**DESCRIPTION OF CHAIRMAN'S MARKOF PROPOSALS RELATING TO EDUCATION INCENTIVES**

Scheduled for Markup

By the

SENATE COMMITTEE ON FINANCE

on May 19, 1999

Prepared by the Staff

of the

JOINT COMMITTEE ON TAXATION

May 17, 1999

JCX-20-99

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**CONTENTS**

**INTRODUCTION**

**I.  EDUCATION TAX INCENTIVES**

A.  Modifications to Education Individual Retirement Accounts

B.  Private Pre-Paid Tuition Programs; Exclusion from Gross Income of     Education Distributions from Qualified Tuition Programs

C.  Exclusion for Employer-Provided Educational Assistance

D.  Eliminate 60-Month Limit on Student Loan Interest Deduction

E.  Eliminate Tax on Awards Under National Health Corps Scholarship     Program and F. Edward Herbert Armed Forces Health Professions     Scholarship and Financial Assistance Program

F.  Liberalize Tax-Exempt Financing Rules For Public School Construction

**II.	REVENUE OFFSETS**

A.  Modify Foreign Tax Credit Carryover Rules

B.  Limit Use of Non-Accrual Experience Method of Accounting to     Amounts to be Received for the Performance of Qualified Personal     Services

C.  Expand Reporting of Cancellation of Indebtedness Income

D.  Extension of IRS User Fees

E.  Clarify Definition of "Subject to" Liabilities Under Code      Section 357(c)

F.  Denial of Charitable ContributionDeduction for Transfers Associated with      Split-Dollar Insurance Arrangements

G.  Treatment of Excess Pension Assets Used for Retiree Health Benefits

H.  Impose Limitation on Prefunding of Certain Employee Benefits

I.  Modify Installment Method and Prohibit its Use by Accrual Method     Taxpayers

J.  Add Certain Vaccines Against Streptococcus Pneumonia to the List of     Taxable Vaccines

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**INTRODUCTION**

	The Senate Committee on Finance has scheduled a markup on May 19, 1999, on variouseducation tax incentives.

	This document,(1) prepared by the staff of the Joint Committee on Taxation, provides adescription of the education tax incentives (Part I) and revenue offsets (Part II) contained in theChairman's Mark.

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**I.  EDUCATION TAX INCENTIVES**

**A.  Modifications to Education Individual Retirement Accounts**

**Present Law**

**In general**

	Section 530 provides tax-exempt status to education individual retirement accounts"education IRAs," meaning certain trusts (or custodial accounts) which are created or organizedin the United States exclusively for the purpose of paying the qualified higher educationexpenses of a named beneficiary.(2)  Contributions to education IRAs may be made only in cash. Annual contributions to education IRAs may not exceed $500 per designated beneficiary (exceptin cases involving certain tax-free rollovers, as described below), and may not be made after thedesignated beneficiary reaches age 18.(3)  Moreover, an excise tax is imposed if a contribution ismade by any person to an education IRA established on behalf of a beneficiary during anytaxable year in which any contributions are made by anyone to a qualified State tuition program(defined under sec. 529) on behalf of the same beneficiary.

**Phase-out of contribution limit**

	The $500 annual contribution limit for education IRAs is phased out ratably forcontributors with modified adjusted gross income ("AGI") between $95,000 and $110,000($150,000 and $160,000 for joint returns).  Individuals with modified AGI above the phase-outrange are not allowed to make contributions to an education IRA established on behalf of anyother individual.

**Treatment of distributions**

	Amounts distributed from an education IRA are excludable from gross income to theextent that the amounts distributed do not exceed qualified higher education expenses of thedesignated beneficiary incurred during the year the distribution is made (provided that a HOPEcredit or Lifetime Learning credit is not claimed with respect to the beneficiary for the sametaxable year).  Distributions from an education IRA are generally deemed to consist ofdistributions of principal (which, under all circumstances, are excludable from gross income) andearnings (which may be excludable from gross income) by applying the ratio that the aggregateamount of contributions to the account for the beneficiary bears to the total balance of theaccount.  If the qualified higher education expenses of the student for the year are at least equalto the total amount of the distribution (i.e., principal and earnings combined) from an educationIRA, then the earnings in their entirety are excludable from gross income.  If, on the other hand,the qualified higher education expenses of the student for the year are less than the total amountof the distribution (i.e., principal and earnings combined) from an education IRA, then thequalified higher education expenses are deemed to be paid from a pro-rata share of both theprincipal and earnings components of the distribution. Thus, in such a case, only a portion of theearnings are excludable (i.e., a portion of the earnings based on the ratio that the qualified highereducation expenses bear to the total amount of the distribution) and the remaining portion of theearnings is includible in the distributee's gross income.  To the extent that a distribution exceedsqualified higher education expenses of the designated beneficiary, an additional 10-percent tax isimposed on the earnings portion of such excess distribution, unless such distribution is made onaccount of the death or disability of, or scholarship received by, the designated beneficiary.

	Present law allows tax-free transfers or rollovers of account balances from one educationIRA benefitting one beneficiary to another education IRA benefitting another beneficiary (aswell as redesignations of the named beneficiary), provided that the new beneficiary is a memberof the family of the old beneficiary.  For this purpose, a "member of the family" means personsdescribed in paragraphs (1) through (8) of section 152(a) -- e.g., sons, daughters, brothers, sisters,nephews and nieces, certain in-laws -- and any spouse of such persons or of the originalbeneficiary.

	Any balance remaining in an education IRA will be deemed to be distributed within 30days after the date that the named beneficiary reaches age 30 (or, if earlier, within 30 days of thedate that the beneficiary dies).

**Qualified higher education expenses**

	The term "qualified higher education expenses" includes tuition, fees, books, supplies,and equipment required for the enrollment or attendance of the designated beneficiary at aneligible education institution, regardless of whether the beneficiary is enrolled at an eligibleeducational institution on a full-time, half-time, or less than half-time basis.  Moreover, the term"qualified higher education expenses" includes room and board expenses (meaning the minimumroom and board allowance applicable to the student as determined by the institution incalculating costs of attendance for Federal financial aid programs under sec. 472 of the HigherEducation Act of 1965) for any period during which the beneficiary is at least a half-timestudent.  Qualified higher education expenses include expenses with respect to undergraduate orgraduate-level courses.  In addition, qualified higher education expenses include amounts paid orincurred to purchase tuition credits (or to make contributions to an account) under a qualifiedState tuition program, as defined in section 529, for the benefit of the beneficiary of theeducation IRA.

	Qualified higher education expenses generally include only out-of-pocket expenses. Such qualified higher education expenses do not include expenses covered by educationalassistance for the benefit of the beneficiary that is excludable from gross income.  Thus, totalqualified higher education expenses are reduced by scholarship or fellowship grants excludablefrom gross income under present-law section 117, as well as any other tax-free educationalbenefits, such as employer-provided educational assistance that is excludable from theemployee's gross income under section 127.  In addition, qualified higher education expenses donot include expenses paid with interest on education savings bonds that is excludable undersection 135.  No reduction of qualified higher education expenses is required, however, for a gift,bequest, devise, or inheritance.

**Eligible educational institution**

	Eligible educational institutions are defined by reference to section 481 of the HigherEducation Act of 1965.  Such institutions generally are accredited post-secondary educationalinstitutions offering credit toward a bachelor's degree, an associate's degree, a graduate-level orprofessional degree, or another recognized post-secondary credential.  Certain proprietaryinstitutions and post-secondary vocational institutions also are eligible institutions.  Theinstitution must be eligible to participate in Department of Education student aid programs.

**Description of Proposal**

**Annual contribution limit**

	For the period 2000 through 2003, the proposal would increase to $2,000 the annualeducation IRA contribution limit.  Thus, under the proposal, aggregate contributions that couldbe made by all contributors to one (or more) education IRAs established on behalf of anyparticular beneficiary would be limited to $2,000 for each year during the period 2000 through2003.  For 2004 and later years, the annual contribution limit for education IRAs would be $500.

**Qualified expenses**

	With respect to contributions made during the period 2000 through 2003 (and earningsattributable to such contributions), the proposal would expand the definition of qualifiededucation expenses that may be paid with tax-free distributions from an education IRA. Specifically, the definition of qualified education expenses would be expanded to include"qualified elementary and secondary education expenses" meaning (1) tuition, fees, academictutoring, special needs services, books, supplies, and equipment (including computers and relatedsoftware and services) incurred in connection with the enrollment or attendance of the designatedbeneficiary as an elementary or secondary student at a public, private, or religious schoolproviding elementary or secondary education (kindergarten through grade 12), and (2) room andboard, uniforms, transportation, and supplementary items and services (including extended-dayprograms) required or provided by such a school in connection with such enrollment orattendance of the designated beneficiary.  "Qualified elementary and secondary educationexpenses" also would include certain homeschooling education expenses if the requirements ofany applicable State or local law are met with respect to such homeschooling.  For contributionsmade in 2004 or later years (and for earnings attributable to such contributions), the definition ofqualified education expenses would be limited to post-secondary education expenses.

**Special needs beneficiaries**

	The proposal also would provide that, although contributions to an education IRAgenerally may not be made after the designated beneficiary reaches age 18, contributions maycontinue to be made to an education IRA in the case of a special needs beneficiary (as defined byTreasury Department regulations).  In addition, under the proposal, in the case of a special needsbeneficiary, a deemed distribution of any balance in an education IRA would not occur when thebeneficiary reaches age 30.

**Contributions by persons other than individuals**

	The proposal would clarify that corporations and other entities (e.g., tax-exempt entities)are permitted to make contributions to education IRAs, regardless of the income of thecorporation or entity during the year of the contribution.  As under present law, the eligibility ofhigh-income individuals to make contributions to education IRAs would be phased out ratablyfor individuals with modified AGI between $95,000 and $110,000 ($150,000 and $160,000 forjoint returns).

**Contributions permitted until April 15**

	Under the proposal, individual contributors to education IRAs would be deemed to havemade a contribution on the last day of the preceding taxable year if the contribution is made onaccount of such taxable year and is made not later than the time prescribed by law for filing thereturn for such taxable year (not including extensions), generally April 15 in the case ofindividual taxpayers.

**Coordination with HOPE and Lifetime Learning credits**

	The proposal would allow a taxpayer to claim a HOPE credit or Lifetime Learning creditfor a taxable year and receive an exclusion from gross income for amounts distributed (both theprincipal and the earnings portions) from an education IRA on behalf of the same student as longas the distribution is not used for the same expenses for which a credit was claimed.

**Coordination with qualified tuition plans**

	The proposal would repeal the excise tax on contributions made by any person to aneducation IRA on behalf of a beneficiary during any taxable year in which any contributions aremade by anyone to a qualified State tuition program on behalf of the same beneficiary (sec.4973(e)(1)(B)).

**Effective Date**

	The proposals modifying education IRAs would generally be effective for taxable yearsbeginning after December 31, 1999.  The provision that increases the annual contribution limitfor education IRAs to $2,000 per year  applies during the period January 1, 2000, throughDecember 31, 2003, and the provision that expands the definition of qualified educationexpenses to include qualified elementary and secondary expenses applies to contributions (andearnings thereon) made during the period January 1, 2000, through December 31, 2003.  

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**B.  Private Pre-Paid Tuition Programs; Exclusion from Gross Incomeof Education Distributions from Qualified Tuition Programs**

**Present Law**

	Section 529 provides tax-exempt status to "qualified State tuition programs," meaningcertain programs established and maintained by a State (or agency or instrumentality thereof)under which persons may (1) purchase tuition credits or certificates on behalf of a designatedbeneficiary that entitle the beneficiary to a waiver or payment of qualified higher educationexpenses of the beneficiary, or (2) make contributions to an account that is established for thepurpose of meeting qualified higher education expenses of the designated beneficiary of theaccount.  The term "qualified higher education expenses" has the same meaning as does the termfor purposes of education IRAs (as described above) and, thus, includes expenses for tuition,fees, books, supplies, and equipment required for the enrollment or attendance at an eligibleeducational institution(4), as well as room and board expenses (meaning the minimum room andboard allowance applicable to the student as determined by the institution in calculating costs ofattendance for Federal financial aid programs under sec. 472 of the Higher Education Act of1965) for any period during which the student is at least a half-time student.

	No amount is included in the gross income of a contributor to, or beneficiary of, aqualified State tuition program with respect to any distribution from, or earnings under, suchprogram, except that (1) amounts distributed or educational benefits provided to a beneficiary(e.g., when the beneficiary attends college) are included in the beneficiary's gross income (unlessexcludable under another Code section) to the extent such amounts or the value of theeducational benefits exceed contributions made on behalf of the beneficiary, and (2) amountsdistributed to a contributor or another distributee (e.g., when a parent receives a refund) areincluded in the contributor's/distributee's gross income to the extent such amounts exceedcontributions made on behalf of the beneficiary.(5)

	A qualified State tuition program is required to provide that purchases or contributionsonly be made in cash.(6)  Contributors and beneficiaries are not allowed to directly or indirectlydirect the investment of contributions to the program (or earnings thereon).  The program isrequired to maintain a separate accounting for each designated beneficiary.  A specifiedindividual must be designated as the beneficiary at the commencement of participation in aqualified State tuition program (i.e., when contributions are first made to purchase an interest insuch a program), unless interests in such a program are purchased by a State or local governmentor a tax-exempt charity described in section 501(c)(3) as part of a scholarship program operatedby such government or charity under which beneficiaries to be named in the future will receivesuch interests as scholarships.  A transfer of credits (or other amounts) from one accountbenefitting one designated beneficiary to another account benefitting a different beneficiary isconsidered a distribution (as is a change in the designated beneficiary of an interest in a qualifiedState tuition program), unless the beneficiaries are members of the same family.  For thispurpose, the term "member of the family" means persons described in paragraphs (1) through (8)of section 152(a) -- e.g., sons, daughters, brothers, sisters, nephews and nieces, certain in-laws --and any spouse of such persons or of the original beneficiary.  Earnings on an account may berefunded to a contributor or beneficiary, but the State or instrumentality must impose a more thande minimis monetary penalty unless the refund is (1) used for qualified higher educationexpenses of the beneficiary, (2) made on account of the death or disability of the beneficiary, or(3) made on account of a scholarship received by the designated beneficiary to the extent theamount refunded does not exceed the amount of the scholarship used for higher educationexpenses.

	No amount is includible in the gross income of a contributor to, or beneficiary of, aqualified State tuition program with respect to any contribution to or earnings on such a programuntil a distribution is made from the program, at which time the earnings portion of thedistribution (whether made in cash or in-kind) is includible in the gross income of the distributee. To the extent that a distribution from a qualified State tuition program is used to pay for qualifiedtuition and related expenses (as defined in sec. 25A(f)(1)), the distributee (or another taxpayerclaiming the distributee as a dependent) may claim the HOPE credit or Lifetime Learning creditunder section 25A with respect to such tuition and related expenses (assuming that the otherrequirements for claiming the HOPE credit or Lifetime Learning credit are satisfied and themodified AGI phaseout for those credits does not apply).

**Description of Proposal**

**Eligible educational institutions**

	The proposal would expand the definition of "qualified tuition program" to includecertain prepaid tuition programs established and maintained by one or more eligible educationalinstitutions (which may be private institutions) that satisfy the requirements under section 529(other than the present-law State sponsorship rule).  In the case of a qualified tuition programmaintained by one or more private educational institutions, persons would be able to purchasetuition credits or certificates on behalf of a designated beneficiary as set forth in section529(b)(1)(A)(i), but would not be able to make contributions to an account as described insection 529(b)(1)(A)(ii) (so-called "savings account plans").

**Exclusion from gross income**

	Under the proposal, an exclusion from gross income would be provided for distributionsmade in taxable years beginning after December 31, 1999, from qualified State tuition programsto the extent that the distribution is used to pay for qualified higher education expenses.  Thisexclusion from gross income would be extended to distributions from qualified tuition programsestablished and maintained by an entity other than a State or agency or instrumentality thereof,for distributions made in taxable years after December 31, 2003.  If a HOPE credit or LifetimeLearning credit is claimed with respect to a student for a taxable year, then a distribution fromany qualified tuition program may (at the option of the taxpayer) be made on behalf of thatstudent during that taxable year, but an exclusion from gross income would not be available forthe earnings portion of such distribution.

**Rollovers for benefit of same beneficiary**

	The proposal would modify section 529(c)(3) to clarify that a transfer of credits (or otheramounts) from one account benefitting a designated beneficiary to another account benefittingthe same beneficiary will not be considered a distribution for a maximum of three such transfers.

**Member of family**

	The proposal would modify section 529(e)(2) to clarify that, for purposes of tax-freerollovers and changes of designated beneficiaries, a "member of the family" includes firstcousins of the original beneficiary.

**Effective Date**

	The proposal that would provide for the establishment of qualified tuition programsmaintained by one or more private educational institutions would be effective for taxable yearsbeginning after December 31, 1999.  The proposal that would allow an exclusion from grossincome for certain distributions from qualified State tuition programs under section 529 (and themodification to the definition of qualified higher education expenses under that section) iseffective for distributions made in taxable years beginning after December 31, 1999.  In the caseof a qualified tuition program established and maintained by an entity other than a State oragency or instrumentality thereof, the proposal would be effective for distributions made intaxable years after December 31, 2003.

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**C.  Exclusion for Employer-Provided Educational Assistance**

**Present Law**

	Educational expenses paid by an employer for its employees are generally deductible tothe employer.

	Employer-paid educational expenses are excludable from the gross income and wages ofan employee if provided under a section 127 educational assistance plan or if the expensesqualify as a working condition fringe benefit under section 132. Section 127 provides anexclusion of $5,250 annually for employer-provided educational assistance. The exclusion doesnot apply to graduate courses. The exclusion for employer-provided educational assistanceexpires with respect to courses beginning on or after June 1, 2000.

	In order for the exclusion to apply, certain requirements must be satisfied.  Theeducational assistance must be provided pursuant to a separate written plan of the employer.  Theeducational assistance program must not discriminate in favor of highly compensated employees.In addition, not more than 5 percent of the amounts paid or incurred by the employer during theyear for educational assistance under a qualified educational assistance plan can be provided forthe class of individuals consisting of more than 5-percent owners of the employer (and theirspouses and dependents).

	Educational expenses that do not qualify for the section 127 exclusion may be excludablefrom income as a working condition fringe benefit.(7)  In general, education qualifies as a workingcondition fringe benefit if the employee could have deducted the education expenses undersection 162 if the employee paid for the education. In general, education expenses are deductibleby an individual under section 162 if the education (1) maintains or improves a skill required in atrade or business currently engaged in by the taxpayer, or (2) meets the express requirements ofthe taxpayer's employer, applicable law or regulations imposed as a condition of continuedemployment.  However, education expenses are generally not deductible if they relate to certainminimum educational requirements or to education or training that enables a taxpayer to beginworking in a new trade or business.(8)

**Description of Proposal**

	The proposal would extend the present-law exclusion for employer-provided educationalassistance to undergraduate courses beginning before January 1, 2004.  The proposal would alsoextend the exclusion to graduate education, effective for courses beginning after January 1, 2000,and before January 1, 2004.

**Effective Date**

	The proposal to extend the exclusion for undergraduate courses would be effective forcourses beginning before January 1, 2004.  The exclusion with respect to graduate-level courseswould be effective for courses beginning after January 1, 2000, and before June 1, 2004.

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**D.  Eliminate 60-Month Limit on Student Loan Interest Deduction**

**Present Law**

	Certain individuals who have paid interest on qualified education loans may claim anabove-the-line deduction for such interest expenses, subject to a maximum annual deductionlimit (sec. 221).  The deduction is allowed only with respect to interest paid on a qualifiededucation loan during the first 60 months in which interest payments are required.  Requiredpayments of interest generally do not include nonmandatory payments, such as interest paymentsmade during a period of loan forbearance.  Months during which interest payments are notrequired because the qualified education loan is in deferral or forbearance do not count againstthe 60-month period.  No deduction is allowed to an individual if that individual is claimed as adependent on another taxpayer's return for the taxable year.

	A qualified education loan generally is defined as any indebtedness incurred solely to payfor the costs of attendance (including room and board) of the taxpayer, the taxpayer's spouse, orany dependent of the taxpayer as of the time the indebtedness was incurred in attending on atleast a half-time basis (1) post-secondary educational institutions and certain vocational schoolsdefined by reference to section 481 of the Higher Education Act of 1965, or (2) institutionsconducting internship or residency programs leading to a degree or certificate from an institutionof higher education, a hospital, or a health care facility conducting postgraduate training.

	The maximum allowable deduction per taxpayer return is $1,500 in 1999, $2,000 in 2000,and $2,500 in 2001 and thereafter.(9)  The deduction is phased out ratably for individual taxpayerswith modified adjusted gross income of $40,000-$55,000 and $60,000-$75,000 for joint returns. The income ranges will be indexed for inflation after 2002.

**Description of Proposal**

	The proposal would eliminate the limit on the number of months during which interestpaid on a qualified education loan is deductible.

**Effective Date**

	The proposal would be effective for interest paid on qualified education loans afterDecember 31, 1999.

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**E.  Eliminate Tax on Awards Under National Health Corps Scholarship Programand F. Edward Hebert Armed Forces Health Professions Scholarshipand Financial Assistance Program**

**Present Law**

	Section 117 excludes from gross income amounts received as a qualified scholarship byan individual who is a candidate for a degree and used for tuition and fees required for theenrollment or attendance (or for fees, books, supplies, and equipment required for courses ofinstruction) at a primary, secondary, or post-secondary educational institution. The tax-freetreatment provided by section 117 does not extend to scholarship amounts covering regularliving expenses, such as room and board. In addition to the exclusion for qualified scholarships,section 117 provides an exclusion from gross income for qualified tuition reductions for certaineducation provided to employees (and their spouses and dependents) of certain educationalorganizations.

	Section 117(c) specifically provides that the exclusion for qualified scholarships andqualified tuition reductions does not apply to any amount received by a student that representspayment for teaching, research, or other services by the student required as a condition forreceiving the scholarship or tuition reduction.

	Section 134 provides that any "qualified military benefit," which includes any allowance,is excluded from gross income if received by a member or former member of the uniformedservices if such benefit was excludable from gross income on September 9, 1986.

	The National Health Service Corps Scholarship Program (the "NHSC ScholarshipProgram") and the F. Edward Hebert Armed Forces Health Professions Scholarship andFinancial Assistance Program (the "Armed Forces Scholarship Program") provide educationawards to participants on condition that the participants provide certain services. In the case ofthe NHSC Program, the recipient of the scholarship is obligated to provide medical services in ageographic area (or to an underserved population group or designated facility) identified by thePublic Health Service as having a shortage of health-care professionals. In the case of the ArmedForces Scholarship Program, the recipient of the scholarship is obligated to serve a certainnumber of years in the military at an armed forces medical facility. These education awardsgenerally involve the payment of higher education expenses (under the NHSC Program, theawards may be also used for the repayment or cancellation of existing or future student loans).Because the recipients are required to perform services in exchange for the education awards, theawards used to pay higher education expenses are taxable income to the recipient.

**Description of Proposal**

	The proposal would provide that amounts received by an individual under the NHSCScholarship Program or the Armed Forces Scholarship Program are eligible for tax-freetreatment as qualified scholarships under section 117, without regard to any service obligation bythe recipient.

**Effective Date**

	The proposal would be effective for education awards received after December 31, 1993.

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**F.  Liberalize Tax-Exempt Financing Rules For Public School Construction**

**Present Law**

**1.  Tax-exempt bonds**

**In general**

	Interest on debt incurred by States or local governments is excluded from income if theproceeds of the borrowing are used to carry out governmental functions of those entities or thedebt is repaid with governmental funds (sec. 103).  Like other activities carried out and paid forby States and local governments, the construction, renovation, and operation of public schools isan activity eligible for financing with the proceeds of tax-exempt bonds.

	Interest on bonds that nominally are issued by States or local governments, but theproceeds of which are used (directly or indirectly) by a private person and payment of which isderived from funds of such a private person is taxable unless the purpose of the borrowing isapproved specifically in the Code or in a non-Code provision of a revenue Act. These bonds arecalled "private activity bonds."  The term "private person" includes the Federal Government andall other individuals and entities other than States or local governments.

**Private activities eligible for financing with tax-exempt private activity bonds**

	The Code includes several exceptions permitting States or local governments to act asconduits providing tax-exempt financing for private activities. Both capital expenditures andlimited working capital expenditures of charitable organizations described in section 501(c)(3) ofthe Code -- including elementary, secondary, and post-secondary schools -- may be financed withtax-exempt private activity bonds ("qualified 501(c)(3) bonds").

	States or local governments may issue tax-exempt "exempt-facility bonds" to financeproperty for certain private businesses.  Businesses eligible for this financing includetransportation (airports, ports, local mass commuting, and high speed intercity rail facilities); privately owned and/or privately operated public works facilities (sewage, solid waste disposal,local district heating or cooling, and hazardous waste disposal facilities); privately-owned and/oroperated low-income rental housing; and certain private facilities for the local furnishing ofelectricity or gas. A further provision allows tax-exempt financing for "environmentalenhancements of hydro-electric generating facilities."  Tax-exempt financing is authorized forcapital expenditures for small manufacturing facilities and land and equipment for first-timefarmers ("qualified small-issue bonds"), local redevelopment activities ("qualified redevelopmentbonds"), and eligible empowerment zone and enterprise community businesses.

	Finally, tax-exempt private activity bonds may be issued to finance limited non-businesspurposes:  student loans and mortgage loans for owner-occupied housing ("qualified mortgagebonds" and "qualified veterans' mortgage bonds").

	In most cases, the volume of tax-exempt private activity bonds is restricted by aggregateannual limits imposed on bonds issued by issuers within each State.  These annual volume limitsequal $50 per resident of the State, or $150 million if greater. The annual State private activitybond volume limits are scheduled to increase to the greater of $75 per resident of the State or$225 million in calendar year 2007.  The increase will be phased in ratably beginning in calendaryear 2003.  This increase was enacted by the Tax and Trade Relief Extension Act of 1998. Qualified 501(c)(3) bonds are among the tax-exempt private activity bonds that are not subject tothese volume limits.

	Private activity tax-exempt bonds may not be used to finance schools owned or operatedby private, for-profit businesses.

**Arbitrage restrictions on tax-exempt bonds**

	The Federal income tax does not apply to income of States and local governments that isderived from the exercise of an essential governmental function.  To prevent these tax-exemptentities from issuing more Federally subsidized tax-exempt bonds than is necessary for theactivity being financed or from issuing such bonds earlier than necessary, the Code includesarbitrage restrictions limiting the ability to profit from investment of tax-exempt bond proceeds. In general, arbitrage profits may be earned only during specified periods (e.g., defined"temporary periods") before funds are needed for the purpose of the borrowing or on specifiedtypes of investments (e.g., "reasonably required reserve or replacement funds").  Subject tolimited exceptions, investment profits that are earned during these periods or on suchinvestments must be rebated to the Federal Government.

	The Code includes three exceptions applicable to education-related bonds.  First, issuersof all types of tax-exempt bonds are not required to rebate arbitrage profits if all of the proceedsof the bonds are spent for the purpose of the borrowing within six months after issuance. In thecase of governmental bonds (including bonds to finance public schools) the six-monthexpenditure exception is treated as satisfied if at least 95 percent of the proceeds is spent withinsix months and the remaining five percent is spent within 12 months after the bonds are issued.

	Second, in the case of bonds to finance certain construction activities, including schoolconstruction and renovation, the six-month period is extended to 24 months for constructionproceeds.  Arbitrage profits earned on construction proceeds are not required to be rebated if allsuch proceeds (other than certain retainage amounts) are spent by the end of the 24-month periodand prescribed intermediate spending percentages are satisfied.

	Third, governmental bonds issued by "small" governments are not subject to the rebaterequirement.  Small governments are defined as general purpose governmental units that issue nomore than $5 million of tax-exempt governmental bonds in a calendar year.  The $5 million limitis increased to $10 million if at least $5 million of the bonds are used to finance public schools.

**Restriction on Federal guarantees of tax-exempt bonds**

	Unlike interest on State or local government bonds, interest on Federal debt (e.g.,Treasury bills) is taxable.  Generally, interest on State and local government bonds that areFederally guaranteed does not qualify for tax-exemption.  This restriction was enacted in 1984.The 1984 legislation included exceptions for housing bonds and for certain Federal insuranceprograms that were in existence when the restriction was enacted.

**2.  Qualified zone academy bonds**

	As an alternative to traditional tax-exempt bonds, certain States and local governmentsare given the authority to issue "qualified zone academy bonds."  Under present law, a total of$400 million of qualified zone academy bonds may be issued in each of 1998 and 1999.  The$400 million aggregate bond authority is allocated each year to the States according to theirrespective populations of individuals below the poverty line.  Each State, in turn, allocates thecredit to qualified zone academies within such State.  A State may carry over any unusedallocation into subsequent years.

	Certain financial institutions (i.e., banks, insurance companies, and corporations activelyengaged in the business of lending money) that hold qualified zone academy bonds are entitled toa nonrefundable tax credit in an amount equal to a credit rate (set monthly by TreasuryDepartment regulation at 110 percent of the applicable Federal rate for the month in which thebond is issued) multiplied by the face amount of the bond (sec. 1397E).  The credit rate applies toall such bonds issued in each month.  A taxpayer holding a qualified zone academy bond on thecredit allowance date (i.e., each one-year anniversary of the issuance of the bond) is entitled to acredit.  The credit amount is includible in gross income (as if it were a taxable interest paymenton the bond), and credit may be claimed against regular income tax and alternative minimum taxliability.

	"Qualified zone academy bonds" are defined as bonds issued by a State or localgovernment, provided that: (1) at least 95 percent of the proceeds is used for the purpose ofrenovating,  providing equipment to, developing course materials for use at, or training teachersand other school personnel in a "qualified zone academy;" and (2) private entities have promisedto contribute to the qualified zone academy certain equipment, technical assistance or training,employee services, or other property or services with a value equal to at least 10 percent of thebond proceeds.

	A school is a "qualified zone academy" if (1) the school is a public school that provideseducation and training below the college level, (2) the school operates a special academicprogram in cooperation with businesses to enhance the academic curriculum and increasegraduation and employment rates, and (3) either (a) the school is located in an empowermentzone or a designated enterprise community, or (b) it is reasonably expected that at least 35percent of the students at the school will be eligible for free or reduced-cost lunches under theschool lunch program established under the National School Lunch Act.

**Description of Proposals**

**1.  Increase amount of governmental bonds that may be issued by governments qualifying for the "small governmental unit" arbitrage rebate exception**

	The additional amount of governmental bonds for public schools that small governmentalunits may issue without being subject to the arbitrage rebate requirement would be increasedfrom $5 million to $10 million.  Thus, these governmental units could issue up to $15 million ofgovernmental bonds in a calendar year provided that at least $10 million of the bonds were usedfor public schools.

**2.  Allow issuance of tax-exempt private activity bonds for public school facilities**

	The private activities for which tax-exempt bonds may be issued would be expanded toinclude elementary and secondary public school facilities which are owned by private, for-profitcorporations pursuant to public-private partnership agreements with a State or local educationalagency.  The school facilities for which these bonds were issued would be required to beoperated by a public educational agency as part of a system of public schools.  Issuance of thesebonds would be subject to an annual per-State volume limit equal to the greater of $10 perresident ($5 million, if greater) in lieu of the present-law State private activity bond volumelimits.

**3.  Permit limited Federal guarantees of school construction bonds by the Federal HousingFinance Board**

	The Federal Housing Finance Board would be permitted to guarantee (through the 12regional Federal Home Loan Banks in its system) up to $500 million per year of governmentalbonds 95 percent or more of the proceeds of which are used for public school construction.

**Effective Dates**

	The proposals would be effective for bonds issued after December 31, 1999.

----

**II.  REVENUE OFFSETS**

**A.  Modify Foreign Tax Credit Carryover Rules**

**Present Law**

	U.S. persons may credit foreign taxes against U.S. tax on foreign-source income. Theamount of foreign tax credits that can be claimed in a year is subject to a limitation that preventstaxpayers from using foreign tax credits to offset U.S. tax on U.S.-source income. Separateforeign tax credit limitations are applied to specific categories of income.

	The amount of creditable taxes paid or accrued (or deemed paid) in any taxable yearwhich exceeds the foreign tax credit limitation is permitted to be carried back two years andforward five years. The amount carried over may be used as a credit in a carryover year to theextent the taxpayer otherwise has excess foreign tax credit limitation for such year. The separateforeign tax credit limitations apply for purposes of the carryover rules.

**Description of Proposal**

	The proposal would reduce the carryback period for excess foreign tax credits from twoyears to one year. The proposal also would extend the excess foreign tax credit carryforwardperiod from five years to seven years.

**Effective Date**

	The proposal would apply to foreign tax credits arising in taxable years beginning afterDecember 31, 2001.

----

**B.  Limit Use of Non-Accrual Experience Method of Accounting to Amountsto be Received for the Performance of Qualified Personal Services
**Present Law**

	An accrual method taxpayer generally must recognize income when all the events haveoccurred that fix the right to receive the income and the amount of the income can be determinedwith reasonable accuracy.  An accrual method taxpayer may deduct the amount of any receivablethat was previously included in income that becomes worthless during the year.

	Accrual method taxpayers are not required to include in income amounts to be receivedfor the performance of services which, on the basis of experience, will not be collected (the "non-accrual experience method").  The availability of this method is conditioned on the taxpayer notcharging interest or a penalty for failure to timely pay the amount charged.

	A cash method taxpayer is not required to include an amount in income until it isreceived.  A taxpayer may not use the cash method if purchase, production, or sale ofmerchandise is a material income producing factor.  Such taxpayers are generally required tokeep inventories and use the accrual method of accounting.  In addition, corporations (andpartnerships with corporate partners) generally may not use the cash method of accounting iftheir average annual gross receipts exceed $5 million.  An exception to this $5 million rule isprovided for qualified personal service corporations, corporations (1) substantially all of whoseactivities involve the performance of services in the fields of health, law, engineering,architecture, accounting, actuarial science, performing arts or consulting and (2) substantially allof the stock of which is owned by current or former employees performing such services, theirestates or heirs.  Qualified personal service corporations are allowed to use the cash methodwithout regard to whether their average annual gross receipts exceed $5 million.

**Description of Proposal**

	The proposal would limit the use of the non-accrual experience method to amounts thatare to be received for the performance of qualified personal services.  Amounts to be received forthe performance of all other services would be subject to the general rule regarding inclusion inincome.  Qualified personal services are personal services in the fields of health, law,engineering, architecture, accounting, actuarial science, performing arts or consulting.  As underpresent law, the availability of the non-accrual experience method would be conditioned on thetaxpayer not charging interest or a penalty for failure to timely pay the amount.

**Effective Date**

	The proposal would be effective for taxable years ending after the date of enactment.  Any change in the taxpayer's method of accounting necessitated  as a result of the proposalwould be treated as a voluntary change initiated by the taxpayer with the consent of the Secretaryof the Treasury.  Any required section 481(a) adjustment would be taken into account over aperiod not to exceed four years under principles consistent with those in Rev. Proc. 98-60.(10)

**C.  Expand Reporting of Cancellation of Indebtedness Income**

**Present Law**

	Under section 61(a)(12), a taxpayer's gross income includes income from the dischargeof indebtedness.  Section 6050P requires "applicable entities" to file information returns with theIRS regarding any discharge of indebtedness of $600 or more.

	The information return must set forth the name, address, and taxpayer identificationnumber of the person whose debt was discharged, the amount of debt discharged, the date onwhich the debt was discharged, and any other information that the IRS requires to be provided. The information return must be filed in the manner and at the time specified by the IRS.  Thesame information also must be provided to the person whose debt is discharged by January 31 ofthe year following the discharge.

	"Applicable entities" include: (1) the FDIC, the RTC, the National Credit UnionAdministration, and any successor or subunit of any of them; (2) any financial institution (asdescribed in sec. 581 (relating to banks) or sec. 591(a) (relating to savings institutions)); (3) anycredit union; (4) any corporation that is a direct or indirect subsidiary of an entity described in (2)or (3) which, by virtue of being affiliated with such entity, is subject to supervision andexamination by a Federal or State agency regulating such entities; and (5) an executive, judicial,or legislative agency (as defined in 31 U.S.C. sec. 3701(a)(4)).

	The penalties for failure to file correct information reports with the IRS and to furnishstatements to taxpayers are similar to those imposed with respect to a failure to provide otherinformation returns.  For example, the penalty for failure to furnish statements to taxpayers isgenerally $50 per failure, subject to a maximum of $100,000 for any calendar year.  Thesepenalties are not applicable if the failure is due to reasonable cause and not to willful neglect.

**Description of Proposal**

	The proposal would require that information reporting on discharges of indebtedness alsobe done by any organization a significant trade or business of which is the lending of money(such as finance companies and credit card companies whether or not affiliated with financialinstitutions).

**Effective Date**

	The proposal would be effective with respect to discharges of indebtedness afterDecember 31, 1999.

**D.  Extension of IRS User Fees
**Present Law**

	The IRS provides written responses to questions of individuals, corporations, andorganizations relating to their tax status or the effects of particular transactions for tax purposes. The IRS generally charges a fee for requests for a letter ruling, determination letter, opinionletter, or other similar ruling or determination.  Public Law 104-117(11) extended the statutoryauthorization for these user fees(12) through September 30, 2003.

**Description of Proposal**

	The proposal would extend the statutory authorization for these user fees throughSeptember 30, 2009.

**Effective Date**

	The proposal would be effective on the date of enactment.

**E.  Clarify Definition of "Subject to" Liabilities Under Code Section 357(c)**

**Present Law**

	Present law provides that the transferor of property recognizes no gain or loss if theproperty is exchanged solely for qualified stock in a controlled corporation (sec. 351).  Theassumption by the controlled corporation of a liability of the transferor (or the acquisition ofproperty "subject to" a liability) generally will not cause the transferor to recognize gain. However, under section 357(c), the transferor does recognize gain to the extent that the sum ofthe assumed liabilities, together with the liabilities to which the transferred property is subject,exceeds the transferor's basis in the transferred property.  If the transferred property is "subjectto" a liability, Treasury regulations indicate that the amount of the liability is included in thecalculation regardless of whether the underlying liability is assumed by the controlledcorporation.  Treas. Reg. sec. 1.357-2(a).  Similar rules apply to reorganizations described insection 368(a)(1)(D).

	The gain recognition rule of section 357(c) is applied separately to each transferor in asection 351 exchange.

	The basis of the property in the hands of the controlled corporation equals the transferor'sbasis in such property, increased by the amount of gain recognized by the transferor, includingsection 357(c) gain.

**Description of Proposal**

	Under the proposal, the distinction between the assumption of a liability and theacquisition of an asset subject to a liability is generally eliminated.  First, except as provided inregulations, a recourse liability or any portion thereof is treated as having been assumed if, asdetermined on the basis of all facts and circumstances, the transferee has agreed to, and isexpected to, satisfy the liability or portion thereof (whether or not the transferor has been relievedof the liability).  Thus, where more than one person agrees to satisfy a liability or portion thereof,only one would be expected to satisfy such liability or portion thereof.  Second, except asprovided in regulations, a nonrecourse liability is treated as having been assumed by thetransferee of any asset subject to such liability; except that the amount treated as assumed shallbe reduced by the amount of such liability which an owner of other assets not transferred to thetransferee and also subject to such liability has agreed with the transferee to, and is expected tosatisfy, up to the fair market value of such other assets (determined without regard to section7701(g)).

	In determining whether any person has agreed to and is expected to satisfy a liability, allfacts and circumstances are to be considered.  In any case where the transferee does agree tosatisfy a liability, the transferee will also be expected to satisfy the liability in the absence offacts indicating the contrary.

	In determining any increase to the basis of property transferred to the transferee as aresult of gain recognized because of the assumption of liabilities under section 357, such increaseshall not cause the basis to exceed the fair market value of the property (determined withoutregard to sec. 7701(g)).  In addition, if gain is recognized to the transferor as the result of anassumption by a corporation of a nonrecourse liability that is also secured by any assets nottransferred to the corporation, and if no person is subject to tax under the Internal Revenue Code on such gain, then for purposes of determining the basis of assets transferred, the amount of gaintreated as recognized as the result of such assumption of liability shall be determined as if theliability assumed by the transferee equaled such transferee's ratable portion of the liability, based on the relative fair market values (determined without regard to sec. 7701(g)) of all assetssubject to such nonrecourse liability.

	The Treasury Department has authority to prescribe such regulations as may be necessaryto carry out the purposes of the provision.  Where appropriate, the Treasury Department may alsoprescribe regulations which provide that the manner in which a liability is treated as assumedunder the provision is applied elsewhere in the Code.

	The Miscellaneous Trade and Technical Corrections Act of 1999 (S. 262), as reported bythe Senate Finance Committee on January 22, 1999, contains a substantially identical provision.

**Effective Date**

	The proposal would be effective for transfers on or after October 19, 1998.  No inferenceregarding the tax treatment under present law is intended.

**F.  Denial of Charitable Contribution Deduction for TransfersAssociated with Split-Dollar Insurance Arrangements**

**Present Law**

	Under present law, a deduction is allowed for a charitable contribution paid during thetaxable year.  A charitable contribution is defined to mean a contribution or gift to or for the useof specified types of organizations or governmental entities (sec. 170(c)).

	Some taxpayers may be taking the position that a charitable contribution deduction ispermitted under an arrangement whereby taxpayers transfer money to a charity, which the charitythen uses to pay premiums for life insurance on the transferor or another person.  Under thesearrangements, the beneficiaries under the life insurance contract typically include members of thetransferor's family (either directly or through a family trust or family partnership). The charitableorganization does not have unfettered use of the transferred funds.

**Description of Proposal**

**Deduction denial**

	The proposal(13) restates present law to provide that no charitable contribution deduction isallowed for purposes of Federal tax, for a transfer to or for the use of an organization described insection 170(c) of the Internal Revenue Code, if in connection with the transfer (1) theorganization directly or indirectly pays, or has previously paid, any premium on any "personalbenefit contract" with respect to the transferor, or (2) there is an understanding or expectationthat any person will directly or indirectly pay any premium on any "personal benefit contract"with respect to the transferor.  It is intended that an organization be considered as indirectlypaying premiums if, for example, another person pays premiums on its behalf.

	A personal benefit contract with respect to the transferor is any life insurance, annuity, orendowment contract, if any direct or indirect beneficiary under the contract is the transferor, anymember of the transferor's family, or any other person (other than a section 170(c) organization)designated by the transferor.  For example, such a beneficiary would include a trust having adirect or indirect beneficiary who is the transferor or any member of the transferor's family, andwould include an entity that is controlled by the transferor or any member of the transferor'sfamily.  It is intended that a beneficiary under the contract include any beneficiary under any sideagreement relating to the contract. If a transferor contributes a life insurance contract to a section170(c) organization and designates one or more section 170(c) organizations as the solebeneficiaries under the contract, generally, it is not intended that the deduction denial rule underthe proposal apply.  If, however, there is an outstanding loan under the contract upon the transferof the contract, then the transferor is considered as a beneficiary.  The fact that a contract also hasother direct or indirect beneficiaries (persons who are not the transferor or a family member, ordesignated by the transferor) does not prevent it from being a personal benefit contract.  Theproposal is not intended to affect situations in which an organization pays premiums under alegitimate fringe benefit plan for employees.

	It is intended that a person be considered as an indirect beneficiary under a contract if, forexample, the person receives or will receive any economic benefit as a result of amounts paidunder or with respect to the contract. For this purpose, an indirect beneficiary is not intended toinclude a person that benefits exclusively under a bona fide charitable gift annuity (within themeaning of sec. 501(m)).

	In the case of a charitable gift annuity, if the charitable organization purchases an annuitycontract issued by an insurance company to fund the payment of the charitable gift annuity, aperson receiving payments under the charitable gift annuity from the charitable organization thatare funded by the contract is not treated as an indirect beneficiary, provided certain requirementsare met.  The requirements are that (1) the charitable organization possess all of the incidents ofownership under the contract; (2) the charitable organization be entitled to all the payments underthe contract;  and (3) the timing and amount of payments under the contract be substantially thesame as the timing and amount of payments to each person under the organization's obligationunder the charitable gift annuity (as in effect at the time of the transfer to the charitableorganization).  Only in the case in which the charitable organization purchases an annuitycontract issued by an insurance company to fund the payment of the charitable gift annuity andthe contract is purchased pursuant to the laws of a State that requires each annuitant under thecharitable gift annuity to be an annuitant under the contract (in order for the State insurance lawsnot to apply to the charitable gift annuity), then the foregoing requirements (1) and (2) are treatedas if they are met, provided that the State law requirement was in effect on February 8, 1999,each annuitant under the charitable gift annuity is a bona fide resident of the State, the onlypersons entitled to payments under the contract are persons entitled to payments under thecharitable gift annuity, and the timing and amount of payments under the contract to each personare substantially the same as the timing and amount of payments to the person under thecharitable organization's obligation under the charitable gift annuity (as in effect at the time ofthe transfer to the charitable organization).

	In the case of a charitable remainder annuity trust or charitable remainder unitrust (asdefined in section 664(d)) that purchases a contract issued by an insurance company, a personwho is a recipient of an annuity or unitrust amount paid by the trust is not treated as an indirectbeneficiary under the contract purchased by the trust, provided the foregoing requirements (1)and (2) (applied with respect to the trust) are met.

	Nothing in the proposal is intended to suggest that a life insurance, endowment, orannuity contract would be a personal benefit contract, solely because an individual who is arecipient of an annuity or unitrust amount paid by a charitable remainder annuity trust orcharitable remainder unitrust uses such a payment to purchase a life insurance, endowment orannuity contract, and a beneficiary under the contract is the recipient, a member of his or herfamily, or another person he or she designates.

**Excise tax**

	The proposal imposes on any organization described in section 170(c) of the Code anexcise tax, in the amount of the premiums paid by the organization on any life insurance,annuity, or endowment contract, if the payment of premiums on the contract is in connectionwith a transfer for which a deduction is not allowable under the deduction denial rule of theproposal.  The excise tax does not apply if all of the direct and indirect beneficiaries under thecontract (including any related side agreement) are organizations described in section 170(c). Under the proposal, payments are treated as made by the organization, if they are made by anyother person pursuant to an understanding or expectation of payment. The excise tax is to beapplied taking into account rules ordinarily applicable to excise taxes in chapter 41 or 42 of theCode (e.g., statute of limitation rules).

**Reporting**

	The proposal requires that the organization annually report the amount of premiums thatis paid during the year and that is subject to the excise tax imposed under the provision, and thename and taxpayer identification number of each beneficiary under the contract to which thepremiums relate, as well as other information required by the Secretary of the Treasury.  For thispurpose, it is intended that a beneficiary include the beneficiary under any side agreement towhich the section 170(c) organization is a party (or of which it is otherwise aware).  Penaltiesapplicable to returns required under Code section 6033 apply to returns under this reportingrequirement.  Returns required under this provision are to be furnished at such time and in suchmanner as the Secretary shall by forms or regulations require.

**Regulations**

	The proposal provides for the promulgation of regulations necessary to carry out thepurposes of the provisions.

**Effective Date**

	The deduction denial provision of the proposal applies to transfers after February 8, 1999(as provided in H.R. 630).  The excise tax provision of the proposal applies to premiums paidafter the date of enactment.  The reporting provision applies to premiums (that would be subjectto the excise tax were it then effective) paid after February 8, 1999.

	No inference is intended that a charitable contribution deduction is allowed under presentlaw in the circumstances to which this proposal applies.  The proposal does not change the ruleswith respect to fraud or criminal or civil penalties under present law; thus, actions constitutingfraud or that are subject to penalties under present law would still constitute fraud or be subjectto the penalties after enactment of the proposal.

**G.  Treatment of Excess Pension Assets Used for Retiree Health Benefits**

**Present Law**

	Defined benefit pension plan assets generally may not revert to an employer prior to thetermination of the plan and the satisfaction of all plan liabilities. A reversion prior to plantermination may constitute a prohibited transaction and may result in disqualification of the plan.Certain limitations and procedural requirements apply to a reversion upon plan termination. Anyassets that revert to the employer upon plan termination are includible in the gross income of theemployer and subject to an excise tax.  The excise tax rate, which may be as high as 50 percentof the reversion, varies depending upon whether or not the employer maintains a replacementplan or makes certain benefit increases.  Upon plan termination, the accrued benefits of all planparticipants are required to be 100-percent vested.

	A pension plan may provide medical benefits to retired employees through a section401(h) account that is a part of such plan. A qualified transfer of excess assets of a definedbenefit pension plan (other than a multiemployer plan) into a section 401(h) account that is a partof such plan does not result in plan disqualification and is not treated as a reversion to theemployer or a prohibited transaction.  Therefore, the transferred assets are not includible in thegross income of the employer and are not subject to the excise tax on reversions.

	Qualified transfers are subject to amount and frequency limitations, use requirements,deduction limitations, vesting requirements and minimum benefit requirements. Excess assetstransferred in a qualified transfer may not exceed the amount reasonably estimated to be theamount that the employer will pay out of such account during the taxable year of the transfer forqualified current retiree health liabilities.  No more than one qualified transfer with respect to anyplan may occur in any taxable year.

	The transferred assets (and any income thereon) must be used to pay qualified currentretiree health liabilities (either directly or through reimbursement) for the taxable year of thetransfer.  Transferred amounts generally must benefit all pension plan participants, other than keyemployees, who are entitled upon retirement to receive retiree medical benefits through thesection 401(h) account.  Retiree health benefits of key employees may not be paid (directly orindirectly) out of transferred assets.  Amounts not used to pay qualified current retiree healthliabilities for the taxable year of the transfer are to be returned at the end of the taxable year tothe general assets of the plan.  These amounts are not includible in the gross income of theemployer, but are treated as an employer reversion and are subject to a 20-percent excise tax.

	No deduction is allowed for (1) a qualified transfer of excess pension assets into a section401(h) account, (2) the payment of qualified current retiree health liabilities out of transferredassets (and any income thereon) or (3) a return of amounts not used to pay qualified currentretiree health liabilities to the general assets of the pension plan.

	In order for the transfer to be qualified, accrued retirement benefits under the pensionplan generally must be 100-percent vested as if the plan terminated immediately before thetransfer.

	The minimum benefit requirement requires each group health plan under whichapplicable heath benefits are provided to provide substantially the same level of applicable healthbenefits for the taxable year of the transfer and the following 4 taxable years.  The level ofbenefits that must be maintained is based on benefits provided in the year immediately precedingthe taxable year of the transfer.  Applicable health benefits are health benefits or coverage thatare provided to (1) retirees who, immediately before the transfer, are entitled to receive suchbenefits upon retirement and who are entitled to pension benefits under the plan and (2) thespouses and dependents of such retirees.

	The provision permitting a qualified transfer of excess pension assets to pay qualifiedcurrent retiree health liabilities expires for taxable years beginning after December 31, 2000.

**Description of Proposal**

	The present-law provision permitting qualified transfers of excess defined benefit pensionplan assets to provide retiree health benefits under a section 401(h) account would be extendedthrough September 30, 2009.(14)  In addition, the present-law minimum benefit requirement wouldbe replaced by the minimum cost requirement that applied to qualified transfers before December9, 1994, to section 401(h) accounts.  Therefore, each group health plan or arrangement underwhich applicable health benefits are provided would be required to provide a minimum dollarlevel of retiree health expenditures for the taxable year of the transfer and the following 4 taxableyears.  The minimum dollar level would be the higher of the applicable employer costs for eachof the 2 taxable years immediately preceding the taxable year of the transfer.  The applicableemployer cost for a taxable year would be determined by dividing the employer's qualifiedcurrent retiree health liabilities by the number of individuals to whom coverage for applicablehealth benefits was provided during the taxable year.

**Effective Date**

	The proposal would be effective with respect to qualified transfers of excess definedbenefit pension plan assets to section 401(h) accounts after December 31, 2000, and beforeOctober 1, 2009.

**H.  Impose Limitation on Prefunding of Certain Employee Benefits**

**Present Law**

	Under present law, contributions to a welfare benefit fund generally are deductible whenpaid, but only to the extent permitted under the rules of Code sections 419 and 419A.  Theamount of an employer's deduction in any year for contributions to a welfare benefit fund cannotexceed the fund's qualified cost for the year.  The term qualified cost means the sum of (1) theamount that would be deductible for benefits provided during the year if the employer paid themdirectly and was on the cash method of accounting, and (2) within limits, the amount of anyaddition to a qualified asset account for the year.  A qualified asset account includes any accountconsisting of assets set aside for the payment of disability benefits, medical benefits,supplemental unemployment compensation or severance pay benefits, or life insurance benefits.The account limit for a qualified asset account for a taxable year is generally the amountreasonably and actuarially necessary to fund claims incurred but unpaid (as of the close of thetaxable year) for benefits with respect to which the account is maintained and the administrativecosts incurred with respect to those claims. Specific additional reserves are allowed for futureprovision of post-retirement medical and life insurance benefits.

	The present-law deduction limits for contributions to welfare benefit funds do not applyin the case of certain 10-or-more employer plans.  A plan is a 10-or-more employer plan if (1)more than one employer contributes to it, (2) no employer is normally required to contributemore than 10 percent of the total contributions under the plan by all employers, and (3) the plandoes not maintain experience-rating arrangements with respect to individual employers.

**Description of Proposal**

	Under the proposal, the present-law exception to the deduction limit for 10-or-moreemployer plans would be limited to plans that provide only medical, disability, and group-termlife insurance benefits.  This exception would no longer be available with respect to plans thatprovide supplemental unemployment compensation, severance pay and life insurance (other thangroup-term life) benefits.  Thus, the generally applicable deduction limits (sections 419 and419A) would apply to plans providing these benefits.

	In addition, rules would be included to prevent amounts that are deductible pursuant tothe 10-or-more employer exception (and earnings thereon) from being used to provide benefitsother than medical, disability, and group-term life insurance.

	Under the proposal, no inference would be intended with respect to the validity of any10-or-more employer arrangement under the provisions of present law.

**Effective Date**

	The proposal would be effective with respect to contributions paid after the date ofenactment.

**I.  Modify Installment Method and Prohibit its Use by Accrual Method Taxpayers**

**Present Law**

	An accrual method taxpayer is generally required to recognize income when all eventshave occurred that fix the right to the receipt of the income and the amount of the income can bedetermined with reasonable accuracy.  The installment method of accounting provides anexception to this general principle if income recognition by allowing a taxpayer to defer therecognition of income from the disposition of certain property until payment is received.  Salesto customers in the ordinary course of business are not eligible for the installment method, exceptfor sales of property that is used or produced in the trade or business of farming and sales oftimeshares and residential lots if an election to pay interest under section 453(l)(2)(b)) is made.

	A pledge rule provides that if an installment obligation is pledged as security for anyindebtedness, the net proceeds(15) of such indebtedness are treated as a payment on the obligation,triggering the recognition of income.  Actual payments received on the installment obligationsubsequent to the receipt of the loan proceeds are not taken into account until such subsequentpayments exceed the loan proceeds that were treated as payments.  The pledge rule does notapply to sales of property used or produced in the trade or business of farming, to sales oftimeshares and residential lots where the taxpayer elects to pay interest under section453(l)(2)(b), or to dispositions where the sales price does not exceed $150,000.

	An additional rules require the payment of interest on the deferred tax that is attributableto most large installment sales.

**Description of Proposal**

**Prohibit use of installment method for accrual method dispositions**

	The proposal generally would prohibit the use of the installment method of accountingfor dispositions of property that would otherwise be reported for Federal income tax purposesusing an accrual method of accounting.

	The proposal does not change present law regarding the availability of the installmentmethod for dispositions of property used or produced in the trade or business of farming.  Theproposal also does not change present law regarding the availability of the installment method fordispositions of timeshares and residential taxpayers if the taxpayer elects to pay interest undersection 453(l)(3).

	The proposal does not change the ability of a cash method taxpayer to use the installmentmethod.  For example, a cash method individual owns all of the stock of a closely held accrualmethod corporation.  This individual sells his stock for cash, a ten year note, and a percentage ofthe gross revenues of the company for next ten years.  The proposal would not change the abilityof this individual to use the installment method in reporting the gain on the sale of the stock.

**Modify pledge rule**

	The proposal would also modify the pledge rule to provide that entering into anyarrangement that gives the taxpayer the right to satisfy an obligation with an installment note willbe treated in the same manner as the direct pledge of the installment note.  For example, ataxpayer disposes of property for an installment note.  The disposition is properly reported using the installment method.  The taxpayer only recognizes gain as it receives the deferred payment.However, were the taxpayer to pledge the installment note as security for a loan, it would berequired to treat the proceeds of such loan  as a payment on the installment note, and recognizethe appropriate amount of gain.  Under the proposal, the taxpayer would also be required to treatthe proceeds of a loan as payment on the installment note to the extent the taxpayer had the rightto repay the loan by transferring the installment note to the taxpayer's creditor.  Otherarrangements that have a similar effect would be treated in the same manner.

	The proposed modification of the pledge rule would only apply to installment sales wherethe pledge rule of present law applies.  Accordingly, the proposal would not apply to installmentmethod sales made by a dealer in timeshares and residential lots where the taxpayer elects to payinterest under section 453(l)(2)(b), to sales of property used or produced in the trade or businessof farming, or to dispositions where the sales price does not exceed $150,000, since such salesare not subject to the pledge rule under present law.

**Effective Date**

	The proposal would be effective for installment sales entered into on or after the date ofenactment.

**J.  Add Certain Vaccines Against Streptococcus Pneumoniato the List of Taxable Vaccines**

**Present Law**

	A manufacturer's excise tax is imposed at the rate of 75 cents per dose (sec. 4131) on thefollowing vaccines routinely recommended for administration to children: diphtheria, pertussis,tetanus, measles, mumps, rubella, polio, HIB (haemophilus influenza type B), hepatitis B,varicella (chicken pox), and rotavirus gastroenteritis.  The tax applies to any vaccine that is acombination of vaccine components equals 75 cents times the number of components in thecombined vaccine.

	Amounts equal to net revenues from this excise tax are deposited in the Vaccine InjuryCompensation Trust Fund to finance compensation awards under the Federal Vaccine InjuryCompensation Program for individuals who suffer certain injuries following administration ofthe taxable vaccines.  This program provides a substitute Federal, "no fault" insurance system forthe State-law tort and private liability insurance systems otherwise applicable to vaccinemanufacturers.  All persons immunized after September 30, 1988, with covered vaccines mustpursue compensation under this Federal program before bringing civil tort actions under Statelaw.

**Description of Proposal**

	The proposal would add conjugated streptococcus pneumonia vaccines to the list oftaxable vaccines.

**Effective Date**

	The proposal would be effective for vaccine purchases beginning on the day after the dateon which the Centers for Disease Control make final recommendation for routine administrationof conjugated streptococcus pneumonia vaccines to children.  No floor stocks tax would becollected for amounts held for sale on that date.
**FOOTNOTES**
1.   This document may be cited as follows:  Joint Committee on Taxation, *Description ofChairman's Mark of Proposals Relating to Education Incentives* (JCX-20-99) May 17, 1999.
2.   Education IRAs generally are not subject to Federal income tax, but are subject to theunrelated business income tax ("UBIT") imposed by section 511.
3.   An excise tax may be imposed under present law to the extent that excess contributionsabove the $500 annual limit are made to an education IRA.
4.   "Eligible educational institutions" are defined the same for purposes of education IRAs(described in Part A, above) and qualified State tuition programs.
5.   Distributions from qualified State tuition programs are treated as representing a pro-ratashare of the principal (i.e., contributions) and accumulated earnings in the account.
6.   Sections 529(c)(2), (c)(4), and (c)(5), and section 530(d)(3) provide special estate andgift tax rules for contributions made to, and distributions made from, qualified State tuitionprograms and education IRAs.
7.   These rules also apply in the event that section 127 expires and is not reinstated. 
8.   In the case of an employee, education expenses (if not reimbursed by the employer)may be claimed as an itemized deduction only if such expenses, along with other miscellaneousdeductions, exceed 2 percent of the taxpayer's AGI. The 2-percent floor limitation is disregardedin determining whether an item is excludable as a working condition fringe benefit. 
9.   The maximum allowable deduction for 1998 was $1,000.
10.   1998-51 I.R.B. 16.
11.   An Act to provide that members of the Armed Forces performing services for thepeacekeeping efforts in Bosnia and Herzegovina, Croatia, and Macedonia shall be entitled to taxbenefits in the same manner as if such services were performed in a combat zone, and for otherpurposes  (March 20, 1996).
12.   These user fees were originally enacted in section 10511 of the Revenue Act of 1987(Public Law 100-203, December 22, 1987).
13.   The proposal is similar to H.R. 630, introduced by Mr. Archer for himself and for Mr.Rangel (106th Cong., 1st Sess.).
14.   In addition to amendments to the Internal Revenue Code, the proposal would makeconforming amendments to applicable sections of the Employee Retirement Income Security Act("ERISA").
15.   The net proceeds equal the gross loan proceeds less the direct expenses of obtainingthe loan.****