains exclusion for long-term capital gain from the sale of a qualified community asset acquiredafter December 31, 1999 and before January 1, 2007, and held for more than five years.  A"qualified community asset" would include: (1) qualified community stock (meaning original-issue stock purchased for cash in a "renewal community business," which is similar to the present-law definition of an "enterprise zone business"); (2) qualified community partnership interest(meaning a partnership interest acquired for cash in a renewal community business); and (3)qualified community business property (meaning tangible real and personal property used in arenewal community business if acquired (or substantially improved) by the taxpayer after January1, 2000).  Property would continue to be a "qualified community asset" if sold (or otherwisetransferred) to a subsequent purchaser, provided that the property continues to represent aninterest in (or is tangible property used in) a renewal community business.  The termination of anarea's status as a renewal community would not affect whether property is a qualified communityasset, but any gain attributable to the period before January 1, 2000 and after December 31, 2006would not be eligible for the 100-percent capital gains exclusion.     

Family development accounts.--Under the proposal, individual taxpayers would beallowed to claim an above-the-line deduction for certain amounts paid in cash to a familydevelopment account ("FDA") established for the benefit of a "qualified individual," meaning anindividual who both resides in a renewal community throughout the taxable year and was allowedto claim the earned income tax credit (EITC) during the preceding taxable year.  A qualifiedindividual may claim a deduction of up to $2,000 per year for amounts he/she contributes tohis/her own FDA.  Any other person may deduct up to $1,000 per year for amounts contributed toan FDA established on behalf of a qualified individual.  Contributions to an FDA made on orbefore April 15th of a taxable year could be treated as made during the preceding taxable year. The proposal would permit (but not require) individuals to direct that the IRS directly deposittheir EITC refunds into an FDA on behalf of such individual. 

	The proposal would provide that an FDA is exempt from taxation (other than the unrelatedbusiness income tax imposed by present-law section 511).  Distributions from an FDA generallywould be included in the gross income of the distributee (and would be subject to an additional10-percent penalty tax(26)), but not if the distribution is used exclusively to pay (1) qualified post-secondary educational expenses, (2) certain first-home purchase costs, (3) certain qualifiedbusiness capitalization costs approved by a financial institution or by a nonprofit loan fund, or (4)qualified medical expenses.  Such qualified expenses must be incurred on behalf of the FDAaccount holder, or the spouse or dependent of the account holder.  

	In addition, the proposal would permit tax-free (and penalty-free) rollovers of amounts inan FDA into another such account established for the benefit of an individual who (1) both residesin a renewal community throughout the taxable year and was allowed to claim the earned incometax credit during the preceding taxable year, and (2) either is a spouse or dependent of the accountholder.

	The proposal also would provide that up to 25 percent of the renewal communities alsowill be designated by the Secretary of HUD as "FDA matching demonstration areas," with respectto which HUD would match amounts contributed to FDAs, up to $1,000 per individual pertaxable year (with a $2,000 lifetime cap).  The matching grant amounts made under thisdemonstration program would be excluded from the gross income of the account holder, and nodeduction would be allowed for matching grant amounts.  A 100-percent penalty would beimposed on a non-qualified distribution to the extent the distribution is attributable to the HUDmatching contributions.

Commercial revitalization credit.--The proposal would allow taxpayers to claim anonrefundable "commercial revitalization credit" (electing either (a) a 20-percent credit rate forthe year a qualified building is placed in service or (b) a five-percent credit rate for each yearduring a 10-year period after the building is placed in service) for costs (up to $10 million perbuilding) of constructing or substantially rehabilitating one or more buildings used for commercialpurposes in a designated renewal community, including costs for the acquisition of land inconnection with such buildings.  A qualified building must be located in a renewal communityand placed in service after December 31, 1999, and before January 1, 2007.  Under the proposal,each State would be allowed to allocate no more than $2 million worth of credits to each renewalcommunity located within the State for each calendar year.  

Additional section 179 expensing.--A renewal community business (which is similar to thepresent-law definition of an enterprise zone business) would be allowed an additional $35,000 ofsection 179 expensing for qualified renewal property placed in service after an area is designated arenewal community.  Thus, if a renewal community business is located in an area that isdesignated as both an empowerment zone and a renewal community, such business could beallowed an additional $55,000 of section 179 expensing (i.e., $20,000 of additional expensingbecause the area is designated an empowerment zone plus $35,000 of additional expensingbecause the area is designated a renewal community).  As under present law, the section 179expensing allowed to a taxpayer is phased out if the cost of section 179 property placed in serviceduring the year by the taxpayer exceeds $200,000.

Expensing of environmental remediation costs ("brownfields").--Under the proposal,taxpayers could elect to treat certain environmental remediation expenditures that wouldotherwise be chargeable to capital account as deductible in the year paid or incurred.  Theexpenditure must be incurred in connection with the abatement or control of environmentalcontaminants, as required by Federal and State law, at a trade or business site located within adesignated renewal community.  This proposal is substantially similar to the "brownfields"provision enacted as part of the 1997 Act, which allows taxpayers to expense certainenvironmental remediation expenditures on property located in an empowerment zone, enterprisecommunity, or certain other designated areas.  This provision would apply to expendituresincurred after December 31, 1999, and before January 1, 2007.

Extension of work opportunity tax credit.-- The proposal would provide the WorkOpportunity Tax Credit ("WOTC") on an elective basis for eligible employers who hireindividuals from one or more targeted groups that live and perform substantially all their work ina renewal community.  It would do this by extending the expiration date of the WOTC for suchemployees to December 31, 2006.(27)  Eligible employers would be those with a trade or business ina renewal community.  The credit generally equals 40 percent (25 percent for employment of lessthan 400 hours) of qualified wages.  Qualified wages consist of wages earned during the one-yearperiod beginning with the day the individual begins work for the employer.  Generally, no morethan $6,000 of wages is permitted to be taken into account with respect to any individual duringthe first year of employment.  Thus, the maximum credit per individual is $2,400.  With respect toqualified summer youth employees, the maximum credit generally is 40 percent of up to $3,000 ofqualified first-year wages, for a maximum credit of $1,200.

	Targeted groups eligible for the credit include: (1) certain individuals certified by thedesignated local employment agency as being a member of a family eligible to receive benefitsunder AFDC or its successor program; (2) certain ex-felons having a hiring date within one yearof release from prison or date of conviction; (3) individuals who are at least 18 but not 25 years ofage and have a principal place of abode within an empowerment zone, enterprise community, or renewal community; (4) individuals who are at least 18 but not 25 years of age who are certifiedas being a member of a family receiving assistance under a food stamp program under the FoodStamp Act of 1977 for a period of at least six months ending on the hiring date; (5) individualswho have a physical or mental disability that constitutes a substantial handicap to employmentand who have been referred to the employer while receiving, or after completing, vocationalrehabilitation services; (6) individuals who are 16 or 17 years of age, perform services during any90-day period between May 1 and September 15, and have a principal place of abode within anempowerment zone, enterprise community, or renewal community; (7) certain veterans whoreceive food stamps; and (8) recipients of certain ("SSI") Supplemental Security Income benefits.

**Effective Date**

	Although renewal communities would be designated within 24 months after publication ofcertain regulations by HUD, the tax benefits available in renewal communities generally would beeffective for the 7-year period beginning January 1, 2000, and ending December 31, 2006.

**IV.  EXTENSION OF EXPIRING PROVISIONS**

**A.  Extension of Research Tax Credit**

**Present Law**

**General rule**

	Section 41 provides for a research tax credit equal to 20 percent of the amount by which ataxpayer's qualified research expenditures for a taxable year exceeded its base amount for thatyear. The research tax credit expired and generally does not apply to amounts paid or incurredafter June 30, 1998.

	A 20-percent research tax credit also applied to the excess of (1) 100 percent of corporatecash expenditures (including grants or contributions) paid for basic research conducted byuniversities (and certain nonprofit scientific research organizations) over (2) the sum of (a) thegreater of two minimum basic research floors plus (b) an amount reflecting any decrease innonresearch giving to universities by the corporation as compared to such giving during afixed-base period, as adjusted for inflation. This separate credit computation is commonly referredto as the "university basic research credit" (see sec. 41(e)).

**Computation of allowable credit**

	Except for certain university basic research payments made by corporations, the researchtax credit applies only to the extent that the taxpayer's qualified research expenditures for thecurrent taxable year exceed its base amount. The base amount for the current year generally iscomputed by multiplying the taxpayer's "fixed-base percentage" by the average amount of thetaxpayer's gross receipts for the four preceding years. If a taxpayer both incurred qualifiedresearch expenditures and had gross receipts during each of at least three years from 1984 through1988, then its "fixed-base percentage" is the ratio that its total qualified research expenditures forthe 1984-1988 period bears to its total gross receipts for that period (subject to a maximum ratioof .16). All other taxpayers (so-called "start-up firms") are assigned a fixed-base percentage of 3percent.(28)

	In computing the credit, a taxpayer's base amount may not be less than 50 percent of itscurrent-year qualified research expenditures.

**Alternative incremental research credit regime**

	Taxpayers are allowed to elect an alternative incremental research credit regime. If ataxpayer elects to be subject to this alternative regime, the taxpayer is assigned a three-tieredfixed-base percentage (that is lower than the fixed-base percentage otherwise applicable underpresent law) and the credit rate likewise is reduced. Under the alternative credit regime, a creditrate of 1.65 percent applies to the extent that a taxpayer's current-year research expenses exceed abase amount computed by using a fixed-base percentage of 1 percent (i.e., the base amount equals1 percent of the taxpayer's average gross receipts for the four preceding years) but do not exceed abase amount computed by using a fixed-base percentage of 1.5 percent. A credit rate of 2.2percent applies to the extent that a taxpayer's current-year research expenses exceed a base amountcomputed by using a fixed-base percentage of 1.5 percent but do not exceed a base amountcomputed by using a fixed-base percentage of 2 percent. A credit rate of 2.75 percent applies tothe extent that a taxpayer's current-year research expenses exceed a base amount computed byusing a fixed-base percentage of 2 percent.  An election to be subject to this alternativeincremental credit regime may be made only for a taxpayer's first taxable year beginning afterJune 30, 1996, and such an election applies to that taxable year and all subsequent years (in theevent that the credit subsequently is extended by Congress) unless revoked with the consent of theSecretary of the Treasury.

**Eligible expenditures**

	Qualified research expenditures eligible for the research tax credit consist of: (1)"in-house" expenses of the taxpayer for wages and supplies attributable to qualified research; (2)certain time-sharing costs for computer use in qualified research; and (3) 65 percent of amountspaid by the taxpayer for qualified research conducted on the taxpayer's behalf (so-called "contractresearch expenses").(29)

	To be eligible for the credit, the research must not only satisfy the requirements ofpresent-law section 174 but must be undertaken for the purpose of discovering information that istechnological in nature, the application of which is intended to be useful in the development of anew or improved business component of the taxpayer, and must pertain to functional aspects,performance, reliability, or quality of a business component. 

	Expenditures attributable to research that is conducted outside the United States do notenter into the credit computation.  In addition, the credit is not available for research in the socialsciences, arts, or humanities, nor is it available for research to the extent funded by any grant,contract, or otherwise by another person (or governmental entity).

**Relation to deduction**

	Deductions allowed to a taxpayer under section 174 (or any other section) are reduced byan amount equal to 100 percent of the taxpayer's research tax credit determined for the taxableyear.  Taxpayers may alternatively elect to claim a reduced research tax credit amount undersection 41 in lieu of reducing deductions otherwise allowed (sec. 280C(c)(3)).

**Description of Proposal**

	The research tax credit would be extended for the period July 1, 1998, through February29, 2000.

	In addition, the credit rate applicable under the alternative incremental credit would beincreased by one percentage point per step, that is from 1.65 percent to 2.65 percent when ataxpayer's current-year research expenses exceed a base amount of 1 percent but do not exceed abase amount of 1.5 percent; from 2.2 percent to 3.2 percent when a taxpayer's current-yearresearch expenses exceed a base amount of 1.5 percent but do not exceed a base amount of 2percent; and from 2.75 percent to 3.75 percent when a taxpayer's current-year research expensesexceed a base amount of 2 percent.  

	Under the proposal, taxpayers would be permitted to elect the alternative incrementalresearch credit regime under section 41(c)(4) for any taxable year beginning after June 30, 1996,and such election would apply to that taxable year and all subsequent taxable years unless revokedwith the consent of the Secretary of the Treasury.

**Effective Date**

	Extension of the research credit would be effective for qualified research expenditurespaid or incurred during the period July 1, 1998, through February 29, 2000.  The increase in thecredit rate under the alternative incremental credit would be effective for taxable years beginningafter June 30, 1998.

**B.  Extension of the Work Opportunity Tax Credit**

**Present Law**

	The work opportunity tax credit is available on an elective basis for employers hiringindividuals from one or more of  eight targeted groups. The eight targeted groups are:  (1) families eligible to receive benefits under the Title IV-A Temporary Assistance for NeedyFamilies Program (the successor to the Aid to Families with Dependent Children Program); (2)high-risk youth; (3) qualified ex-felons; (4) vocational rehabilitation referrals; (5) qualifiedsummer youth employees; (6) qualified veterans; (7) families receiving food stamps; and (8)persons receiving certain Supplemental Security Income (SSI) benefits.

	The credit generally is equal to 40 percent (25 percent for employment of 400 hours orless) of qualified wages. Qualified wages consist of wages attributable to service rendered by amember of a targeted group during the 1-year period beginning with the day the individual beginswork for the employer.  For a vocational rehabilitation referral, however, the period begins on theday the individual begins work for the employer on or after the beginning of the individual'svocational rehabilitation plan.

	Generally, no more than $6,000 of wages during the first year of employment is permittedto be taken into account with respect to any individual. Thus, the maximum credit per individualis $2,400. With respect to qualified summer youth employees, the maximum credit is 40 percentof up to $3,000 of qualified first-year wages, for a maximum credit of $1,200.

	In general, an individual is not to be treated as a member of a targeted group unless: (1)onor before the day the individual begins work for the employer, the employer received in writing acertification from the designated local agency that the individual is a member of a specifictargeted group; or (2) on or before the day the individual is offered work with the employer, aprescreening notice is completed with respect to that individual by the employer and within 21days after the individual begins work for the employer, the employer submits such notice, signedby the employer and the individual under penalties of perjury, to the designated local agency aspart of a written request for certification. The prescreening notice will contain the informationprovided to the employer by the individual that forms the basis of the employer's belief that theindividual is a member of a targeted group.

	No credit is allowed for wages paid unless the eligible individual is employed by theemployer for at least 120 hours.  The credit percentage is 25 percent for employment of 400 hoursor less, assuming that the minimum employment period is satisfied with respect to that employee. For employment of more than 400 hours, the credit percentage is 40 percent.

	The credit was effective for wages paid or incurred to a qualified individual who beganwork for an employer before July 1, 1998.

**Description of Proposal**

	The proposal would extend the work opportunity tax credit through February 29, 2000.

**Effective Date
	The proposal would be effective for wages paid or incurred to a qualified individual whobegins work for an employer on or after July 1, 1998, and before March 1, 2000.

**C.  Extension of the Welfare-To-Work Tax Credit**

**Present Law**

	The Code provides to employers a tax credit on the first $20,000 of eligible wages paid toqualified long-term family assistance (AFDC or its successor program) recipients during the firsttwo years of employment.  The credit is 35 percent of the first $10,000 of eligible wages in thefirst year of employment and 50 percent of the first $10,000 of eligible wages in the second yearof employment.  The maximum credit is $8,500 per qualified employee.

	Qualified long-term family assistance recipients are: (1) members of a family that hasreceived family assistance for at least 18 consecutive months ending on the hiring date; (2)members of a family that has received family assistance for a total of at least 18 months (whetheror not consecutive) after the date of enactment of this credit if they are hired within 2 years afterthe date that the 18-month total is reached; and (3) members of a family who are no longereligible for family assistance because of either Federal or State time limits, if they are hired within2 years after the Federal or State time limits made the family ineligible for family assistance.

	Eligible wages include cash wages paid to an employee plus amounts paid by the employerfor the following: (1) educational assistance excludable under a section 127 program (or thatwould be excludable but for the expiration of sec. 127); (2) health plan coverage for the employee,but not more than the applicable premium defined under section 4980B(f)(4); and (3) dependentcare assistance excludable under section 129.

	The welfare to work credit is effective for wages paid or incurred to a qualified individualwho begins work for an employer on or after January 1, 1998, and before May 1, 1999.

**Description of Proposal**

	The proposal would extend the welfare-to-work credit effective for wages paid or incurredto a qualified individual who begins work for an employer on or after May 1, 1999, and beforeMarch 1, 2000.

**Effective Date**

	The proposal would be effective for wages paid or incurred to a qualified individual whobegins work for an employer on or after May 1, 1999, and before March 1, 2000.

**D.  Extend the Deduction Provided for Contributions of Appreciated Stock to Private Foundations; Public Inspection of Private Foundation Annual Returns**

**1.  Extend the deduction provided for contributions of appreciated stock to privatefoundations**

**Present Law**

	In computing taxable income, a taxpayer who itemizes deductions generally is allowed todeduct the fair market value of property contributed to a charitable organization.(30)  However, inthe case of a charitable contribution of short-term gain, inventory, or other ordinary incomeproperty, the amount of the deduction generally is limited to the taxpayer's basis in the property. In the case of a charitable contribution of tangible personal property, the deduction is limited tothe taxpayer's basis in such property if the use by the recipient charitable organization is unrelatedto the organization's tax-exempt purpose.

	In cases involving contributions to a private foundation (other than certain privateoperating foundations), the amount of the deduction is limited to the taxpayer's basis in theproperty.  However, under a special rule contained in section 170(e)(5), taxpayers are allowed adeduction equal to the fair market value of "qualified appreciated stock" contributed to a privatefoundation prior to June 30, 1998.  Qualified appreciated stock is defined as publicly traded stockwhich is capital gain property.  The fair-market-value deduction for qualified appreciated stockdonations applies only to the extent that total donations made by the donor to private foundationsof stock in a particular corporation did not exceed 10 percent of the outstanding stock of thatcorporation.  For this purpose, an individual is treated as making all contributions that were madeby any member of the individual's family. 

**Description of Proposal**

	The proposal would extend permanently the special rule contained in section 170(e)(5).

**Effective Date
	The proposal would be effective for contributions of qualified appreciated stock to privatefoundations made on or after July 1, 1998.

**2.  Public inspection of private foundation annual returns**

**Present Law
	Tax-exempt organizations (other than churches and certain small organizations) arerequired to file an annual information return (Form 990) with the Internal Revenue Service("IRS"), setting forth the organization's items of gross income and expenses attributable to suchincome, disbursements for tax-exempt purposes, plus certain other information for the taxableyear.

	Private foundations are required to make the current year's annual information returnavailable for public inspection at the foundation's principal office during regular business hours(sec. 6104(d)).  Such return must be made available for inspection by any citizen on request madewithin 180 days after the date of publication of notice of its availability.  Notices must bepublished not later than the day the return is required to be filed in a newspaper having generalcirculation in the county in which the principal office of the foundation is located.  The noticemust state that the annual return is available for public inspection by any citizen who requests it,and must state the address and telephone number of the private foundation's principal office andthe name of its principal manager.

	Other tax-exempt organizations that are required to file a Form 990, including publiccharities, are required to allow public inspection at the organization's principal office (and certainregional or district offices) of their annual information returns for the three most recent taxableyears (sec. 6104(e)).  In addition, upon written request to the IRS, members of the general publicare permitted to inspect annual information returns of tax-exempt organizations and applicationsfor recognition of tax-exempt status (and related documents) at the National Office of the IRS inWashington, D.C.  A person making such a written request is notified by the IRS when thematerial is available for inspection at the National Office, where notes may be taken of thematerial open for inspection, photographs taken with the person's own equipment, or copies ofsuch material obtained from the IRS for a fee (Treas. Reg. secs. 301.6104(a)-6 and 301.6104(b)-1).

	The Taxpayer Bill of Rights 2 imposed an additional public inspection requirement on tax-exempt organizations that file a Form 990 (other than private foundations).  Such organizationsare required to comply with requests made in writing or in person from individuals who seek acopy of the organization's Form 990 or the organization's application for recognition of tax-exempt status and certain related documents.  Upon such a request, the organization is required tosupply copies without charge other than a reasonable fee for reproduction and mailing costs.  If sorequested, copies must be supplied of the Forms 990 for any of the organization's three mostrecent taxable years.  If the request for copies is made in person, then the organization mustimmediately provide such copies.  If the request for copies is made in writing, then copies must beprovided within 30 days.  However, an organization may be relieved of its obligation to providecopies if, in accordance with regulations to be promulgated by the Secretary of Treasury, (1) theorganization has made the requested documents widely available or (2) the Secretary of theTreasury determined, upon application by the organization, that the organization was subject to aharassment campaign such that a waiver of the obligation to provide copies would be in the publicinterest.  These additional public inspection provisions generally apply to requests made no earlierthan 60 days after the date on which the Treasury Department publishes the anti-harassmentregulations required under the provisions.(31)  While proposed regulations have been issued, finalregulations have not been published; therefore, the provision is not yet in effect.(32)

**Description of Proposal**

	Under the proposal, private foundations would be subject to the public inspectionrequirements of section 6104(e) that currently apply to all tax-exempt organizations that fileannual information returns other than private foundations.  Accordingly, private foundationswould no longer be subject to the publication requirements of section 6104(d).

**Effective Date**

	The proposal would be effective for taxable years ending after December 31, 1998.

**E.  Exceptions Under Subpart F for Certain Active Financing Income
**Present Law**

**In general**

	Under the subpart F rules, certain U.S. shareholders of a controlled foreign corporation("CFC") are subject to U.S. tax currently on certain income earned by the CFC, whether or notsuch income is distributed to the shareholders. The income subject to current inclusion under thesubpart F rules includes, among other things, "foreign personal holding company income" andinsurance income. The U.S. 10-percent shareholders of a CFC also are subject to current inclusionwith respect to their shares of the CFC's foreign base company services income (i.e., incomederived from services performed for a related person outside the country in which the CFC isorganized).

	Foreign personal holding company income generally consists of the following: dividends,interest, royalties, rents and annuities; net gains from the sale or exchange of (1) property thatgives rise to the preceding types of income, (2) property that does not give rise to income, and (3)interests in trusts, partnerships, and REMICs; net gains from commodities transactions; net gainsfrom foreign currency transactions; income that is equivalent to interest; income from notionalprincipal contracts; and payments in lieu of dividends.

	Insurance income subject to current inclusion under the subpart F rules includes anyincome of a CFC attributable to the issuing or reinsuring of any insurance or annuity contract inconnection with risks located in a country other than the CFC's country of organization. Subpart Finsurance income also includes income attributable to an insurance contract in connection withrisks located with the CFC's country of organization, as the result of an arrangement under whichanother corporation receives a substantially equal amount of consideration for insurance of other-country risks. Investment income of a CFC that is allocable to any insurance or annuity contractrelated to risks located outside the CFC's country of organization is taxable as subpart F insuranceincome (Prop. Treas. Reg. sec. 1.953-1(a)).

	Temporary exceptions from foreign personal holding company income and foreign basecompany services income apply for subpart F purposes for certain income that is derived in theactive conduct of a banking, financing, insurance, or similar business. These exceptions(described below) are applicable only for taxable years beginning in 1998.

**Income from the active conduct of a banking, financing, or similar business**

	A temporary exception from foreign personal holding company income applies to incomethat is derived in the active conduct of a banking, financing or similar business by a CFC that ispredominantly engaged in the active conduct of such business. For this purpose, income derivedin the active conduct of a banking, financing or similar business generally is determined under theprinciples applicable in determining financial services income for foreign tax credit limitationpurposes. However, in the case of a corporation that is engaged in the active conduct of a bankingor securities business, the income that is eligible for this exception is determined under theprinciples applicable in determining the income which is treated as nonpassive income forpurposes of the passive foreign investment company provisions. In this regard, the income of acorporation engaged in the active conduct of a banking or securities business that is eligible forthis exception is the income that is treated as nonpassive under the regulations proposed undersection 1296(b) (as in effect prior to the enactment of the Taxpayer Relief Act of 1997). See Prop.Treas. Reg. secs. 1.1296-4 and 1.1296-6. The Secretary of the Treasury is directed to prescriberegulations applying look-through treatment in characterizing for this purpose dividends, interest,income equivalent to interest, rents and royalties from related persons.

	For purposes of the temporary exception, a corporation is considered to be predominantlyengaged in the active conduct of a banking, financing or similar business if it is engaged in theactive conduct of a banking or securities business or is a qualified bank affiliate or qualifiedsecurities affiliate. In this regard, a corporation is considered to be engaged in the active conductof a banking or securities business if the corporation would be treated as so engaged under theregulations proposed under prior law section 1296(b) (as in effect prior to the enactment of theTaxpayer Relief Act of 1997); qualified bank affiliates and qualified securities affiliates are asdetermined under such proposed regulations. See Prop. Treas. Reg. secs. 1.1296-4 and 1.1296-6.

	Alternatively, a corporation is considered to be engaged in the active conduct of a banking,financing, or similar business if more than 70 percent of its gross income is derived from suchbusiness from transactions with unrelated persons located within the country under the laws ofwhich the corporation is created or organized. For this purpose, income derived by a qualifiedbusiness unit ("QBU") of a corporation from transactions with unrelated persons located in thecountry in which the QBU maintains its principal office and conducts substantial business activityis treated as derived by the corporation from transactions with unrelated persons located withinthe country in which the corporation is created or organized. A person other than a natural personis considered to be located within the country in which it maintains an office through which itengages in a trade or business and by which the transaction is effected. A natural person is treatedas located within the country in which such person is physically located when such person entersinto the transaction.

**Income from the active conduct of an insurance business**

	A temporary exception from foreign personal holding company income applies for certaininvestment income of a qualifying insurance company with respect to risks located within theCFC's country of creation or organization. These rules differ from the rules of section 953 of theCode, which determines the subpart F inclusions of a U.S. shareholder relating to insuranceincome of a CFC. Such insurance income under section 953 generally is computed in accordancewith the rules of subchapter L of the Code.

	A temporary exception applies for income (received from a person other than a relatedperson) from investments made by a qualifying insurance company of its reserves or 80 percent ofits unearned premiums. For this purpose, in the case of contracts regulated in the country in whichsold as property, casualty or health insurance contracts, unearned premiums and reserves aredefined as unearned premiums and reserves for losses incurred determined using the methods andinterest rates that would be used if the qualifying insurance company were subject to tax undersubchapter L of the Code. Thus, for this purpose, unearned premiums are determined inaccordance with section 832(b)(4), and reserves for losses incurred are determined in accordancewith section 832(b)(5) and 846 of the Code (as well as any other rules applicable to a U.S.property and casualty insurance company with respect to such amounts).

	In the case of a contract regulated in the country in which sold as a life insurance orannuity contract, the following three alternative rules for determining reserves apply. Any one ofthe three rules can be elected with respect to a particular line of business.

	First, reserves for such contracts can be determined generally under the rules applicable todomestic life insurance companies under subchapter L of the Code, using the methods therespecified, but substituting for the interest rates in Code section 807(d)(2)(B) an interest ratedetermined for the country in which the qualifying insurance company was created or organized,calculated in the same manner as the mid-term applicable Federal interest rate ("AFR") (withinthe meaning of section 1274(d)).

	Second, the reserves for such contracts can be determined using a preliminary term foreignreserve method, except that the interest rate to be used is the interest rate determined for thecountry in which the qualifying insurance company was created or organized, calculated in thesame manner as the mid-term AFR. If a qualifying insurance company uses such a preliminaryterm method with respect to contracts insuring risks located in the country in which the companyis created or organized, then such method is the method that applies for purposes of this election.

	Third, reserves for such contracts can be determined to be equal to the net surrender valueof the contract (as defined in section 807(e)(1)(A)).

	In no event can the reserve for any contract at any time exceed the foreign statementreserve for the contract, reduced by any catastrophe or deficiency reserve. This rule applieswhether the contract is regulated as a property, casualty, health, life insurance, annuity or anyother type of contract.

	A temporary exception from foreign personal holding company income also applies forincome from investment of assets equal to: (1) one-third of premiums earned during the taxableyear on insurance contracts regulated in the country in which sold as property, casualty, or healthinsurance contracts; and (2) the greater of 10 percent of reserves, or, in the case of a qualifyinginsurance company that is a startup company, $10 million. For this purpose, a startup company isa company (including any predecessor) that has not been engaged in the active conduct of aninsurance business for more than 5 years. In general, the 5-year period commences when theforeign company first is engaged in the active conduct of an insurance business. If the foreigncompany was formed before being acquired by the U.S. shareholder, the 5-year period commenceswhen the acquired company first was engaged in the active conduct of an insurance business. Inthe event of the acquisition of a book of business from another company through an assumption orindemnity reinsurance transaction, the 5-year period commences when the acquiring company firstengaged in the active conduct of an insurance business, except that if more than a substantial part(e.g., 80 percent) of the business of the ceding company is acquired, then the 5-year periodcommences when the ceding company first engaged in the active conduct of an insurancebusiness. Reinsurance transactions among related persons may not be used to multiply the numberof 5-year periods.

	Under rules prescribed by the Secretary, income is allocated to contracts as follows. In thecase of contracts that are separate-account-type contracts (including variable contracts not meetingthe requirements of sec. 817), only the income specifically allocable to such contracts are takeninto account. In the case of other contracts, income not specifically allocable is allocated ratablyamong such contracts.

	A qualifying insurance company is defined as any entity which: (1) is regulated as aninsurance company under the laws of the country in which it is incorporated; (2) derives at least50 percent of its net written premiums from the insurance or reinsurance of risks situated withinits country of incorporation; and (3) is engaged in the active conduct of an insurance business andwould be subject to tax under subchapter L if it were a domestic corporation.

	The temporary exceptions do not apply to investment income (includable in the income ofa U.S. shareholder of a CFC pursuant to sec. 953) allocable to contracts that insure related partyrisks or risks located in a country other than the country in which the qualifying insurancecompany is created or organized.

**Anti-abuse rule**

	An anti-abuse rule applies for purposes of these temporary exceptions. For purposes ofapplying these exceptions, items with respect to a transaction or series of transactions aredisregarded if one of the principal purposes of the transaction or transactions is to qualify incomeor gain for these exceptions, including any change in the method of computing reserves or anyother transaction or transactions one of the principal purposes of which is the acceleration ordeferral of any item in order to claim the benefits of these exceptions.

**Foreign base company services income**

	A temporary exception from foreign base company services income applies for incomederived from services performed in connection with the active conduct of a banking, financing,insurance or similar business by a CFC that is predominantly engaged in the active conduct ofsuch business or is a qualifying insurance company.

**Description of Proposal**

**In general**

	The proposal would modify the present-law temporary exceptions from subpart F forincome that is derived in the active conduct of a banking, financing, insurance or similar business.These exceptions (as modified) would be applicable only for taxable years beginning in 1999.

	With respect to income derived in the active conduct of a banking, financing, or similarbusiness, the proposal differs from the present-law temporary exceptions in the followingsignificant respects. First, the proposal would require a CFC to conduct substantial activity withrespect to its business in order to qualify for the exceptions. Second, the proposal would addcertain nexus requirements which would require that income which is derived by a CFC or QBUfrom transactions with customers would be eligible for the exceptions if, among other things,substantially all of the activities in connection with such transactions are conducted directly by theCFC or QBU in its home country, and such income is treated as earned by the CFC or QBU in itshome country for purposes of such country's tax laws. Third, the proposal would modify the testsfor determining whether a CFC is predominantly engaged in the active conduct of a banking,financing, or similar business, including modifications for income derived from a lending orfinance business. Fourth, the proposal would extend the exceptions to income derived fromcertain cross-border transactions, provided that certain requirements are met.  Fifth, thedetermination of where a customer is treated as located would be made under rules prescribed bythe Secretary of the Treasury. Finally, the look-through rule that was included in the present-lawprovision for purposes of determining the income eligible for the exceptions would be eliminated.

	In the case of insurance, the proposal differs from present law in the following significantrespects.  In addition to the exception for certain income of a qualifying insurance company withrespect to risks located within the CFC's country of creation or organization that is providedunder present law, the proposal would provide additional exceptions. First, the proposal wouldprovide temporary exceptions from insurance income and from foreign personal holding companyincome for certain income of a qualifying branch of a qualifying insurance company with respectto risks located within the home country of the branch, provided certain requirements are metunder each of the exceptions.  Further, the proposal would add additional temporary exceptionsfrom insurance income and from foreign personal holding company income for certain income ofcertain CFCs or branches with respect to risks located in any country other than the U.S., providedthat requirements for these exceptions are met.

**Income from the active conduct of a banking, financing or similar business**

Substantial activity requirement

	The proposal would modify the exceptions from subpart F for income derived in the activeconduct of a banking, financing, or similar business by, among other things, incorporating asubstantial activity requirement. Under the proposed modifications, the subpart F exceptionswould apply to a CFC that is an eligible controlled foreign corporation (an "eligible CFC").  Aneligible CFC would be defined as a CFC which is predominantly engaged in the active conduct ofa banking, financing, or similar business, but only if it conducts substantial activity with respect tosuch business. 

	Whether a CFC would be considered to conduct substantial activity with respect to abanking, financing, or similar business would be determined under all the facts and circumstances.It would be intended that as part of this facts and circumstances analysis in determining whetherthe activities conducted by the CFC are substantial, all relevant factors would be taken intoaccount, including the overall size of the CFC, the amount of its revenues and expenses, thenumber of its employees, the ratio of its revenues per employee, the amount of property it owns,and the nature, size, and relevant significance of the applicable activities conducted by the CFC.Under the proposal, the Secretary would be granted the authority to prescribe regulations to carryout the purposes of these exceptions. It would be intended that such authority would include theauthority to prescribe regulations relating to whether a CFC (or, as relevant, a QBU) would beconsidered to conduct substantial activity.

	It also would be intended that as part of this facts and circumstances analysis, a CFCwould be required to conduct substantially all of the activities necessary for the generation ofincome with respect to the business, which generally would include the following:
- 	initial solicitation of customers (including vendors);
- 	advising customers on financial needs, including funding and financial products; 
- 	providing financial and technical advice to customers; 
- 	designing or tailoring financial products to customers' needs;
- 	negotiating terms with customers;
- 	performing credit analysis on customers and evaluating noncredit risks;
- 	providing related services to customers;
- 	making loans, entering into leases, extending credit or entering into other transactionswith customers that generate income that would be considered derived in the activeconduct of a banking, financing, or similar business;
- 	collecting from customers;
- 	performing remarketing activities (including sales) following termination of transactionswith customers;
- 	responding to customers' failure to satisfy their obligations under transactions, includingenforcement or renegotiation of terms, liquidation of collateral, foreclosure, and/orinstitution of litigation; and 
- 	holding collateral for transactions with customers.

It would be intended that the performance of back-office functions (including accounting forincome or loss, recordkeeping, and communicating with customers) not be taken into account indetermining whether the substantial activity requirement is satisfied. It also would be intendedthat the relevant activities of the business may be modified by Treasury regulation to take intoaccount future changes in the operations of these businesses.

	In general, the substantial activity requirement would be applied based on the activities ofthe CFC as a whole, including the activities of any QBUs of the CFC. In determining whether thesubstantial activity requirement would be satisfied, activities performed in the country in whichthe CFC is incorporated (or in the country in which the QBU has its principal office) byemployees of a related person of the CFC would be taken into account, to the extent that therelated person is compensated on an arm's-length basis for the services of such employees andsuch compensation is includible in the related person's income in such country for purposes ofsuch country's income tax laws. For this purpose, a related person would have the meaningprovided in section 954(d)(3), substituting "at least 80 percent" for "more than 50 percent." Itwould be intended that the activities of such a related person would not again be taken intoaccount in determining whether another CFC or QBU (e.g., the related person) satisfies thesubstantial activity requirement.

	Predominantly engaged requirement

	The proposal also would modify the rules for determining whether a CFC is predominantlyengaged in the active conduct of a banking, financing, or similar business. Different rules wouldapply to banks and financing or similar businesses for this purpose.

	Banking business

	Under the present-law provision, a CFC is considered to be predominantly engaged in theactive conduct of banking, financing, or similar business if the CFC is engaged in the activeconduct of a banking business within the meaning of section 1296(b) (as in effect prior to theenactment of the Taxpayer Relief Act of 1997), or is a qualified bank affiliate within the meaningof the proposed regulations under former section 1296(b). See Prop. Treas. Reg. sec. 1.1296-4.The proposal would modify the application of the banking business test for determining whether aCFC is predominantly engaged in the active conduct of a banking, financing or similar business.Under the proposal, a CFC would be considered to be predominantly engaged in the activeconduct of a banking, financing, or similar business if it is engaged in the active conduct of abanking business and is an institution licensed to do business as a bank in the United States (or isany other corporation not so licensed which is specified in regulations). In this regard, it generallywould be intended that these requirements for the active conduct of a banking business would beinterpreted in the manner provided in the regulations proposed under former section 1296(b). SeeProp. Treas. Reg. sec. 1.1296-4.  However, it would not be intended that this requirement beconsidered to be satisfied by a CFC merely because it is a qualified bank affiliate within themeaning of the proposed regulations under former section 1296(b).

	Lending or finance business

	Under the present-law provision, a CFC is considered to be predominantly engaged in theactive conduct of a banking, financing, or similar business if more than 70 percent of its grossincome is derived from such business from transactions with unrelated persons located within theCFC's country of creation or organization. For this purpose, income derived by a QBU of the CFCfrom transactions with unrelated persons located within the country in which the QBU maintainsits principal office are taken into account in satisfying this test if the QBU conducts substantialbusiness activity.

	The proposal would modify this test for determining whether a CFC is predominantlyengaged in the active conduct of a banking, financing, or similar business. Under the proposal, aCFC would be considered to be predominantly engaged in the active conduct of such business ifmore than 70 percent of its gross income is derived directly from the active and regular conduct ofa lending or finance business from transactions with customers which are unrelated persons. Forthis purpose, a CFC would be considered to be engaged in a lending or finance business if it isengaged in the business of:

	(1) making loans;

	(2) purchasing or discounting accounts receivable, notes, or installment obligations;

	(3) engaging in leasing (including entering into leases and purchasing, servicing anddisposing of leases and leased assets);

	(4) issuing letters of credit and providing guarantees;

	(5) providing charge and credit card services;

	(6) rendering services or making facilities available in connection with the foregoingactivities carried on by the corporation rendering such services or facilities, or by anothercorporation which is a member of the same affiliated group.

For this purpose, whether two corporations are affiliated would be determined by reference tosection 1504 with one modification: the exclusion for foreign corporations would be disregarded.

Qualified banking or financing income exempt from subpart F

In general

	If the CFC would be treated as an eligible CFC (i.e., it satisfies the substantial activity andpredominantly engaged requirements), the subpart F exceptions would apply to so-called qualifiedbanking or financing income of such corporation. In general, qualified banking or financingincome would be defined as income which is derived in the active conduct of a banking,financing, or similar business by an eligible CFC or a QBU of such CFC if: (1) the income isderived from transactions with customers not located in the United States, (2) substantially all ofthe activities in connection with such transactions are conducted directly by the corporation orunit in its home country, and (3) the income is treated as earned by such corporation or unit in itshome country for purposes of such country's tax laws. For this purpose, income would beconsidered to be earned by a CFC or a QBU in its home country if such income is sourced andallocable to such CFC or QBU in its home country for purposes of such country's tax laws. Inaddition, for this purpose, activities would be considered to be conducted by a CFC or QBU ifsuch activities are performed by employees of the CFC or QBU. Except as provided byregulations, a CFC's home country would be defined as its country of creation or organization,and a QBU's home country would be defined as the country in which the unit maintains itsprincipal office. It would be intended that income derived from transactions with customers wouldapply only to transactions with customers acting in their capacity as such.

	In general, qualified banking or financing income of an eligible CFC or QBU of such CFCwould be determined separately for the CFC and each QBU, taking into account, in the case of aneligible CFC, only items of income, gain, deduction, loss or other items, as well as activities, ofsuch CFC that is not properly allocable to any QBUs. Similarly, in the case of a QBU, qualifiedbanking or financing income would be determined by taking into account such applicable items(e.g., income and activities) that are properly allocable to such QBU. Under the proposal, theSecretary would be granted the authority to prescribe regulations to carry out the purposes of theseexceptions. It would be intended that such authority would include the authority to prescriberegulations for properly allocating such items among branches or units of a CFC, and between theCFC and its branches or units.

Income from local customer transactions

	If the requirements above are satisfied, the exceptions would apply to income that isderived from transactions with customers located in the CFC's home country. In addition, theexceptions would apply to income that is derived by a QBU of an eligible CFC from transactionswith customers located in the QBU's home country.

	For example, assume that a CFC is incorporated in the United Kingdom and hasoperations in France that constitute a QBU. Also assume that the activities of the U.K. CFC'shead office together with the activities of the French QBU satisfy the substantial activityrequirement. Under the proposal, income derived by the U.K. CFC from transactions withcustomers in the United Kingdom would be eligible for the exceptions if substantially all of theactivities in connection with the transaction were performed in the United Kingdom by employeesof the U.K. CFC, and the income was treated as earned by the U.K. CFC in the United Kingdomfor U.K. income tax purposes. In addition, income derived by the French QBU from transactionswith customers in France would be eligible for the exceptions if substantially all of the activitiesin connection with the transactions were performed in France by employees of the French QBU,and the income was treated as earned by the French QBU in France for French income taxpurposes.

Income from cross border transactions

	If the requirements above are satisfied, the exceptions also would apply to income fromcertain cross border transactions, but only if a higher standard with respect to the substantialactivity requirement is satisfied. Under the proposal, income derived by a CFC from transactionswith customers not located in the CFC's home country or the United States would be eligible forthe exceptions if the CFC conducts substantial activity with respect to a banking, financing, orsimilar business in its home country. In addition, income derived by a QBU of an eligible CFCfrom transactions with customers not located in the QBU's home country or the United Stateswould be eligible for the exceptions, but only if the QBU conducts substantial activity withrespect to such a business in its home country. For this purpose, the substantial activityrequirement would be applied by looking only at the activities of the applicable CFC or QBU on astand-alone basis. Thus, income derived by a QBU from transactions with customers not locatedin its home country (or in the United States) would be eligible for the exceptions if the activitiesof the QBU itself constitute substantial activities (provided that the other requirements aresatisfied).

	Consider again the U.K. CFC and the French QBU. If the head office of the U.K. CFCderives income from a transaction with a customer in Germany, the income would be eligible forthe exceptions if the activities of the CFC itself (without regard to those of the French QBU)satisfy the substantial activity requirement. Alternatively, if the French QBU derives income froma transaction with a German customer, the income would be eligible for the exceptions if theactivities of the French QBU itself satisfy the substantial activity requirement.

Home country requirement for income earned with respect to a lending or financebusiness

	In the case of a lending or finance business, in addition to the requirements describedabove, the proposal would include an additional requirement to qualify for these incomeexceptions in the case of income earned by a CFC that is an eligible CFC which satisfies thepredominantly engaged requirement for an active lending or finance business. For such an eligibleCFC, income derived by such CFC would be eligible for the exceptions only if such CFC derivesmore than 30 percent of its gross income directly from the active and regular conduct of a lendingor finance business from transactions with customers that are unrelated persons and that arelocated within the CFC's home country (the "home country" requirement). In addition, incomederived by a QBU of such an eligible CFC would be eligible for the exceptions only if such QBUderives more than 30 percent of its gross income directly from the active and regular conduct of alending or finance business from transactions with customers that are unrelated persons and thatare located within the QBU's home country.

	The home country requirement would be applied on a stand-alone basis to the particularCFC or QBU; thus, the 30 percent gross income test would take into account only the grossincome of a particular CFC (without regard to the income of its QBUs) from transactions with itshome-country unrelated customers, or the gross income of a particular QBU (without regard to theincome of the CFC or other QBUs) from transactions with its home country unrelated customers.Accordingly, if more than 70 percent of the CFC's gross income is derived directly from theactive and regular conduct of a lending or finance business from transactions with unrelatedcustomers, and one of the CFC's QBUs satisfies the home country requirement but another QBUdoes not satisfy such requirement, income derived by the QBU that satisfies the home countryrequirement would be eligible for the exceptions from subpart F (provided that the otherrequirements are satisfied), but income derived by the other QBU would not be eligible for theexceptions.

**Exception for securities dealers**

	Under the present-law provision, a CFC is considered to be predominantly engaged in theactive conduct of a banking, financing, or similar business if the CFC is engaged in the activeconduct of a securities business within the meaning of section 1296(b) (as in effect prior to theenactment of the Taxpayer Relief Act of 1997), or is a qualified securities affiliate within themeaning of the regulations proposed under former section 1296(b). See Prop. Treas. Reg. sec.1.1296-6.

	Under the proposal, the securities business test for determining whether a CFC ispredominantly engaged in the active conduct of a banking, financing, or similar business would beeliminated. In replacement of these rules, the proposal would provide an additional exceptionfrom the definition of foreign personal holding company income for certain income derived by asecurities dealer within the meaning of section 475. This exception would apply to interest ordividends (or equivalent amounts described in sec. 954(c)(1)(E) or (G)) from any transaction(including a hedging transaction or a transaction consisting of a deposit of collateral or margindescribed in sec. 956(c)(2)(J)) entered into in the ordinary course of the dealer's trade or businessas such a securities dealer, but only if the income is attributable to activities of the dealer in thecountry in which the dealer is created or organized (or, in the case of a QBU of the dealer, isattributable to activities of the QBU in the country in which the QBU both maintains its principaloffice and conducts substantial business activity). For this purpose, income would be consideredto be attributable to activities of the dealer in its country of incorporation (or to a QBU in thecountry in which the QBU both maintains its principal office and conducts substantial businessactivity), if such income is attributable to activities performed in such country by employees of thedealer (or QBU), and such income is treated as earned in such country by the dealer (or QBU) forpurposes of such country's tax laws. For this purpose, income would be considered to be earned inthe country in which the dealer is created or organized (or, in the case of a QBU, in the country inwhich the QBU both maintains its principal office and conducts substantial business activity), ifsuch income is sourced and allocable to such dealer (or QBU) in such country for purposes ofsuch country's tax laws.

**Insurance income**

	The proposal would provide a temporary exception to insurance income under section 953. The exception does not apply to related person insurance income to which section 953(c) applies.For purposes of the exception to insurance income, reserves for any insurance or annuity contractwould be determined in the same manner as under the exception, described below, for foreignpersonal holding company income relating to insurance (sec. 954(i), as added by the proposal). For purposes of these provisions, reserves would be intended to include discounted unpaid lossesor losses incurred, as appropriate, for property and casualty contracts.

Operation of the exception

	The proposal would provide an exception from insurance income for income derived by aqualifying insurance company that is attributable to the issuing (or reinsuring) of an exempt contract by the qualifying insurance company or a qualifying insurance company branch of such acompany, and that is treated as earned by the company or branch in its home country for purposesof that country's tax laws.  The exception from insurance income would not apply to incomeattributable to the issuing (or reinsuring) of an exempt contract as the result of any arrangementwhereby another corporation receives a substantially equal amount of premiums or otherconsideration in respect of issuing (or reinsuring a contract that is not an exempt contract).  Forthis purpose, an exempt contract would be an insurance or annuity contract issued or reinsured bya qualifying insurance company or qualified insurance company branch in connection withproperty in, liability arising out of activity in, or the lives or health of residents of, a country otherthan the United States.

	No contract would be treated as an exempt contract unless the qualifying insurancecompany or branch derives more than 30 percent of its net written premiums from exemptcontracts (determined without regard to this sentence) covering applicable home country risks,and with respect to which no policyholder, insured, annuitant, or beneficiary is a related person(within the meaning sec. 954(d)(3)).  Applicable home country risks are risks in connection withproperty in, liability arising out of activity in, or the lives or health of residents of, the homecountry of the qualifying insurance company or branch, as the case may be. In all cases, the 30percent test is applied on a unit-by-unit basis.  Accordingly, income derived by a qualifyinginsurance company branch of a CFC qualifies only if such branch alone satisfies the 30 percenttest (without regard to the net written premiums of any other branch).  Income derived by the CFCqualifies only if the CFC alone satisfies the 30 percent test without regard to the net writtenpremiums of any other unit or branch of the CFC.

	When the CFC and a branch are tested separately, then in the case of the CFC, onlyincome and activities of the CFC not properly allocable to any QBU would be taken into account. In the case of a QBU, only income and activities of the QBU would be taken into account for thispurpose.  It would be intended that the Treasury Secretary prescribe rules for allocating itemsamong QBUs and between a CFC and its QBUs.

	The home country of a CFC would be the country in which the CFC is created ororganized.  The home country of a QBU that is a qualifying insurance company branch of aqualifying insurance company means the country in which the principal office of such unit islocated and in which such unit is licensed, authorized, or regulated by the applicable insuranceregulatory body to sell insurance, reinsurance or annuity contracts to persons other than relatedpersons (within the meaning of sec. 954(d)(3)) in that country.

Qualifying insurance company

	A qualifying insurance company would be a CFC that meets the following requirements. The first requirement is that the CFC be subject to regulation as an insurance (or reinsurance)company by its home country.

	The second requirement is that the CFC derive more than 50 percent of its aggregate netwritten premiums from the insurance or reinsurance by the CFC (on an aggregate basis, includingqualifying insurance company branches) covering applicable home country risks (as describedabove) of the CFC or branch, as the case may be, provided that no policyholder, insured,annuitant, or beneficiary is a related person. A related person would have the meaning set forth insection 954(d)(3). In the case of a qualifying insurance company branch, premiums are taken intoaccount under this second requirement only to the extent the premiums are treated as earned bythe branch in its home country for purposes of that country's tax laws.

	The third requirement is that the CFC be engaged in the insurance business and that itwould be subject to tax under subchapter L if it were a domestic corporation.  A CFC would beconsidered to be engaged in the insurance business, within the meaning of this provision, if itoperates in a manner consistent with the operation of other bona fide commercial insurancecompanies that sell insurance products to unrelated parties in its home country, and conductsmanagerial activities in that country with respect to the major functions of the insurance business. For this purpose, activities performed in the home country of the CFC by employees of the CFCand of a related person would be taken into account, to the extent that the related person iscompensated on a arm's length basis for the services of such employees and such compensation isincludible in the related person's income in such country for purposes of that country's tax laws. For this purpose, a related person would have the meaning provided in section 954(d)(3),substituting "at least 80 percent" for "more than 50 percent."  In determining whether a CFC isengaged in the insurance business, for example, an entity that is not engaged in regular andcontinuous transactions with persons that are not related persons (as described in the generallyapplicable anti-abuse rules) would not be considered as engaged in the insurance business.

	The last requirement is that the CFC be licensed, authorized, or regulated by the applicableinsurance regulatory body for its home country to sell insurance, reinsurance, or annuity contractsto persons other than related persons (within the meaning of section 954(d)(3)) in its homecountry.

Qualifying insurance company branch

	A qualifying insurance company branch would be a qualified business unit of a CFC thatmeets two requirements.  A qualified business unit would mean any separate and clearly identifiedunit of a trade or business of a taxpayer which maintains separate books and records (within themeaning of sec. 989(a)).  The first requirement would be that the unit be licensed, authorized, orregulated by the applicable insurance regulatory body for its home country to sell insurance,reinsurance or annuity contracts to persons other than related persons (within the meaning of sec.954(d)(3)) in that country.  The second requirement would be that the CFC (of which the branch isa unit) be a qualifying insurance company, taking the unit into account as if it were a qualifyinginsurance company branch.

	Additional requirements in the case of cross border risks

	The proposal would impose additional requirements with respect to any contract thatcovers cross border risks (that is, risks other than applicable home country risks). A contractissued by a qualifying insurance company or qualifying insurance company branch that coversrisks other than applicable home country risks would not be treated as an exempt contract unlesssuch company or branch, as the case may be, (1) conducts substantial activity in its home countrywith respect to the insurance business, and (2) performs in its home country substantially all of theactivities necessary to give rise to the income generated by the contract.

	Whether a CFC or unit thereof would be considered to perform in its home countrysubstantial activities with respect to the insurance business would be determined under all thefacts and circumstances. It would be intended that as part of this facts and circumstances analysisin determining whether the activities conducted by the CFC or unit are substantial, all relevantfactors would be taken into account, including the overall size of the CFC or unit, the amount ofits revenues and expenses, the number of its employees, the ratio of its revenues per employee, theamount of property it owns, and the nature, size and significance of the applicable activitiesconducted by the CFC or unit.  Under the proposal, the Secretary would be granted the authorityto carry out the purposes of these exceptions.  It would be intended that such authority wouldinclude the authority to prescribe regulations relating to whether a CFC or unit would beconsidered to conduct substantial activity.

	It also would be intended that as part of this facts and circumstances analysis, a CFC orunit would be required to conduct substantially all of the activities necessary for the generation ofincome with respect to the insurance business. Such activities of an insurance business generallywould depend on the line of business, and generally would include:
- designing or tailoring insurance products to meet market or customer requirements;
- performing actuarial analysis with respect to insurance products;
- performing underwriting functions with respect to insurance products;
- performing analysis for purposes of risk assessment;
- performing analysis for purposes of setting premium rates;
- performing analysis for purposes of calculating reserves;
- performing claims management and adjustment functions;
- developing marketing strategies, advertising and other public image activities;
- making (or arranging for) sales to customers;
- maintaining reserves and surplus (other than excess surplus);
- making (or arranging for) investments; and
- collecting from customers.

It would be intended that the performance of back-office functions (including accounting forincome or loss, recordkeeping, and communicating with customers) not be taken into account indetermining whether the substantial activity requirement is satisfied. It also would be intendedthat the relevant activities of the business may be modified by Treasury regulation to take intoaccount the actual operation of lines of insurance business, and to take account of future changesin the operation of lines of insurance business.

	It would be intended that activities performed in the CFC's or unit's home country byemployees of a related person (within the meaning of  sec. 954(d)(3), substituting "at least 80percent" for "more than 50 percent") be taken into account, to the extent that the related person iscompensated on an arm's length basis for the services of such employees and such compensationis includible in the related person's income in that country for purposes of such country's taxlaws. It also would be intended that the activities of such a related person would not again betaken into account in determining whether another CFC or unit (e.g., the related person) satisfiesthe substantial activity requirement.

	In addition, the qualifying insurance company or qualifying insurance company branchthat covers risks other than applicable home country risks would be required to perform in itshome country substantially all of the activities necessary to give rise to the income generated bythe contract.

**Foreign personal holding company income with respect to insurance**

	The proposal would provide an exception from foreign personal holding income forcertain investment income derived by a qualifying insurance company and by certain qualifyinginsurance company branches.  Income of a qualifying insurance company branch would comewithin this exception if the income were to satisfy the exception under the condition that suchbranch were treated as a qualifying insurance company whose home country is such branch'shome country.

	The exception applies to income (received from a person other than a related person) frominvestments made by a qualifying insurance company or qualifying insurance company branch ofits reserves allocable to exempt contracts or 80 percent of its unearned premiums from exemptcontracts.  For this purpose, an exempt contract has the meaning provided under the proposal.

	In the case of exempt contracts that are property, casualty, or health insurance contracts,unearned premiums and reserves would mean unearned premiums and reserves for losses incurreddetermined using the methods and interest rates that would be used if the qualifying insurancecompany or qualifying insurance company branch were subject to tax under subchapter L of theCode, with certain modifications. For this purpose, unearned premiums and losses incurred wouldbe determined in accordance with section 832(b) and 846 of the Code (as well as any other rulesapplicable to a U.S. property and casualty insurance company with respect to such amounts). However, in applying these rules, there would be substituted for the applicable Federal interestrate the interest rate determined for the functional currency of the company's or branch's homecountry and which (except as provided by the Treasury Secretary) is calculated in the samemanner as the Federal mid-term rate under section 1274(d).  In addition, there would besubstituted for the loss payment pattern under section 846 the foreign loss payment patterndetermined by the Treasury Secretary for the line of business.

	In the case of an exempt contract that is a life insurance or annuity contract, reserves forsuch contracts would be determined as follows.  The reserves would equal the greater of: (1) thenet surrender value of the contract (as defined in section 807(e)(1)(A)), including in the case ofpension plan contracts; or (2) the amount determined by applying the tax reserve method thatwould apply if the qualifying insurance company were subject to tax under Subchapter L of theCode, with the following modifications.  First, there would be substituted for the applicableFederal interest rate an interest rate determined for the functional currency of the qualifyinginsurance company's home country, calculated (except as provided by the Treasury Secretary inorder to address insufficient data and similar problems) in the same manner as the mid-termapplicable Federal interest rate ("AFR") (within the meaning of section 1274(d)).  Second, therewould be substituted for the prevailing State assumed rate the highest assumed interest ratepermitted to be used for purposes of determining statement reserves in the foreign country for thecontract.  Third, in lieu of U.S. mortality and morbidity tables, there would be applied mortalityand morbidity tables that reasonably reflect the current mortality and morbidity risks in the foreigncountry.  Fourth, the Treasury Secretary may provide that the interest rate and mortality andmorbidity tables of a qualifying insurance company may be used for one or more of its brancheswhen appropriate.

	In no event would the reserve for any contract at any time exceed the foreign statementreserve for the contract, reduced by any catastrophe, equalization, or deficiency reserve or anysimilar reserve.  This rule would apply whether the contract is regulated as a property, casualty,health, life insurance, annuity, or any other type of contract.

	The proposal would also provide an exception from foreign personal holding companyincome for income from investment of assets equal to (1) one-third of premiums earned during thetaxable year on exempt contracts regulated in the country in which sold as property, casualty, orhealth insurance contracts, and (2) 10 percent of reserves (determined for purposes of theproposal) for contracts regulated in the country in which sold as life insurance or annuitycontracts.  In no event would the exception from foreign personal holding company income applyto investment income with respect to excess surplus.

	To prevent the shifting of relatively high-yielding assets to generate investment incomethat qualifies under this temporary exception, the proposal would provide that, except as providedby the Treasury Secretary, income would be allocated to contracts as follows.  In the case of aseparate account-type contract (including a variable contract not meeting the requirements ofsection 817), the income credited under the contract would be allocable only to that contract. Income not so allocated would be allocated ratably among all contracts that are not separateaccount-type contracts.

**Other definitions and anti-abuse rules relating to insurance**

	The proposal would provide that the present-law statutory definition of a life insurancecontract (under secs. 7702 or 101(f)), as well as the distribution on death requirement of section72(s) and the diversification requirement of section 817(h), would not apply for purposes ofdetermining reserves for a life insurance or annuity contract under sections 953 and 954 of theCode, provided that neither the policyholders, the insureds or annuitants, nor the beneficiarieswith respect to the contract are U.S. persons.  In addition, the proposal would provide Treasuryregulatory authority to provide for the treatment of accident and health insurance contractsgenerally in the same manner as a life insurance contract, where appropriate.

	The anti-abuse rules applicable under the subpart F exceptions provided in section 954(h)(as added by the proposal) would apply to these exceptions for insurance.  In addition, theproposal would provide anti-abuse rules applicable under the exceptions from subpart F incomerelating to insurance.  The proposal would provide that there shall be disregarded any change inthe method of computing reserves or any other transaction or transactions one of the principalpurposes of which is the acceleration or deferral of any item in order to claim the benefits of theseexceptions.

	The proposal would provide that a contract is not treated as an exempt contract (asdescribed above), if any policyholder, insured or annuitant, or beneficiary is a resident of theUnited States, the contract was marketed to the U.S. resident, and was written to cover a riskoutside the United States

	The proposal would provide that a contract is not treated as an exempt contract, if thecontract covers risks located both within and outside the United States, and the qualifyinginsurance company or branch does not maintain such records, and file such reports, with respect tothe contract as the Treasury Secretary requires.  It would be intended that documentation that iscontemporaneous with the issuance of the contract be maintained by the qualifying insurancecompany or branch.

	The proposal would provide that the Treasury Secretary may prescribe rules for theallocation of contracts (and income from contracts) among two or more qualifying insurancecompany branches of a qualifying insurance company in order to clearly reflect the income ofsuch branches.

	The proposal would provide that the Treasury Secretary may prescribe regulations similarto the regulations under section 842(d) to prevent the avoidance of the purposes of the exceptionsfor insurance income and foreign personal holding company income under the proposal.

**Other anti-abuse rules**

	The proposal would include the anti-abuse rules of the present-law provision, with certainfurther refinements reflected under the proposal. The proposal would add an anti-abuse rule whichwould, for purposes of these exceptions, disregard any item of income, gain, loss or deductionwith respect to certain transactions, including utilizing or doing business with an entity which isnot engaged in regular and continuous transactions with customers that are unrelated persons. Inaddition, to the extent provided in regulations, this anti-abuse rule would apply to othertransactions, including utilizing or doing business with a special purpose vehicle, includingsecuritization vehicles, intragroup financing arrangements, or any similar entity or arrangement.The proposal also would modify the anti-abuse rule of the present-law provision relating toorganizing entities in order to satisfy any same country requirement under these exceptions. Theproposal would provide that to the extent provided in regulations, the anti-abuse rule would applyto transactions involving utilizing or doing business with any entity in order to satisfy any homecountry requirement under these exceptions.

	The proposal also would provide a rule which denies customer treatment in certain cases.The proposal would provide that a person who is a related person, an officer, a director, or anemployee of a CFC or QBU and who otherwise would be treated as a customer, would not betreated as a customer with respect to any transaction if a principal purpose of the transaction is tosatisfy any requirement for these exceptions. 

**Sale of assets of an active financing business**

	Finally, the proposal includes a modification to address the treatment of sales of assets ofan active financing business. In general, foreign personal holding company income includes netgains from the sale or exchange of property that gives rise to dividends, interest, royalties, rents,or annuities. The proposal would provide an exception from this rule for income that qualifies forthe exception from subpart F for income derived in the active conduct of a banking, financing, orsimilar business. Under the proposal, foreign personal holding company income would notinclude net gains from the sale or exchange of property that gives rise to dividends, interest,royalties, rents, or annuities if such property gives rise to income not treated as foreign personalholding company income for the taxable year by reason of the exceptions for banking, financing,or similar income under proposed section 954(h). It would be intended that this exception wouldapply only to the extent that the property was held to generate or generated income from the activeconduct of a banking, financing, or similar business prior to its disposition (and such property wasnot so held for a principal purpose of taking advantage of this exception).

**Exceptions from foreign base company services income**

	The present-law provision includes a corresponding exception from foreign base companyservices income for income derived by a CFC from the performance of services that are directlyrelated to a transaction entered into by the CFC that gives rise to income that is eligible for theseexceptions from subpart F. Under the proposal, foreign base company services income would notinclude income that is not treated as foreign personal holding company income by reason of theexceptions under proposed section 954(h) or 954(i) or the securities dealer exception underproposed section 954(c)(2)(C)(ii), or is treated as exempt insurance income by reason of proposedsection 953(e).

**Effective Date**

	The proposal would apply only to taxable years of foreign corporations beginning in 1999,and to taxable years of U.S. shareholders with or within which such taxable years of foreigncorporations end.

**F.  Extension of the Generalized System of Preferences**

**Present Law**

	Title V of the Trade Act of 1974, as amended, grants authority to the President to provideduty-free treatment on imports of certain articles from beneficiary developing countries subject tocertain conditions and limitations.  To qualify for GSP privileges, each beneficiary country issubject to various mandatory and discretionary eligibility criteria.  Import sensitive products areineligible for GSP.  The GSP program, which is designed to promote development through traderather than traditional aid programs, expired after June 30, 1998.

**Description of Proposal**

	The proposal would reauthorize the GSP program for a temporary period, to terminateafter February 29, 2000.  Refunds would be authorized, upon request of the importer, for dutiespaid between July 1, 1998, and the date of enactment of the bill.

**Effective Date**

	The proposal would be effective for duties paid on or after July 1, 1998, and before March1, 2000.

**V.  REVENUE OFFSET PROPOSAL**

**A.  Treatment of Certain Deductible Liquidating Distributions of Regulated Investment Companies and Real Estate Investment Trusts**

**Present Law**

	Regulated investment companies ("RICs") and real estate investment trusts ("REITs") areallowed a deduction for dividends paid to their shareholders.  The deduction for dividends paidincludes amounts distributed in liquidation which are properly chargeable to earnings and profits. Rules that govern the receipt of dividends from RICs and REITs generally provide for includingthe amount of the dividend in the income of the shareholder receiving the dividend that wasdeducted by the RIC or REIT.  Generally, any shareholder realizing gain from a liquidatingdistribution of a RIC or REIT includes the amount of gain in the shareholder's income.  However,in the case of a liquidating distribution to a corporation owning 80-percent of the stock of thedistributing corporation, a separate rule generally provides that the distribution is tax-free to theparent corporation.  The parent corporation succeeds to the tax attributes, including the adjustedbasis of assets, of the distributing corporation.  Under these rules, a liquidating RIC or REITmight be allowed a deduction for amounts paid to its parent corporation, without a correspondinginclusion in the income of the parent corporation, resulting in income being subject to no tax.

	A RIC or REIT may designate a portion of a dividend as a capital gain dividend to theextent the RIC or REIT itself has a net capital gain, and a RIC may designate a portion of thedividend paid to a corporate shareholder as eligible for the 70-percent dividends-receiveddeduction to the extent the RIC itself received dividends from other corporations.

**Description of Proposal**

	Any amount which a liquidating RIC or REIT may take as a deduction for dividends paidwith respect to an otherwise tax-free liquidating distribution to an 80-percent corporate ownerwould be includible in the income of the recipient corporation. The includible amount would betreated as a dividend received from the RIC or REIT.  The liquidating corporation may designatethe amount treated as a dividend as a capital gain dividend or, in the case of a RIC, a dividendeligible for the 70-percent dividends received deduction, to the extent provided by the RIC orREIT provisions of the Code.

	The proposal does not otherwise change the tax treatment of the distribution to the parentcorporation or to the RIC or REIT.  Thus, for example, the liquidating corporation will notrecognize gain (if any) on the liquidating distribution and the recipient corporation will hold theassets at a carryover basis.

**Effective Date**

	The proposal would be effective for distributions on or after May 22, 1998, regardless ofwhen the plan of liquidation was adopted.

	No inference would be intended regarding the treatment of such transactions under presentlaw.

**VI.  SOCIAL SECURITY PROVISIONS**

**A.  Increases in the Social Security Earnings Limit for Individuals Who Have Attained Retirement Age**

**Present law**

	Senior citizens age 70 and older receive full Social Security benefits regardless of theamount of earnings they have from wages or self employment.  Those between the full retirementage (currently age 65) and age 70 receive full benefits only if their earnings are lower than anearnings limit amount determined by law.  In 1998, the limit for those age 65 to 69 is $14,500. The limit is gradually raised to $30,000 by the year 2002.  After 2002, the annual exempt amountsare indexed to growth in average wages.

YearPresent Law1998$14,5001999$15,5002000$17,0002001$25,0002002$30,000

	Senior citizens between the age of full retirement (currently age 65) and 70 who earn morethan the earnings limit lose $1 in benefits for every $3 in wages or 

self-employment income they earn over the limit.

**Description of Proposal**

	The proposal would raise the earnings limit for those between full retirement age(currently age 65) and age 70 in calendar years 1999 - 2001, as follows:
YearProposed earnings limit1998 $14,5001999$17,0002000$18,5002001$26,0002002$30,000
	Senior citizens between full retirement age (currently age 65) and 70 who earn over thegiven earnings limit for the year would continue to lose $1 in benefits for every $3 earned over thelimit.  After 2002, the annual exempt amounts would be indexed to growth in average wages.

	The proposal would be effective for the taxable years ending after 1998.

**B.  Recomputations of Benefits after Normal Retirement Age**

**Present law**

	Social Security benefits are based on the average of an individual's "high" years ofearnings.  For workers born in 1929 or later, 35 "high" years of earnings are averaged.  For thoseborn before 1929, the number of "high" years averaged is proportionately fewer (for example, forthose born in 1919, 25 "high" years are averaged).

	If a retiree continues to work after entitlement to benefits, his or her monthly benefit maybe increased if the new yearly earnings are greater than one of the years used in the initialdetermination of benefits.  Currently, recomputations of benefits are effective in the yearimmediately following the year of the earnings.  However, because of the lag between whenwages are earned and when they are reported and recomputations are processed, mostrecomputations are actually paid in a lump-sum payment near the end of the year that they areeffective.  Subsequently, the adjustment is reflected in the new regular monthly benefit amount.

**Description of Proposal**

	Recomputation of benefits resulting from earnings in the year after a worker reachesnormal retirement age (currently age 65) and later would be reflected in the recipient's benefitcheck, effective with the January of the second year after the year of the earnings.  An exceptionwould be provided for recipients who have one or more "zero" years of earnings in their wageaveraging computation.  Earnings would continue to be credited as under current law for purposesof establishing entitlement.

**Effective Date**

	The proposal would be effective for earnings beginning in 1998.

1.   This document may be cited as follows: Joint Committee on Taxation, *Description ofMajor Provisions Contained in the "Taxpayer Relief Act of 1998"* (JCX-60-98), September 15,1998.  (References in this document to the "1997 Act" refer to the Taxpayer Relief Act of 1997.)
2.   A separate document provides a description of the Chairman's mark relating toproposed tax technical corrections.  (See JCX-61-98.)
3.   This is not true for the 39.6-percent rate.  The beginning point of this rate bracket is thesame for all taxpayers regardless of filing status. 
4.   Joint Committee on Taxation staff projections.
5.   Joint Committee on Taxation staff projections.
6.   From 1954 until 1986, the Code (sec. 116) contained an exclusion from income (invarying amounts) for dividends.  For 1981 only, that provision was also extended to interest; thisproposal is generally parallel to that provision (except that this proposal makes clarifications withrespect to dividends received from Regulated Investment Companies ("RICs") and Real EstateInvestment Trusts ("REITs") and the interaction of this proposal with the earned income credit("EIC") disqualified income test. The EIC clarification provides that any interest or dividendsexcluded from gross income under this proposal would also be disregarded for purposes of the EIC disqualified income test.)  The exclusion for dividends was repealed by theTax Reform Act of 1986.
7.   Specifically, section 529(c)(3)(A) provides that any distribution under a qualified Statetuition program shall be includible in the gross income of the distributee in the same manner asprovided under present-law section 72 to the extent not excluded from gross income under anyother provision of the Code.
8.   Retainage amounts would be required to be spent within 5 years after the bonds areissued.

9.   The six designated urban empowerment zones are located in New York City, Chicago,Atlanta, Detroit, Baltimore, and Philadelphia-Camden (New Jersey). The three designated ruralempowerment zones are located in Kentucky Highlands (Clinton, Jackson, and Wayne counties,Kentucky), Mid-Delta Mississippi (Bolivar, Holmes, Humphreys, and Leflore counties,Mississippi), and Rio Grande Valley Texas (Cameron, Hidalgo, Starr, and Willacy counties,Texas). 
10.   The environmental remediation expenditure must be incurred in connection with theabatement or control of hazardous substances at a qualified contaminated site, generally meaningany property that (1) is held for use in a trade or business, for the production of income, or asinventory; (2) is certified by the appropriate State environmental agency to be located within atargeted area; and (3) contains (or potentially contains) a hazardous substance.  Targeted areasinclude: (1) empowerment zones and enterprise communities as designated under OBRA 1993and the 1997 Act (including any supplemental empowerment zone designated on December 21,1994); (2) sites announced before February 1997, as being subject to one of the 76Environmental Protection Agency (EPA) Brownfields Pilots; (3) any population census tractwith a poverty rate of 20 percent or more; and (4) certain industrial and commercial areas that areadjacent to tracts described in (3) above.  The "brownfields" provision (enacted in the 1997 Act)applies to eligible expenditures incurred in taxable years ending after date of enactment andbefore January 1, 2001.
11.   The wage credit available in the two new urban empowerment zones is modifiedslightly to provide that the credit rate will be 20 percent for calendar years 2000-2004, 15-percentfor calendar year 2005, 10 percent for calendar year 2006, and five percent for calendar year2007.  No wage credit will be available in the two new urban empowerment zones after 2007.
12.   In order to permit designation of these two additional empowerment zones, the 1997Act increased the aggregate population cap applicable to urban empowerment zones from750,000 to a cap of one million aggregate population for the eight urban empowerment zones.
13.   In contrast to OBRA 1993, areas located within Indian reservations are eligible fordesignation as one of the additional 20 empowerment zones under the 1997 Act.
14.   In lieu of the poverty criteria, outmigration may be taken into account in designatingone rural empowerment zone.
15.   A special rule enacted as part of the 1997 Act modifies the present-law empowermentzone and enterprise community designation criteria so that any zones or communities designatedin the future in the States of Alaska or Hawaii will not be subject to the general size limitations,nor will such zones or communities be subject to the general poverty-rate criteria.  Instead,nominated areas in either State will be eligible for designation as an empowerment zone orenterprise community if, for each census tract or block group within such area, at least 20 percentof the families have incomes which are 50 percent or less of the State-wide median familyincome.  Such zones and communities will be subject to the population limitations under present-law section 1392(a)(1).
16.   However, the additional section 179 expensing is not available within the additional2,000 acres allowed to be included under the 1997 Act within an empowerment zone.
17.   In addition, the 1997 Act also provides for special tax incentives (some of which aremodeled after the empowerment zone tax incentives, but which also include a zero percentcapital gains rate for certain qualified assets) for the District of Columbia.
18.   A qualified proprietorship is not required to meet the requirement that the sole trade orbusiness of the proprietor is the active conduct of a qualified business within the empowermentzone or enterprise community.
19.   The 1997 Act reduced this threshold from 80 percent (as enacted in OBRA 1993) to 50percent.
20.   Also, a qualified business does not include certain facilities described in section144(c)(6)(B)(e.g., massage parlor, hot tub facility, or liquor store) or certain large farms.
21.   The 1997 Act provides that the lessor of property may rely on a lessee's certificationthat such lessee is an enterprise zone business.
22.   The maximum amount of "new empowerment zone facility bonds" that can be issuedis limited to $60 million per rural zone, $130 million per urban zone with a population of lessthan 100,000, and $230 million per urban zone with a population of 100,000 or more.
23.   A special rule (enacted in the 1997 Act) relaxes the rehabilitation requirement forfinancing existing property with qualified enterprise zone facility bonds.  In the case of propertywhich is substantially renovated by the taxpayer, the property need not be acquired by thetaxpayer after zone or community designation and need not be originally used by the taxpayerwithin the zone if, during any 24-month period after zone or community designation, theadditions to the taxpayer's basis in the property exceed 15 percent of the taxpayer's basis at thebeginning of the period, or $5,000 (whichever is greater).
24.   For purposes of the tax-exempt financing rules, an "enterprise zone business" alsoincludes a business located in a zone or community which would qualify as an enterprise zonebusiness if it were separately incorporated.

	A special rule (enacted in the 1997 Act) waives the requirements of an enterprise zonebusiness (other than the requirement that at least 35 percent of the business' employees beresidents of the zone or community) for all years after a prescribed testing period equal to thefirst three taxable years after the startup period.
25.   A special rule (enacted in the 1997 Act) waives until the end of a "startup period" therequirement that 95 percent or more of the proceeds of a bond issue be used by a qualifiedenterprise zone business.  With respect to each property, the startup period would end at thebeginning of the first taxable year beginning more than two years after the later of (1) the date ofthe bond issue financing such property, or (2) the date the property was placed in service (but inno event more than three years after the date of bond issuance).  This waiver is available only if,at the beginning of the startup period, there is a reasonable expectation that the use by a qualifiedenterprise zone business will be satisfied at the end of the startup period and the business makesbona fide efforts to satisfy the enterprise zone business definition.
26.   Penalty taxes would not be imposed, however, if a distribution is made after theaccount holder becomes 59 and � years old, or is made due to the death or disability of theaccount holder.
27.   The Work Opportunity Tax Credit expired July 1, 1998.  A different section of theproposal would extend the Work Opportunity Tax Credit through February 29, 2000.
28.   A special rule is designed to gradually recompute a start-up firm's fixed-basepercentage based on its actual research experience. Under this special rule, a start-up firm will beassigned a fixed-base percentage of 3 percent for each of its first five taxable years after 1993 inwhich it incurs qualified research expenditures. In the event that the research credit is extendedbeyond the scheduled expiration date, a start-up firm's fixed-based percentage for its sixththrough tenth taxable years after 1993 in which it incurs qualified research expenditures will be aphased-in ratio based on its actual research experience. For all subsequent taxable years, thetaxpayer's fixed-based percentage will be its actual ratio of qualified research expenditures togross receipts for any five years selected by the taxpayer from its fifth through tenth taxableyears after 1993 (sec. 41(c)(3)(B)). 
29.   Under a special rule, 75 percent of amounts paid to a research consortium for qualifiedresearch is treated as qualified research expenses eligible for the research credit (rather than 65percent under the general rule under sec. 41(b)(3) governing contract research expenses) if (1)such research consortium is a tax-exempt organization that is described in section 501(c)(3)(other than a private foundation) or section 501(c)(6) and is organized and operated primarily toconduct scientific research, and (2) such qualified research is conducted by the consortium onbehalf of the taxpayer and one or more persons not related to the taxpayer. 
30.   The amount of the deduction allowable for a taxable year with respect to a charitablecontribution may be reduced depending on the type of property contributed, the type ofcharitable organization to which the property is contributed, and the income of the taxpayer(secs. 170(b) and 170(e)).
31.   However, the legislative history of the provision indicates that Congress expected thatorganizations will comply voluntarily with the public inspection provisions prior to the issuanceof such final regulations.  
32.   Prop. Treas. reg. sec. 301.6104(e)-1.************************