****OVERVIEW OF PRESENT LAW AND ISSUES RELATING**
**TO INDIVIDUAL INCOME TAXES**

Scheduled for a Public Hearing

Before the

SENATE COMMITTEE ON FINANCE

on April 15, 1999

Prepared by the Staff

of the

JOINT COMMITTEE ON TAXATION

April 14, 1999

JCX-18-99

**CONTENTS**
**INTRODUCTION**

**I.  OVERVIEW**

**II.  PRESENT LAW AND BACKGROUND**

A.  Individual Income Taxes

     1.  Sources of income

       Figure 1 - Sources of Gross Income Subject to Tax for All Individual       Taxpayers (Including Nonfilers and Estimated 1999 Levels of Income)

     2.  Exclusions from and deferrals of income        a.  Exclusions from income          i.  In general          ii.  Employer-provided fringe benefits          iii.  Qualified scholarships          iv.  Exclusion of Social Security benefits

       Table 1 -	Distribution of Taxpayers By Income Who Receive Social Security       Benefits and Who are in the Phase-in Range for Taxation of Benefits

          v.  Life insurance and accelerated death benefits          vi.  Gifts and inheritances          vii.  Military benefits          viii.  Education savings bonds          ix.  Compensation for personal injuries or sickness          x.  Step-up of basis at death          xi.  U.S. citizens living abroad          xii.  Tax-exempt interest          xiii.  Sales of principal residence

        b.  Deferrals of income
          i.  Individual retirement arrangements
          Table 2 -	Distribution By Income of Taxpayers Making Contributions to          Deductible IRAs and Those in the Contribution Phase-out Range

          ii.  Employer-sponsored retirement plans          iii.  Education IRAs          iv.  Qualified State tuition programs          v.  Deferred annuities          vi.  Life Insurance          vii.  Incentive stock options          viii.  Sales of stock to employee stock ownership plans          ix.  Property received in connection with the performance of services          x.  Other nontaxable exchanges

     3.  Deductions from income        a.  Above-the-line deductions        b.  Personal exemptions (including personal exemption phaseout ("PEP"))

          Table 3 -	Distribution By Income of Taxpayers Claiming Personal          Exemptions and Those Subject to the Personal Exemption Phaseout

        c.  Standard deduction        d.  Itemized deductions          i.  Description of commonly used itemized deductions          ii.  Limitation on itemized deductions          iii.  Data relating to itemized deductions
          Table 4 -	Distribution by Income of Taxpayers Claiming Itemized Deductions          and Taxpayers Subject to Various Limitations on Itemized Deductions 
     4.  Regular income tax rates        a.  Rate structure

          Table 5 -	Federal Individual Income Tax Rates for 1999

        b.  Capital gains and losses

          Table 6 -	Tax Rates Applicable Under Present Law to Capital Gains

     5.  Tax credits        a.  Child tax credit

          Table 7 -  Distribution by Income of Taxpayers Claiming Child Tax          Credit and Those in Phase-out Range

        b.  Earned income credit

          Table 8 -	Earned Income Credit Parameters 1999

        c.  Dependent care credit

          Table 9 -  Distribution by Income of Taxpayers Claiming Dependent Care          Tax Credit and Those in Partial Phase-out Range

        d.  Education credits          i.  HOPE credit          ii.  Lifetime Learning credit

          Table 10 -  Distribution by Income of Taxpayers Claiming HOPE and          Lifetime Learning Tax Credits and Those in Phase-out Range

        e.  Other individual tax credits          i.  Credit for the elderly and disabled          ii.  Adoption tax credit          iii.  First-time homebuyer credit for the District of Columbia        f.  General business tax credits          i.  Low-income housing tax credit          ii.  Rehabilitation tax credit

B.  Individual Alternative Minimum Tax ("AMT")

          Table 11 -  Individual Income Tax Returns With Tax Liability Under the          Individual Alternative Minimum Tax, 1987-2009 Actual and Projected

          Table 12 -  Distribution of Individual AMT Taxpayers with AMT          Liability Under Present Law, 2000

          Table 13 -  Distribution of Individual AMT Taxpayers with AMT          Liability Under Present Law, 2008

          Table 14 -  Projected Individual Income Tax Returns with Tax          Liability Under the Individual AMT if Exemptions          Were Indexed, 1999-2008

          Table 15 -  Projected Individual Income Tax Returns with Nonrefundable          Tax Credits, 2000 and 2008

          Table 16 -  Projected Individual Income Tax Returns with Child          Credits, 2000 and 2008

          Table 17 -  Projected Individual Income Tax Returns with HOPE          and Lifetime Learning Credits, 2000 and 2008

C.  Employment Taxes

     1.  Social Security tax     2.  Medicare tax     3.  Self-employment tax     4.  Unemployment compensation tax     5.  Treatment of household employees

D.  Reporting, Withholding, and Estimated Tax Requirements

**III.  SOURCES OF COMPLEXITY FOR INDIVIDUALS**

A.  General Sources of Complexity

B.  Alternative Minimum Tax

C.  Treatment of Capital Gains and Losses

D.  Income Phaseouts, Phaseins, and Floors

          Table 18 -  Summary of Present-Law Individual Tax Provisions          With Phaseins or Phaseouts

E.  Individual Retirement Arrangements ("IRAs")

          Table 19 -  Summary Comparison of Present-Law Rules Relating          to Individual Retirement Arrangements

F.  Provisions Relating to Education

          Table 20 -  Comparison of Certain Education Tax Incentives          Available to Individuals Under Present Law

G.  Definition of Dependent

          Figure 2 -  Support Test for Children of Divorced or Separated          Parents to Claim the Dependency Exemption

          Figure 3 -  Can You Claim a Dependency Exemption for a Dependent?

H.  Earned Income Credit

          Table 21 -  Distribution by Income of Taxpayers Claiming the Earned          Income Credit and Those in the Phase-in and Phase-out Range

I.  Estimated Taxes

**Appendix A:  IRS Worksheets and Forms Relating to the Individual Alternative**                      **Minimum Tax**

**Appendix B:  IRS Forms and Instructions Relating to Capital Gains and Losses**

**Appendix C:  IRS Form Relating to Estimated Taxes**

**INTRODUCTION**

	The Senate Committee on Finance has scheduled a public hearing on April 15, 1999, onthe complexity of the individual income tax.  This document,(1) prepared by the staff of the JointCommittee on Taxation, provides an overview of present law and issues relating to the Federalindividual income tax.

	Part I of the document is an overview.  Part II provides a summary of present-law Federalindividual income tax provisions and background information.  Part III discusses general sourcesof complexity for individuals under the Federal income tax laws, and specific provisions givingrise to complexity.

**I.  OVERVIEW**

**The current U.S. Federal tax system**

	The current Federal income tax system consists primarily of the regular income taximposed on the income of individuals and corporations. An individual's income tax liability isdetermined by applying a graduated rate schedule to the individual's worldwide taxable incomeand adjusting for applicable tax credits

	In the case of individuals, the rate of tax depends on the individual's filing status (i.e.,single, head of household, married filing a joint return, and married filing a separate return) andthe individual's taxable income. Generally, the individual's taxable income is gross income(determined with respect to applicable deferrals and exclusions) less personal exemptions and thegreater of (1) itemized deductions or (2) the standard deduction.

	For each filing status, the rate schedules are broken into several ranges of income, knownas income brackets, and the marginal tax rate increases as a taxpayer's taxable income increases.The present-law marginal tax rates are 15 percent, 28 percent, 31 percent, 36 percent and, 39.6percent. Long-term capital gains generally are subject to a maximum rate of 20 percent. Theindividual may use various income tax credits to reduce the regular income tax liability. Anindividual is subject to an alternative minimum tax which is payable, in addition to all other taxliabilities, to the extent that it exceeds the taxpayer's regular income tax liability.

	Part II., below, provides a more detailed overview of the present-law Federal tax systemas it applies to individuals.

**Need for simplification**

	Most commentators agree that (1) a tax system should be easy both for individuals tounderstand and for the government to administer, and (2) the computation of tax liabilities formost taxpayers should not require tedious or time consuming computations or recordkeeping.  Acomplicated tax system may result in inefficiencies because of high compliance costs, as well asa perception of unfairness because of the likelihood that similarly situated taxpayers will havedifferent tax liabilities.  A complicated tax system may also result in similarly situated taxpayersreporting unequal tax liabilities because of differing abilities to understand the rules or pay forprofessional tax assistance.

	On the other hand, simplicity in a tax system may involve sacrifices of equity andefficiency.  Rules that are complicated may result in more appropriate calculations of taxliability.

**General sources of complexity**

	Certain general sources of complexity in the present-law tax system can be identified. These sources of complexity stem from (1) elections provided to taxpayers, (2) definitionalissues that taxpayers must consider, (3) recordkeeping and reporting requirements, (4) limitationson the availability of tax benefits, and (5) frequent changes in the tax laws.

	In addition, certain specific provisions of present law may lead to increased complexityfor individuals.  These provisions include the individual alternative minimum tax, provisionsrelating to capital gains and losses, various income phase-outs, phase-ins, and floors, provisionsrelating to individual retirement arrangements ("IRAs"), education tax incentives, the earnedincome tax credit, the definition of a dependent for Federal tax purposes, and the estimated taxprovisions.  A detailed discussion of how these provisions increase complexity for individuals iscontained in Part III., below.

**II.  PRESENT LAW AND BACKGROUND**

**A.  Individual Income Taxes**

**1.  Sources of income**

	The current Federal income tax system consists primarily of income taxes imposed on theincome of individuals and corporations. A United States citizen or resident alien generally issubject to the U.S. individual income tax on his or her worldwide taxable income.(2) Taxableincome equals the taxpayer's total gross income less certain exclusions, exemptions, anddeductions. Graduated tax rates are then applied to a taxpayer's taxable income to determine hisor her individual income tax liability. A taxpayer may reduce his or her income tax liability byany applicable tax credits.

	Under the Internal Revenue Code of 1986 (the "Code"), gross income means "incomefrom whatever source derived" except for certain items specifically exempt or excluded bystatute.(3) Sources of income include compensation for services, interest, dividends, capital gains,rents, royalties, alimony and separate maintenance payments, annuities, income from lifeinsurance and endowment contracts (other than certain death benefits), pensions, gross profitsfrom a trade or business, income from the discharge of indebtedness, income in respect of adecedent, and income from S corporations, partnerships, trusts or estates. As described in detailbelow, statutory exclusions from gross income include death benefits payable under a lifeinsurance contract, interest on certain State and local bonds, employer-provided health insurance,employer-provided pension contributions, and certain other employer-provided fringe benefits.

	The gross income of most individuals is derived from underlying trade or businessactivities.(4)  Individual gross income may take the form of income from labor (e.g., salaries,wages, and retirement benefits), income from passive investments in businesses (e.g., interest,dividends, and capital gains), or income of business activities that are reported directly by theindividual (e.g., rents and royalties, gross profits from sole proprietorships, and income frompass-through entities).

	Some income derived from trade or business activities is subject to one level of tax, whileother such income is subject to two levels of tax. For Federal income tax purposes, a corporationgenerally is treated as a separate taxpayer apart from its shareholders.  Any net income earned bythe corporation is subject to the corporate income tax.(5)  In determining its taxable income, acorporation generally is allowed deductions for its ordinary and necessary business expenditures.Thus, amounts paid to independent contractors and employees for services and to creditors asinterest are subject to one level of tax because such amounts are deductible by the payorcorporation, and are includible in the incomes of the recipient service providers or creditors.Conversely, distributions from a corporation with respect to its stock (either as dividends or inliquidation) are subject to two levels of tax because such amounts are not deductible by thecorporation, but are includible in the income of the individual shareholders.  Some entities (i.e.,partnerships, S corporations,(6) and certain trusts, collectively known as "pass-through entities"),on the other hand, generally are not subject to an entity-level tax.(7)  Instead, income earned bypass-through entities, whether distributed or not, is taxed directly to the owners in proportion totheir interests in the entities, and distributions from the entities generally are tax free.(8)  Similarly,income earned by a sole proprietorship is taxed directly to the individual owner.

	Figure 1, below, shows sources of income that are subject to tax for all individuals. Themajor source of individuals' income subject to tax is wages and salaries, which constitute nearly73 percent of all such income. The next most significant sources of income for individuals arebusiness and farm income (including income reported on Schedule E), which constitute just over7 percent, and taxable amounts from pensions and individual retirement arrangements ("IRAs"),which constitute just under 7 percent of such income.

**FIGURE 1**
Source: Staff of the Joint Committee on Taxation.

**2.  Exclusions from and deferrals of income**

     **a.  Exclusions from income**

        **i.  In general**

	Present law provides specific exclusions from gross income for certain items of income.Exclusions from income are frequently provided for nontax policy reasons, such as to encourageparticular behavior or in situations in which income inclusion has been determined to beinappropriate. For example, the exclusion from income for employer-provided health care isprovided in order to encourage employers to provide health insurance for their employees and toencourage employees to prefer to receive some part of their compensation in the form of healthinsurance. Some exclusions are also provided for administrative reasons. For example, propertyor services provided by an employer are excludable from gross income as a de minimis fringebenefit if the value is so small as to make accounting for it unreasonable or administrablyimpracticable.

	The benefit of an exclusion from income increases as the taxpayer's marginal tax rateincreases. That is, the higher an individual's marginal tax rate, the more the individual saves intaxes by reason of an exclusion. In the case of items that are excludable from wages foremployment tax purposes, the individual benefits from reduced employment taxes. However, theindividual may also have reduced social security benefits in the future as a result of theexclusion.

	Certain of the exclusions from income under present law are described in brief below. 

        **ii.  Employer-provided fringe benefits**

Employer-provided accident or health care.--Contributions for and amounts receivedunder employer-provided accident or health plans (including plans providing long-term careservices or insurance) and employer contributions to medical savings accounts generally areexcludable from gross income and from wages for employment tax purposes. The exclusion islimited in the case of a self-insured medical reimbursement plan which discriminates in favor ofhighly compensated employees. 

Educational assistance.--Up to $5,250 annually of employer-provided educationalassistance is excludable from gross income and wages, if the assistance is provided pursuant to aseparate written plan of an employer that does not discriminate in favor of highly compensatedemployees and certain other requirements are satisfied. The exclusion does not apply tograduate-level courses.  The exclusion does not apply to courses beginning after May 31, 2000.

	In the absence of the exclusion, employer-provided educational assistance is excludablefrom gross income and wages only if the educational assistance relates to the employee's currentjob.

Dependent care assistance.--Up to $5,000 annually of employer-provided dependent careassistance is excludable from gross income and wages if the assistance is provided pursuant to aseparate written plan of an employer that does not discriminate in favor of highly compensatedemployees and meets certain other requirements. The amount excludable cannot exceed theearned income of the employee or, if the employee is married, the lesser of the earned income ofthe employee or the earned income of the employee's spouse. 

Adoption assistance.--Up to $5,000 per child ($6,000 in the case of a child with specialneeds) of employer-provided adoption assistance is excludable from gross income. The exclusiondoes not apply for employment tax purposes. The exclusion is phased out between $75,000 and$115,000 of modified adjusted gross income. This exclusion expires with respect to amountspaid or expenses incurred after December 31, 2001. 

Group-term life insurance.--Gross income and wages do not include the cost of up to$50,000 of group-term life insurance provided by the employer.  The exclusion is limited in thecase of a group-term life insurance plan that discriminates in favor of key employees.

Miscellaneous employee fringe benefits.--The following miscellaneous fringe benefits areexcludable from income and wages if certain requirements are satisfied: (1) services provided atno additional cost to the employer (e.g., free flights to airline personnel); (2) qualified employeediscounts; (3) working condition fringe benefits (i.e., items that would be deductible as abusiness expense if the individual paid for the item); and (4) de minimis fringe benefits. Inaddition, up to $65 per month (for 1999) of van pooling or transit passes provided by theemployer and up to $175 per month (for 1999) of qualified parking are excludable from incomeand wages. Amounts paid by an employer for moving expenses that would be deductible by theemployee are excludable from income (if the employee did not deduct the expenses). The valueof the use of certain on-premises gyms and other athletic facilities is excludable from income andwages. 

	The value of meals or lodging furnished to an employee and his or her spouse ordependents for the convenience of the employer are excludable from income and wages. In thecase of meals, the meal must be furnished on the business premises of the employer in order forthe exclusion to apply. The exclusion for lodging generally does not apply unless the employee isrequired to accept the lodging on the business premises of the employer as a condition ofemployment.

Cafeteria plans.--Under present law, compensation generally is includible in gross incomein the year in which it is actually or constructively received. An amount is constructivelyreceived if it is made available to the taxpayer. Under one exception to the constructive receiptrules, no amount is includible in the gross income of a participant in a cafeteria plan meetingcertain requirements merely because the participant can chose between cash and certainnontaxable benefits (such as health care). This exception generally also applies for purposes ofemployment taxes. If the individual elects to take cash rather than benefits, then the amount ofcash received is includible in income and wages.

	The constructive receipt exception is not available if the individual is permitted to changea benefit election during a period of coverage in the absence of a change in family status orcertain other events.  Furthermore, the constructive receipt exception is limited if the cafeteriaplan discriminates in favor of highly compensated employees or if the nontaxable benefitsprovided to key employees exceed a certain percentage of the benefits provided for all employeesunder the plan.

	A similar exception to the constructive receipt doctrine applies if an employee is offered achoice between cash and nontaxable parking, vanpooling, a transit benefit.

        **iii.  Qualified scholarships**

	Gross income does not include amounts received as a qualified scholarship by anindividual who is a candidate for a degree at a qualified education institution or tuition reductionprovided to an employee of an educational institution for education below the graduate level.Neither exclusion applies to amounts that are compensation for services required as a conditionof receiving the scholarship or tuition reduction, nor does the exclusion apply to amountsattributable to room and board.

        **iv.  Exclusion of Social Security benefits**

	Under present law, taxpayers receiving Social Security benefits are not required toinclude any portion of such benefits in gross income if their "provisional income" does notexceed $25,000, in the case of unmarried taxpayers, or $32,000, in the case of married taxpayersfiling joint returns. For purposes of these computations, a taxpayer's provisional income isdefined as adjusted gross income plus: (1) tax-exempt interest; (2) only excludable interest oneducational savings bonds; (3) adoption assistance payments; (4) certain deductible student loaninterest; (5) certain foreign source income; (6) certain U.S. possession income; (7) certain incomefrom Puerto Rico; and (8) one-half of the taxpayer's Social Security benefits. A second-tierthreshold for provisional income is $34,000, in the case of unmarried taxpayers, or $44,000, inthe case of married taxpayers filing joint returns.

	If the taxpayer's provisional income exceeds the lower threshold but does not exceed thesecond-tier threshold, then the amount required to be included in income is the lesser of (1) 50percent of the taxpayer's Social Security benefits, or (2) 50 percent of the excess of the taxpayer'sprovisional income over the lower threshold.

	If the amount of provisional income exceeds the second-tier threshold, then the amountrequired to be included in income is the lesser of: (1) 85 percent of the taxpayer's Social Securitybenefits; or (2) the sum of (a) 85 percent of the excess of the taxpayer's provisional income overthe second-tier threshold, plus (b) the smaller of (i) the amount of benefits that would have beenincluded if the 50-percent inclusion rule (the rule in the previous paragraph) were applied, or (ii)one-half of the difference between the taxpayer's second-tier threshold and lower threshold.

	Table 1 shows the number of taxpayers receiving Social Security benefits and number oftaxpayers subject to tax on a portion of their Social Security benefits.

**Table 1.--Distribution of Taxpayers By Income Who Receive Social SecurityBenefits and Who are in the Phase-In Range for Taxation of Benefits[Calendar Year 1999]**

******Income category1****Taxpayers withSocial Securityincome**
**(millions)****Taxpayers in SocialSecurity phase-in range**
**(millions)**Less than $10,000	2.50.0$10,000 to $20,000	10.10.0$20,000 to $30,000	5.4 (2)$30,000 to $40,000	4.20.9$40,000 to $50,000	3.31.3$50,000 to $75,000	4.72.6$75,000 to $100,000	1.90.2$100,000 to $200,000	1.5(2)$200,000 and over	0.40.0**Total, all taxpayers:**34.05.0
Details may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.2  Less than 50,000 taxpayers.

Source: Staff of the Joint Committee on Taxation.

        **v.  Life insurance and accelerated death benefits**

	Under present law, the investment income ("inside buildup") earned on premiumscredited under a life insurance contract is not subject to current taxation. Amounts received undera life insurance contract by reason of the death of the insured or with respect to an insured who isterminally ill or chronically ill are excludable from income. Thus, neither the policyholder northe policyholder's beneficiary is ever taxed on the inside buildup if the proceeds of the policy arepaid to the policyholder's beneficiary by reason of the death of the insured or of the insured beingterminally or chronically ill.(9)

        **vi.  Gifts and inheritances**

	Gross income does not include the value of property acquired by gift, bequest, devise, orinheritance. The value of items so acquired may, however, be subject to the estate and gift tax.

        **vii.  Military benefits**

	Gross income does not include certain benefits provided to members of the armed forcesand their families.

        **viii.  Education savings bonds**

	Gross income does not include interest earned on an education savings bond to the extentused to pay qualified higher education expenses. For 1999, the exclusion is phased out forindividuals with modified adjusted gross income between $53,100 and $68,100 in the case of asingle taxpayer and $79,650 and $109,650 in the case of a married taxpayer filing a joint return.

        **ix.  Compensation for personal injuries or sickness**

	Gross income does not include amounts received under workmen's compensation acts ascompensation for personal injuries or sickness. In addition, gross income does not includeamounts received as damages (other than punitive damages) on account of personal physicalinjuries or physical sickness.

        **x.  Step-up of basis at death**

	Under present law, gain is generally recognized on the sale or exchange of property to theextent the amount received exceeds the individual's basis. In general, the basis is the individual'scost of acquiring the property. In the case of property acquired from a decedent, the basis of theproperty to the individual receiving the property is generally equal to the fair market value of theproperty on the date of the decedent's death (i.e., there is a "stepped-up basis"). The effect of thestepped-up basis is to provide an exclusion for the amount of gain that would have beenrecognized had the property been sold on the date of the decedent's death.

        **xi.  U.S. citizens living abroad**

	U.S. citizens generally are subject to U.S. income tax on all their income, whetherderived in the United States or elsewhere. A U.S. citizen who earns income in a foreign countryalso may be taxed on such income by that foreign country. However, the United States generallycedes the primary right to tax income derived by a U.S. citizen from sources outside the UnitedStates to the foreign country where such income is derived. Accordingly, a credit against the U.S.income tax imposed on foreign source taxable income is provided for foreign taxes paid on thatincome.

	U.S. citizens living abroad may be eligible to exclude from their income for U.S. taxpurposes certain foreign earned income and foreign housing costs. In order to qualify for theseexclusions, a U.S. citizen must be either (1) a bona fide resident of a foreign country for anuninterrupted period that includes an entire taxable year or (2) present overseas for 330 days outof any 12 consecutive month period. In addition, the taxpayer must have his or her tax home in aforeign country.

	The exclusion for foreign earned income generally applies to income earned from sourcesoutside the United States as compensation for personal services actually rendered by thetaxpayer. The maximum exclusion for foreign earned income for a taxable year is $74,000 (in1999).

	The exclusion for housing costs applies to reasonable expenses, other than deductibleinterest and taxes, paid or incurred by or on behalf of the taxpayer for housing for the taxpayerand his or her spouse and dependents in a foreign country. The exclusion amount for housingcosts for a taxable year is equal to the excess of such housing costs for the taxable year over anamount computed pursuant to a specified formula. In the case of housing costs that are not paidor reimbursed by the taxpayer's employer, the amount that would be excludible is treated insteadas a deduction.

	The combined earned income exclusion and housing cost exclusion may not exceed thetaxpayer's total foreign earned income. The taxpayer's foreign tax credit is reduced by the amountof such credit that is attributable to excluded income.

	Special exclusions apply in the case of taxpayers who reside in one of the U.S.possessions.

        **xii.  Tax-exempt interest**

	Interest on certain debt obligations of States, territories, and possessions of the UnitedStates is exempt from the regular individual.(10) Interest on debt of local governments generallyreceives identical treatment to that provided for States. Interest on these "State and localgovernment bonds" may, in certain cases, be includible in calculating the individual alternativeminimum tax.(11) Additionally, State and local government bond interest is included indetermining whether a portion of Social Security benefits is taxable under the regular individualincome tax.

	The State and local government bond interest exemption applies to two principal types ofbonds. First, interest is tax-exempt on bonds issued to finance public activities conducted andpaid for by State and local governments themselves ("governmental bonds"). Examples ofactivities financed with governmental bonds are schools, courthouses, roads, public mass transitsystems, and governmentally owned and operated water, sewer, and electric facilities.(12) Statesand local governments also may issue limited amounts of tax-exempt working capital debt tocover cash-flow shortfalls pending receipt of tax or other revenues ("TRANS"). Further, forFederal income tax purposes, interest paid by these governments under installment salescontracts and finance leases is treated as bond interest.

	The second major category of State and local government bonds on which interest istax-exempt consists of bonds issued by these governmental units acting as a conduit to providefinancing for private persons ("private activity bonds"). Unlike governmental bonds, tax-exemptprivate activity bonds generally may only be issued for purposes specified in the Code. Thespecified purposes generally relate to privately operated transportation facilities, privatelyprovided municipal services, economic development, and certain social programs. The typicalprivate activity bond issue involves a State or local government as a nominal borrower, with thefunds being simultaneously relent to the ultimate private borrower. Repayment of most privateactivity bonds comes exclusively from the ultimate private borrower; bond documents may statethat there is neither a legal nor a moral obligation of the issuing governmental unit to repay thebonds.

	Private activity bonds are classified into several major categories: exempt-facility bonds;qualified redevelopment bonds; qualified small-issue bonds; mortgage revenue bonds; qualifiedstudent loan bonds; bonds for charitable organizations exempt from tax under Code section501(c)(3), and bonds for businesses located in Federal empowerment zones and enterprisecommunities. Because these bonds provide financing for private business or personal activities,are repaid or secured by private funds, and would not otherwise be subject to Federal restrictions,the Code includes detailed targeting provisions. Further, issuance of most private activity bondsis subject to annual State volume limitations.

        **xiii.  Sales of principal residence**

	A taxpayer generally is able to exclude up to $250,000 ($500,000 if married filing a jointreturn) of gain realized on the sale or exchange of a principal residence. To be eligible for theexclusion, the taxpayer must have owned the residence and used it as a principal residence for atleast two of the five years prior to the sale or exchange. A taxpayer who fails to meet theserequirements by reason of a change of place of employment, health, or unforeseen circumstancesis able to exclude a fraction of the $250,000 ($500,000 if married filing a joint return) equal tothe fraction of the two years that the requirements are met.  For example, an unmarried taxpayerwho owns and uses a principal residence for one year, has a change in place of employment andsells the residence at a realized gain of $500,000 may exclude $125,000 of gain (one-half of$250,000). Similarly, an unmarried taxpayer who owns and uses a principal residence for oneyear, has a change in place of employment and then sells the residence at a realized gain of$50,000 may exclude the entire $50,000 of gain since it is less than one half of $250,000.

     **b.  Deferrals of income**

	Present law provides that the inclusion of certain items of income is deferred until a lateryear. The benefit of deferral depends in part on the tax rate the individual will face in the futurecompared with current rates. If an individual expects that his or her tax rate will be lower in thefuture (e.g., because the individual will have less income in the future) or that tax rates in thefuture will be lower due to changes in the law, then the individual may wish to defer a portion ofhis or her income. Even in the case of stable tax rates over time, the deferral of income providesthe taxpayer with a time value of money benefit. Many of the provisions providing for thedeferral of income are intended to encourage savings by individuals. 

        **i.  Individual retirement arrangements**

**In general**

	Present law provides tax favored treatment for individual retirement arrangements("IRAs").  The tax treatment depends on whether an individual makes deductible IRAcontributions, contributions to a Roth IRA, or nondeductible IRA contributions.  The benefit ofthe provisions relating to deductible and Roth IRAs is similar.  The tax benefit of makingnondeductible contributions to an IRA is different. Deductible IRAs and Roth IRAs effectivelyexempt earnings on invested sums from tax, while the nondeductible IRA taxes earnings, but ona deferred basis.(13)

**Deductible IRA contributions**

	Under present law, an individual may make deductible contributions to an IRA up to thelesser of $2,000 or the individual's compensation if the individual and the individual's spouse arenot active participants in an employer-sponsored retirement plan. In the case of a married couple,deductible IRA contributions of up to $2,000 can be made for each spouse (including, forexample, a homemaker who does not work outside the home), if the combined compensation ofboth spouses is at least equal to the contributed amount.  If the individual (or the individual'sspouse) is an active participant in an employer-sponsored retirement plan, the $2,000 deductionlimit is phased out for taxpayers with adjusted gross income ("AGI") over certain levels for thetaxable year.

	The AGI phase-out limits for a single individual who is an active participant in anemployer-sponsored retirement plan are as follows: for 1999, $31,000 to $41,000; for 2000, 2001and 2002, the limits increase by $1,000 each year, so that the limits by 2002 are $34,000 to$44,000; for 2003, $40,000 to $50,000; for 2004, $45,000 to $55,000; and for 2005 andthereafter, $50,000 to $60,000.

	The AGI phase-out limits for a married individual filing a joint return who is an activeparticipant in an employer-sponsored plan are as follows: for 1999, $51,000 to $61,000; for 2000, 2001 and 2002, the limits increase by $1,000 each year, so that the limits by 2002 are$54,000 to $64,000; for 2003, $60,000 to $70,000; for 2004, $65,000 to $75,000; for 2005,$70,000 to $80,000; for 2006, $75,000 to $85,000; and for 2007 and thereafter, $80,000 to$100,000.

	If the individual is not an active participant in an employer-sponsored retirement plan, butthe individual's spouse is, the $2,000 deduction limit is phased out for taxpayers with AGIbetween $150,000 and $160,000.

	Amounts held in a regular IRA are includible in income when withdrawn (except to theextent the withdrawal is a return of nondeductible contributions). Includible amounts withdrawnprior to attainment of age 59-1/2 are subject to an additional 10-percent early withdrawal tax,unless the withdrawal is due to death or disability, is made in the form of certain periodicpayments, is used to pay medical expenses in excess of 7.5 percent of AGI, is used to purchasehealth insurance of an unemployed individual, is used for education expenses, or is used for first-time homebuyer expenses of up to $10,000.

	Table 2 shows the distribution by income of taxpayers making contributions to deductibleIRAs and those in the AGI phase-out range.

**Table 2.--Distribution By Income of Taxpayers Making Contributionsto Deductible IRAs and Those in the Contribution Phase-out Range[Calendar Year 1999]**

**Income category1****Taxpayers makingcontribution todeductible IRAs

**(millions)****Taxpayers in thecontribution phase-out range**
**(millions)**Less than $10,000	0.10.0$10,000 to $20,000	0.20.0$20,000 to $30,000	0.5(2)$30,000 to $40,000	0.60.3$40,000 to $50,000	0.70.1$50,000 to $75,000	1.60.3$75,000 to $100,000	1.5(2)$100,000 to $200,000	1.40.1$200,000 and over	0.4(2)**Total, all taxpayers:**7.00.8
Detail may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.****2  Less than 50,000 taxpayers.

Source: Staff of the Joint Committee on Taxation.

**Roth IRAs**

	Beginning in 1998, individuals with AGI below certain levels may make nondeductiblecontributions to a Roth IRA. The maximum annual contribution that may be made to a Roth IRAis the lesser of $2,000 or the individual's compensation for the year. The contribution limit isreduced to the extent an individual makes contributions to any other IRA for the same taxableyear. As under the rules relating to IRAs generally, a contribution of up to $2,000 for eachspouse may be made to a Roth IRA provided the combined compensation of the spouses is atleast equal to the contributed amount. The maximum annual contribution that can be made to aRoth IRA is phased out for single individuals with AGI between $95,000 and $110,000, and formarried individuals filing joint returns with AGI between $150,000 and $160,000.

	Taxpayers with modified AGI of $100,000 or less generally may convert a deductible ornondeductible IRA into an Roth IRA.  The amount converted is includible in income as if awithdrawal had been made, except that the 10-percent early withdrawal tax does not apply and, ifthe conversion occurred in 1998, the income inclusion may be spread ratably over 4 years.  Anindividual who converts a regular IRA into a Roth IRA may recharacterize the Roth IRA back tothe prior form of IRA and, subject to limitations on frequency and timing, may reconvert therecharacterized IRA back to a Roth IRA.

	Amounts held in a Roth IRA that are withdrawn as a qualified distribution are notincludible in income, nor subject to the additional 10-percent tax on early withdrawals. Aqualified distribution is a distribution that is made (1) after the 5-taxable year period beginningwith the first taxable year for which the individual made a contribution to a Roth IRA, and (2)after attainment of age 59-1/2, on account of death or disability, or for first-time homebuyerexpenses of up to $10,000.

	To the extent attributable to earnings, a distribution from a Roth IRA that is not aqualified distribution is includible in income and subject to the 10-percent early withdrawal tax(unless an exception applies).(14)  The same exceptions to the early withdrawal tax that apply toregular IRAs apply to Roth IRAs.  The early withdrawal tax will apply, however, to any portionof a distribution attributable to a conversion from a deductible or nondeductible IRA if thedistribution occurs within the 5-taxable year period beginning with the taxable year in which theconversion occurs (unless an exception applies).

**Nondeductible IRA contributions**

	To the extent an individual cannot or does not make deductible contributions to an IRA orcontributions to a Roth IRA, the individual may make nondeductible contributions to an IRA. Distributions from a nondeductible IRA are includible in income and subject to the 10-percentearly withdrawal tax to the extent attributable to earnings.

        **ii.  Employer-sponsored retirement plans**

**Qualified plans and cash or deferred arrangements**

	A plan of deferred compensation that meets the qualification standards of the InternalRevenue Code (a qualified plan) is accorded special treatment under present law. Employees donot include qualified plan benefits in gross income until the benefits are distributed, even thoughthe plan is funded and the benefits are nonforfeitable. The employer is entitled to a currentdeduction (within limits) for contributions to a qualified plan even though the contributions arenot currently included in an employee's income. Contributions to a qualified plan are held in atax-exempt trust.

	The tax treatment of contributions under qualified plans is essentially the same as that ofdeductible IRAs. However, the limits on contributions to qualified plans are much higher thanthe IRA contribution limits, so that qualified plans provide for a greater accumulation of fundson a tax-favored basis. In return for greater tax benefits, qualified plans are subject to rules thatdo not apply to IRAs, such as nondiscrimination rules designed to help ensure that a qualifiedplan benefits a broad group of employees and does not discriminate in favor of highlycompensated employees.

	Qualified plan benefits are generally subject to tax when received under rules similar tothose that apply to IRA withdrawals.

	A qualified cash or deferred arrangement, commonly referred to as a 401(k) plan, is onetype of qualified plan frequently used by employers. In general, a cash or deferred arrangement isan arrangement under which an employee can elect to receive an amount in cash or have itcontributed to a tax-qualified pension plan. Amounts that are contributed to the plan are notincluded in income until withdrawn from the plan. Qualified cash or deferred arrangements aresubject to the rules applicable to qualified plans generally, and are also subject to additionalrules, including special nondiscrimination rules.  The maximum annual amount that an employeecan elect to have contributed to a cash or deferred arrangement is limited to $10,000 (for 1999).This dollar limit is indexed for inflation.

**Other employer-sponsored retirement plans**(15)

	Present law contains provisions relating to a variety of other types of employer-sponsoredretirement plans which have the same tax benefits as tax-qualified plans. These include SIMPLEretirement plans, simplified employee pensions, and tax-sheltered annuities.

        **iii.  Education IRAs**

	Taxpayers may establish certain trusts or custodial accounts created exclusively for thepurpose of paying qualified higher education expenses of a named beneficiary ("educationIRAs").  Annual contributions to education IRAs may not exceed $500 per designatedbeneficiary, and may not be made after the designated beneficiary reaches age 18.  Thecontribution limit is phased out for taxpayers with modified AGI between $95,000 and $110,000($150,000 and $160,000 for taxpayers filing joint returns); the AGI of the contributor not thebeneficiary) controls whether a contribution is permitted by the taxpayer.  No contribution maybe made to an education IRA during any year in which any contributions are made by anyone toa qualified State tuition program on behalf of the same beneficiary (see below).

	Earnings on contributions to an education IRA generally are subject to tax whenwithdrawn.  However, distributions from an education IRA are excludable from the gross incomeof the distributee (i.e., the student) to the extent that the distribution does not exceed the qualifiedhigher education expenses incurred by the beneficiary during the year the distribution is made(provided that a HOPE credit or Lifetime Learning credit is not claimed with respect to thebeneficiary for the same taxable year).  The earnings portion of an education IRA distribution notused to pay qualified higher education expenses is includible in the gross income of thedistributee and generally is subject to an additional 10-percent tax.

        **iv.  Qualified State tuition programs**

	Present law 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.  Under present law, distributions from, and earnings under, a qualified state tuitionprogram are included in the gross income of a contributor to, or beneficiary of, such a program,except that (1) amounts distributed for educational benefits provided to a beneficiary (e.g., whenthe beneficiary attends college) are included in the beneficiary's gross income (unless excludableunder another Code section) to the extent such amounts or the value of the educational benefitsexceed contributions made on behalf of the beneficiary, and (2) amounts distributed to acontributor or another distributee (e.g., when a parent receives a refund) are included in thecontributor's/distributee's gross income to the extent such amounts exceed contributions made onbehalf of the beneficiary.  Earnings on an account may be refunded to a contributor orbeneficiary, but the State or instrumentality must impose a more than de minimis monetarypenalty unless the refund is (1) used for qualified higher education expenses of the beneficiary,(2) made on account of the death or disability of the beneficiary, or (3) made on account of ascholarship received by the designated beneficiary to the extent the amount refunded does notexceed the amount of the scholarship used for higher education expenses.

        **v.  Deferred annuities**

	Present law provides that income credited to a deferred annuity contract is not currentlyincludible in the gross income of the owner of the contract. In addition, the income is not taxedto the insurance company issuing the contract. No deduction is provided for, and no dollar limitsare imposed on, amounts used to purchase annuity contracts. In general, amounts received by theowner of an annuity contract before the annuity starting date (including loans under or secured bythe contract) are includible in gross income as ordinary income to the extent that the cash valueof the contract exceeds the owner's investment in the contract. In addition, a portion of eachdistribution received after the annuity starting date is treated as ordinary income based on theratio of the investment in the contract to the total distributions expected to be received.

	A 10-percent additional income tax is imposed on certain early withdrawals under anannuity contract. This additional tax does not apply to any distribution made after the owner ofthe contract attains age 59-1/2, receives annuity payments under the contract, or satisfies certainother requirements.

        **vi.  Life insurance**

	No Federal income tax generally is imposed on a policyholder with respect to theearnings under a life insurance contract ("inside buildup").  Further, death benefits paid under alife insurance contract are excluded from income, so that neither the policyholder nor thepolicyholder's beneficiary is ever taxed on the inside buildup if the proceeds of the policy arepaid to the policyholder's beneficiary by reason of the death of the insured.  In addition, certainamounts received under a life insurance contract on the life of a terminally ill or chronically illindividual are treated as being received by reason of the death of the insured and therefore areexcludable from income.  This same favorable tax treatment applies to amounts received fromthe sale or assignment to a viatical settlement provider of a life insurance contract on the life of aterminally ill or chronically ill individual.  The favorable tax treatment for life insurancecontracts is available only if the policyholder has an insurable interest in the insured when thecontract is issued and if the life insurance contract meets certain requirements designed to limitthe investment character of the contract.

	Except as described above, distributions from a life insurance contract (other than amodified endowment contract) that are made prior to the death of the insured generally areincludible in income only to the extent that the amounts distributed exceed the taxpayer'sinvestment in the contract; such distributions generally are treated first as a tax-free recovery ofthe taxpayer's investment in the contract, and then as income.  In the case of a modifiedendowment contract, distributions are treated as income first, loans are treated as distributions(i.e., income rather than basis recovery first), and an additional 10-percent tax is imposed on theincome portion of distributions made before age 59-1/2 and in certain other circumstances.  Amodified endowment contract is a life insurance contract that does not meet a statutory "7-pay"test, i.e., generally is funded more rapidly than 7 annual level premiums.

	No deduction is provided for, and no dollar limits are imposed on, amounts used by anindividual to purchase life insurance contracts.

        **vii.  Incentive stock options**

	An incentive stock option ("ISO") is an option granted to an employee of a corporation inconnection with the employee's performance of services for the corporation that meets certainspecified requirements. For example, the option must be granted to pursuant to a plan whichincludes the aggregate number of shares which may be issued under options and the employees(or class of employees) who may receive the options. The option must be granted within 10 yearsof the date the plan is adopted, must be exercisable no more than 10 years following the grant ofthe option, and meet certain other requirements.

	In absence of a special rule, upon exercise of an ISO the individual generally(16) wouldhave ordinary income equal to the excess of the fair market value of the stock on the exercisedate over the option price (and the corporation would be entitled to a deduction equal to thatamount).  However, under a special rule, no amount is includible in the income of an individual(and the corporation is not entitled to a deduction) due to the exercise of an ISO. Rather, theindividual will have income only to the extent of gain realized upon disposition of the stockacquired pursuant to the ISO. At that time, the income realized would be capital gain rather thanordinary income if the individual disposes of the stock more than 1 year after exercise of the ISOand 2 years after grant of the ISO.

        **viii.  Sales of stock to employee stock ownership plans**

	An individual who sells certain stock to an employee stock ownership plan ("ESOP")defers recognition of gain (or loss) on the sale to the extent the individual uses the proceeds topurchase qualified replacement property. In general, qualified replacement property is defined asany security issued by a domestic operating company that does not have passive investmentincome of more than 25 percent of the gross receipts of the company. Gain may be deferred untilthe individual disposes of the qualified replacement property. This treatment applies only to thesale of stock issued by a domestic corporation that does not have any outstanding stock that isreadily tradable. This treatment does not apply unless the employee stock ownership plan ownsat least 30 percent of the stock of the corporation that issued the stock after the sale.

        **ix.  Property received in connection with the performance of services**

	An individual who receives property (other than cash or a stock option) in connectionwith the performance of services for the party that transfers the property generally does notinclude the value of the property in income as long as the property is both nontransferable and issubject to a substantial risk of forfeiture.  Property is subject to a substantial risk of forfeiture ifthe recipient's rights to full enjoyment of the property are conditioned upon future performanceof substantial services by any individual.  At the first time the property becomes eithertransferable or nonforfeitable, the recipient generally recognizes as ordinary income the fairmarket value of the property at such time.  When the recipient disposes of the property, any gainattributable to increase in the value of the property after the property first becomes transferable ornonforfeitable will be capital gain.  The recipient may elect to recognize ordinary income equalto the fair market value of the property on the date of transfer even though the property is bothnontransferable and subject to a substantial risk of forfeiture.  If the recipient makes this election,any increase in the value of the property after the date of transfer will be capital gain.

        **x.  Other nontaxable exchanges**

	Present law includes a number of provisions under which no gain or loss is recognized onthe exchange or transfer of certain types of property. Recognition of gain (or loss) is deferreduntil the property acquired in the exchange is disposed of. These provisions include: exchangesof like-kind property; involuntary conversions of property; exchanges of insurance policies; andtransfers of property incident to divorce.

**3.  Deductions from income**

     **a.  Above-the-line deductions**

	Once an individual determines his or her gross income by including those income itemsthat are subject to the individual income tax and omitting those items that are deferred orexcluded, the individual determines his adjusted gross income ("AGI"). An individual's AGI isdetermined by subtracting certain "above-the-line" deductions from gross income. Thesedeductions include trade or business expenses, certain capital losses, contributions to atax-qualified retirement plan by a self-employed individual, contributions to IRAs, interest oncertain student loans, alimony payments, and certain moving expenses.

     **b.  Personal exemptions (including the personal exemption phaseout ("PEP"))**

	In order to determine taxable income, an individual reduces AGI by any personalexemption, deductions, and either the applicable standard deduction or itemized deductions.Personal exemptions generally are allowed for the taxpayer, his or her spouse, and anydependents (sec. 151). For 1999, the amount deductible for each personal exemption is $2,750.This amount is indexed annually for inflation.(17) The deduction for personal exemptions is phasedout (personal exemption phaseout or "PEP") for taxpayers with incomes over certain thresholds.These thresholds of PEP are indexed annually for inflation. Under PEP, the applicable thresholdsfor 1999 are $126,600 for single individuals, $189,950 for married individuals filing a jointreturn, $158,300 for heads of households, and $94,975 for married individuals filing separatereturns. For 1999, the point at which a taxpayer's personal exemptions are completely phased outare $249,100 for single individuals, $312,450 for married individuals filing a joint return,$280,800 for heads of households, and $156,225 for married individuals filing separate returns.

	Table 3 shows the number of taxpayers claiming personal exemptions and the effect ofPEP by income class.

**Table 3.--Distribution By Income of Taxpayers Claiming PersonalExemptions and Those Subject to the Personal Exemption Phaseout**

**[Calendar Year 1999]**

**Income category1**
******Taxpayers claimingpersonal exemptions**

**(millions)****Taxpayers subjectto the personalexemption phaseout**
**(millions)**Less than $10,000	22.40.0$10,000 to $20,000	26.30.0$20,000 to $30,000	20.30.0$30,000 to $40,000	15.90.0$40,000 to $50,000	13.10.0$50,000 to $75,000	19.80.0$75,000 to $100,000	10.00.0$100,000 to $200,000	8.50.5$200,000 and over	2.51.3**Total, all taxpayers**:138.81.8
Details may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.

Source: Staff of the Joint Committee on Taxation.

     **c.  Standard deduction**

	A taxpayer also may reduce AGI by the amount of the applicable standard deduction. Thebasic standard deduction varies depending upon a taxpayer's filing status. For 1999, the amountof the standard deduction is $4,300 for single individuals, $6,350 for heads of households,$7,200 for married individuals filing jointly, and $3,600 for married individuals filing separately.Additional standard deductions are allowed with respect to any individual who is elderly (age 65and over) or blind.(18) The amounts of the basic standard deduction and the additional standarddeductions are indexed annually for inflation.

     **d.  Itemized deductions**

	In lieu of taking the applicable standard deductions, an individual may elect to itemizedeductions. The deductions that may be itemized include: charitable contributions; homemortgage interest; State and local income, real property, and certain personal property taxes;medical expenses (in excess of 7.5 percent of AGI); certain investment interest expense;nonbusiness casualty and theft losses; gambling losses; and certain miscellaneous expenses (inexcess of 2 percent of AGI).

        **i.  Description of commonly used itemized deductions**

Charitable contributions.--Generally, a taxpayer who itemizes deductions may deductcash contributions to charity, as well as the fair market value of contributions of property (sec.170). The amount of the deduction allowable for the 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.

Mortgage interest.--Qualified residence interest is deductible notwithstanding the generalrule that personal interest is nondeductible (sec. 163(h)). Qualified residence interest generally isinterest on (1) debt to acquire, construct, or substantially improve a principal or second residence(up to a total debt of $1 million), plus (2) debt (not in excess of $100,000) secured by a principalor second residence.

State and local taxes.--Itemizers may deduct three types of State and local taxes that arenot incurred in a trade or business or in an investment activity--individual income taxes, realproperty taxes, and personal property taxes (sec. 164).(19)

Medical expenses.--Medical expenses in excess of 7.5 percent of AGI generally aredeductible if not reimbursed by insurance or otherwise (sec. 213). Medical expenses eligible forthe deduction are amounts paid by the taxpayer for (1) certain health insurance (includingemployee contributions to employer health plans); (2) the diagnosis, treatment, or prevention ofdisease or malfunction of the body, (3) transportation primarily for and essential to medical care,and (4) qualified long-term care services (as defined in sec. 7702B(c)).

Investment interest.--The amount of investment interest an individual may deduct in ataxable year is limited to the amount of net investment income for that year (sec.163(d)). Excessamounts of investment interest are carried forward. To the extent that an individual elects to treatlong-term capital gain as investment income, for purposes of computing the investment interestlimitation, that amount of net capital gain does not qualify for preferential capital gainstreatment.

Nonbusiness casualty and theft losses.--Individuals who itemize deductions may deductlosses of property not connected with a trade or business or a transaction entered into for profit ifthe loss arises from theft or from fire, storm, shipwreck, or other casualty (sec. 165). Only theamount of the loss in excess of $100 per casualty loss can be deducted. In addition, the casualtylosses of a taxpayer for a taxable year (determined after application of the $100 threshold to eachloss) may be deducted only to the extent that the sum of such losses (net of casualty gains)exceeds 10 percent of the taxpayer's AGI.

Gambling losses.--Gambling losses are allowed as an itemized deduction only to theextent of gains from gambling (sec. 165).

Miscellaneous itemized deductions.--An individual may claim an itemized deduction forcertain miscellaneous expenses in excess of 2 percent of AGI (sec. 67). These expenses includeunreimbursed employee expenses such as certain business and professional dues, job searchexpenses, uniform costs and home office deductions. To be deductible, an unreimbursedemployee business expense must be: (1) paid or incurred during the taxable year; (2) for carryingon the trade or business of being an employee; and (3) an ordinary and necessary businessexpense. Generally, the taxpayer applies the 2-percent AGI limit after any other deduction limit(such as the 50-percent limit on expenses for business-related meals and entertainment).

        **ii.  Limitation on itemized deductions**

	The total amount of itemized deductions allowed is reduced but not eliminated fortaxpayers with incomes over a certain threshold amount, which is indexed annually for inflation(sec. 68). This deduction limitation is referred to as the "Pease" limitation.  The threshold amountfor 1999 is $126,600 ($63,300 for married individuals filing separate returns). All itemizeddeductions are subject to the limit except: (1) medical expenses; (2) investment interest expenses;(3) nonbusiness casualty and theft losses; and (4) gambling losses. For those deductions that aresubject to the limit, the total amount of itemized deductions is reduced by 3 percent of AGI overthe threshold amount, but not by more than 80 percent of itemized deductions subject to thelimit. Therefore, all individuals subject to the limitation may deduct at least 20 percent of thosedeductions if they choose to itemize their deductions.

        **iii.  Data relating to itemized deductions**

	Table 4 shows the distribution across income classes of taxpayers claiming itemizeddeductions, taxpayers subject to the "Pease" overall limitation on certain itemized deductions,taxpayers claiming the medical deduction, and taxpayers claiming miscellaneous itemizeddeductions.

**Table 4.--Distribution by Income of Taxpayers Claiming Itemized Deductions andTaxpayers Subject to Various Limitations on Itemized Deductions**

**[Calendar Year 1999**]

**Income category1****Taxpayers claiming itemized deductions(millions)**Taxpayerssubject toPeaselimitation(millions)****Taxpayersclaimingmedicaldeductions(millions)****Taxpayersclaimingmiscellaneousdeductions(millions)**Less than $10,000	0.50.0(2)(2)$10,000 to $20,000	1.20.00.20.1$20,000 to $30,000	2.40.00.50.4$30,000 to $40,000	3.70.00.80.8$40,000 to $50,000	4.30.00.71.0$50,000 to $75,000	10.20.11.32.2$75,000 to $100,000	7.30.10.51.6$100,000 to $200,000	7.22.60.21.5$200,000 and over	2.32.3(2)0.4**Total, all taxpayers:**39.15.04.28.0
Detail may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.2  Less than 50,000 taxpayers.

Source: Staff of the Joint Committee on Taxation.

**4.  Regular income tax rates**

     **a.  Rate structure**

**Income tax rate structure**

	To determine tax liability, a taxpayer generally must apply the tax rate schedules (or thetax tables) to his or her taxable income. The rate schedules are broken into several ranges ofincome, known as income brackets, and the marginal tax rate increases as a taxpayer's incomeincreases. The income bracket amounts are indexed for inflation. Separate rate schedules applybased on an individual's filing status. In order to limit multiple uses of a graduated rate schedulewithin a family, the net unearned income of a child under age 14 is taxed as if it were the parent'sincome. For 1999, the individual income tax rate schedules are shown in Table 5. 

******Table 5.-Federal Individual Income Tax Rates for 1999**

**If taxable income is**:
**Then income tax equals**:
*Single individuals*$0-25,750	15 percent of taxable income$25,750-$62,450	$3,862.50, plus 28% of the amount over $25,750$62,450-$130,250	$14,138.50 plus 31% of the amount over $62,450$130,250-$283,150	$35,156.50 plus 36% of the amount over $130,250Over $283,150	$90,200.50 plus 39.6% of the amount over $283,150
*****Heads of households*$0-$34,550	15 percent of taxable income$34,550-$89,150	$5,182.50 plus 28% of the amount over $34,550$89,150-$144,400	$20,470.50 plus 31% of the amount over $89,150$144,400-$283,150	$37,598 plus 36% of the amount over $144,400Over $283,150	$87,548 plus 39.6% of the amount over $283,150
*****Married individuals filing joint returns*$0-$43,050	15 percent of taxable income$43,050-$104,050	$6,457.50 plus 28% of the amount over $43,050$104,050-$158,550	$23,537.50 plus 31% of the amount over $104,050$158,550-$283,150	$40,432.50 plus 36% of the amount over $158,550Over $283,150	$85,288.50 plus 39.6% of the amount over $283,150

     **b.  Capital gains and losses**

	In general, gain or loss reflected in the value of an asset is not recognized for income taxpurposes until a taxpayer disposes of the asset.  On the sale or exchange of capital assets, anygain generally is included in income, and the net capital gain of an individual is taxed atmaximum rates lower than the rates applicable to ordinary income.  Net capital gain is the excessof the net long-term capital gain for the taxable year over the net short-term capital loss for theyear.  Gain or loss is treated as long-term if the asset is held for more than one year.

	Capital losses generally are deductible in full against capital gains.  In addition,individual taxpayers may deduct capital losses against up to $3,000 of ordinary income in eachyear.  Any remaining unused capital losses may be carried forward indefinitely to another taxableyear.

	A capital asset generally means any property except (1) inventory, stock in trade, orproperty held primarily for sale to customers in the ordinary course of the taxpayer's trade orbusiness, (2) depreciable or real property used in the taxpayer's trade or business, (3) specifiedliterary or artistic property, (4) business accounts or notes receivable, or (5) certain U.S.Government publications.  In addition, the net gain from the disposition of certain property usedin the taxpayer's trade or business is treated as long-term capital gain.  Gain from the dispositionof depreciable personal property is not treated as capital gain to the extent of all previousdepreciation allowances.  Gain from the disposition of depreciable real property is generally nottreated as capital gain to the extent of the depreciation allowances in excess of the allowancesthat would have been available under the straight-line method of depreciation.

	The maximum rate of tax on the adjusted net capital gain of an individual is 20 percent. In addition, any adjusted net capital gain which otherwise would be taxed at a 15-percent rate istaxed at a 10-percent rate. These rates apply for purposes of both the regular tax and thealternative minimum tax.

	The "adjusted net capital gain" of an individual is the net capital gain reduced (but notbelow zero) by the sum of the 28-percent rate gain and the unrecaptured section 1250 gain.  Thenet capital gain is reduced by the amount of gain which the individual treats as investmentincome for purposes of determining the investment interest limitation under section 163(d).

	The term "28-percent rate gain" means the amount of net gain attributable to long-termcapital gains and losses from the sale or exchange of collectibles (as defined in section 408(m)without regard to paragraph (3) thereof)  ("collectibles gain and loss"),  an amount of gain equalto the amount of gain excluded from gross income under section 1202, relating to certain smallbusiness stock ("section 1202 gain"),(20) the net short-term capital loss for the taxable year, andany long-term capital loss carryover to the taxable year.

	"Unrecaptured section 1250 gain" means any long-term capital gain from the sale orexchange of section 1250 property (i.e., depreciable real estate) held more than one year to theextent of the gain that would have been treated as ordinary income if section 1250 applied to alldepreciation, rather than only to a portion of the depreciation, reduced by the net loss (if any)attributable to the items taken into account in computing 28-percent rate gain.  The amount ofunrecaptured section 1250 gain (before the reduction for the net loss) attributable to thedisposition of property to which section 1231 applies shall not exceed the net section 1231 gainfor the year.

	The unrecaptured section 1250 gain is taxed at a maximum rate of 25 percent, and the 28-percent rate gain is taxed at a maximum rate of 28 percent.  Any amount of unrecaptured section1250 gain or 28-percent rate gain otherwise taxed at a 15-percent rate is taxed at the 15-percentrate.

	For taxable years beginning after December 31, 2000, any gain from the sale or exchangeof property held more than five years which would otherwise be taxed at the 10-percent rate willinstead be taxed at an 8-percent rate.  Any gain from the sale or exchange of property held morethan five years and the holding period for which begins after December 31, 2000, which wouldotherwise be taxed at a 20-percent rate will be taxed at an 18-percent rate. A taxpayer holding acapital asset or property used in the trade or business on January 1, 2001, may elect to treat theasset as having been sold on that date for an amount equal to its fair market value, and havingbeen reacquired for an amount equal to such value.

	Table 6, below, shows a breakdown of capital gains rates under present law for eachindividual marginal tax rate bracket and alternative minimum tax rate bracket.

**Table 6.-Tax Rates Applicable Under Present Law to Capital Gains**

                                                                               **Minimum tax rate bracket                    Regular tax rate bracket****Category of gain****15%****28%****31%****36%****39.6%****26%****28%**Short-term capital gain11528313639.62628Long-term capital gain21020202020Same asregulartaxSame asregulartaxSection 1250 gain315252525252525Collectible gain15282828282628Small business stock47.51414141418.46519.8855-year gains after December 31,2000818/20618/20618/20618/206Same asregulartaxSame as regular tax
1	Gain from assets held not more than one year.2Gain from assets held more than one year not included in another category.3Capital gain attributable to depreciation on section 1250 property (i.e., depreciable real estate).4Effective rate after application of 50-percent exclusion for small business stock held more than 5years.5Effective rate taking into account the minimum tax preference for the excluded gain.  If the holdingperiod for the stock begins after 2000, the rates are 16.64% and 17.92%, respectively.6The 18% rate applies to property the holding period for which begins after 2000.
**5.  Tax credits**

     **a.  Child tax credit**

	Present law provides a $500 tax credit for each qualifying child under the age of 17. Aqualifying child is defined as an individual for whom the taxpayer can claim a dependencyexemption and who is a son or daughter of the taxpayer (or a descendent of either), a stepson orstepdaughter of the taxpayer or an eligible foster child of the taxpayer.  The child credit isnonrefundable for taxpayers with fewer than three children, but may be partially refundable forcertain taxpayers with three or more children.

	For taxpayers with modified AGI in excess of certain thresholds, the otherwise allowablechild credit is phased out. Specifically, the otherwise allowable child credit is reduced by $50 foreach $1,000 of modified AGI (or fraction thereof) in excess of the threshold ("the modified AGIphaseout"). For these purposes modified AGI is computed by increasing the taxpayer's AGI bythe amount otherwise excluded from gross income under Code sections 911, 931, or 933 (relatingto the exclusion of income of U.S. citizens or residents living abroad; residents of Guam,American Samoa, and the Northern Mariana Islands; and residents of Puerto Rico, respectively).For married taxpayers filing joint returns, the threshold is $110,000. For taxpayers filing singleor head of household returns, the threshold is $75,000. For married taxpayers filing separatereturns, the threshold is $55,000. These thresholds are not indexed for inflation. The length of thephase-out range is affected by the number of the taxpayer's qualifying children. In 1999, thelength of the phase-out range is $10,000 of modified AGI for each qualifying child. For example,in 1999 the phase-out range for a single person with one qualifying child is between $75,000 and$85,000 of modified AGI. The phase-out range for a single person with two qualifying childrenis between $75,000 and $95,000 of modified AGI in 1999.

	Table 7 shows the number of taxpayers claiming the child credit and the number oftaxpayers in the phase-out range by income class.

**Table 7.--Distribution By Income of Taxpayers ClaimingChild Tax Credit and Those in Phase-out Range[Calendar Year 1999]**

**Income category1****Taxpayers claimingchild tax credit**(millions)****Taxpayers inphase-out range(millions)Less than $10,000	0.10.0$10,000 to $20,000	2.30.0$20,000 to $30,000	4.7 0.0$30,000 to $40,000	3.50.0$40,000 to $50,000	3.20.0$50,000 to $75,000	5.8(2)$75,000 to $100,000	3.40.1$100,000 to $200,000	1.90.6$200,000 and over	0.00.0**Total, all taxpayers:**25.00.7
Detail may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.2  Less than 50,000 taxpayers.

Source: Staff of the Joint Committee on Taxation.

     **b.  Earned income credit**

	Certain eligible low-income workers are entitled to claim a refundable earned incomecredit on their income tax return (sec. 32).  A refundable credit is a credit that not only reduces anindividual's tax liability but allows refunds to the individual in excess of income tax liability. The amount of the credit an eligible individual may claim depends upon whether the individualhas one, more than one, or no qualifying children, and is determined by multiplying the creditrate by the individual's(21) earned income up to an earned income amount.  The maximum amountof the credit is the product of the credit rate and the earned income amount.  The credit is phasedout above certain income levels.  For individuals with earned income (or modified AGI, ifgreater) in excess of the beginning of the phase-out range, the maximum credit amount isreduced by the phase-out rate multiplied by the earned income (or modified AGI, if greater) inexcess of the beginning of the phase-out range.  For individuals with earned income (or modifiedAGI, if greater) in excess of the end of the phase-out range, no credit is allowed.

	The parameters of the credit for 1999 are provided in Table 8.

**Table 8.-Earned Income Credit Parameters (1999)**

**Two or morequalifyingchildren**
**One qualifyingchild****No qualifyingchildrenCredit rate (percent)	
Earned income amount	

Maximum credit	40.00
$9,540

$3,81634.00
$6,800

$2,3127.65
$4,530

$347Phase-out begins	
Phase-out rate (percent)	$12,460
21.06$12,460
15.98$5,670
7.65Phase-out ends	$30,580$26,928$10,200

     **c.  Dependent care credit**

	A nonrefundable credit against income tax liability is available for up to 30 percent of alimited dollar amount of employment-related child and dependent care expenses (sec. 21). Thecredit may be claimed by an individual who maintains a household that includes one or morequalifying individuals. A qualifying individual is a child or other dependent who is under the ageof 15, a physically or mentally incapacitated dependent, or a physically or mentally incapacitatedspouse.

	Employment-related expenses are expenses for the care of a qualifying individual, ifincurred to enable the taxpayer to be gainfully employed. The amount of employment-relatedexpenses that may be taken into account in computing the credit generally may not exceed anindividual's earned income or, in the case of married taxpayers, the earned income of the spousewith the lesser earnings. Thus, if one spouse is not employed, no credit is generally allowed.Eligible employment-related expenses are limited to $2,400 if there is one qualifying individual,and $4,800 if there are two or more qualifying individuals.

	The 30-percent credit rate is reduced by one percentage point for each $2,000 (or fractionthereof) of AGI above $10,000. Because married couples must file a joint return to claim thecredit, a married couple's combined AGI is used for purposes of this computation. Individualswith more than $28,000 of AGI are entitled to a credit equal to 20 percent of allowableemployment-related expenses.

	Table 9 shows the distribution by income of taxpayers claiming the dependent care taxcredit and those taxpayers in the partial phase-out range.

**Table 9.--Distribution By Income of Taxpayers Claiming DependentCare Tax Credit and Those in Partial Phase-out Range[Calendar Year 1999]**

**Income category1****Taxpayers claimingdependent care taxcredit

**(millions)****Taxpayers inphase-out range**
**(millions)**Less than $10,000	0.00.0$10,000 to $20,000	0.40.4$20,000 to $30,000	0.90.9$30,000 to $40,000	0.70.2$40,000 to $50,000	0.8(2)$50,000 to $75,000	1.3(2)$75,000 to $100,000	0.9(2)$100,000 to $200,000	0.80.0$200,000 and over	0.10.0**Total, all taxpayers:**6.01.6
Detail may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.2  Less than 50,000 taxpayers.

Source: Staff of the Joint Committee on Taxation.

     **d.  Education credits**

        **i.  HOPE credit**

	Individual taxpayers are allowed to claim a nonrefundable HOPE credit against Federalincome taxes up to $1,500 per student for qualified tuition and fees paid during the year onbehalf of a student (i.e., the taxpayer, the taxpayer's spouse, or a dependent of the taxpayer) whois enrolled in a post-secondary degree or certificate program at an eligible post-secondaryinstitution on at least a half-time basis.  The HOPE credit is available only for the first two yearsof a student's post-secondary education.  The credit rate is 100 percent of the first $1,000 ofqualified tuition and fees and 50 percent on the next $1,000 of qualified tuition and fees.  

	The HOPE credit amount that a taxpayer may otherwise claim is phased out for taxpayerswith modified adjusted gross income (AGI) between $40,000 and $50,000 ($80,000 and$100,000 for joint returns).  For taxable years beginning after 2001, the $1,500 maximum HOPEcredit amount and the AGI phase-out range will be indexed for inflation.  The HOPE credit isavailable for expenses paid after December 31, 1997, for education furnished in academicperiods beginning after such date.

        **ii.  Lifetime Learning credit**

	If a student is not eligible for the HOPE credit (or in lieu of claiming a HOPE credit withrespect to a student), individual taxpayers are allowed to claim a nonrefundable LifetimeLearning credit against Federal income taxes equal to 20 percent of qualified tuition and feespaid during the taxable year on behalf of the taxpayer, the taxpayer's spouse, or a dependent.  Incontrast to the HOPE credit, the student need not be enrolled on at least a half-time basis in orderto be eligible for the Lifetime Learning credit, which is available for an unlimited number ofyears of post-secondary training.  For expenses paid before January 1, 2003, up to $5,000 ofqualified tuition and fees per taxpayer return will be eligible for the Lifetime Learning credit(i.e., the maximum credit per taxpayer return will be $1,000).  For expenses paid after December31, 2002, up to $10,000 of qualified tuition and fees per taxpayer return will be eligible for theLifetime Learning credit (i.e., the maximum credit per taxpayer return will be $2,000).  TheLifetime Learning credit amount that a taxpayer may otherwise claim is phased out over thesame modified AGI phase-out range as applies for purposes of the HOPE credit.  The LifetimeLearning credit is available for expenses paid after June 30, 1998, for education furnished inacademic periods beginning after such date.

	Table 10 shows the distribution by income class of taxpayers claiming the HOPE andLifetime Learning tax credits and those taxpayers in the phase-out range.

**Table 10.--Distribution By Income of Taxpayers Claiming HOPE andLifetime Learning Tax Credits and Those in Phase-out Range[Calendar Year 1999]**

******Income category1****Taxpayers claimingHOPE and LifetimeLearning credits**(millions)****Taxpayers inphase-out range(millions)**Less than $10,000	0.10.0$10,000 to $20,000	0.70.0$20,000 to $30,000	1.60.0$30,000 to $40,000	1.40.0$40,000 to $50,000	1.30.3$50,000 to $75,000	1.80.2$75,000 to $100,000	1.30.5$100,000 to $200,000	0.30.3$200,000 and over	0.00.0**Total, all taxpayers:**8.41.4
Detail may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable Social Security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.2  Less than 50,000 taxpayers.

Source: Staff of the Joint Committee on Taxation.

     **e.  Other individual tax credits**

        **i.  Credit for the elderly and disabled**

	Present law provides a nonrefundable credit against income tax liability for individualswho are age 65 or over, or who have retired on permanent and total disability (sec. 22). For thispurpose, an individual is considered permanently and totally disabled ("disabled") if he or she isunable to engage in any substantial gainful activity by reason of any medically determinablephysical or mental impairment that can be expected to result in death, or which has lasted or canbe expected to last for a continuous period of not less than 12 months. The individual mustfurnish proof of disability to the IRS.

	The credit equals 15 percent of an initial base amount, as specified in the statute, that isreduced by the amount of certain tax-free income received by the taxpayer and by one-half of thetaxpayer's AGI exceeding a specified threshold.

	The initial base amount is $5,000, in the case of an unmarried elderly or disabledindividual or in the case of a married couple filing a joint return if only one spouse is eligible forthe credit; $7,500, in the case of a married couple filing a joint return with both spouses eligiblefor the credit; or $3,750, in the case of a married couple filing separate returns. For a disabledindividual who is under age 65, however, the initial base amount is the lesser of the applicablespecified amount or the individual's disability income for the year. Consequently, the maximumcredit available is $750 (15 percent x $5,000), $1,125 (15 percent x $7,500), or $562.50 (15percent x $3,750), depending on the initial base amount applicable to the taxpayer.

	The initial base amount is reduced by the amount of certain nontaxable income of thetaxpayer, such as nontaxable pension and annuity income or nontaxable Social Security, railroadretirement, or veterans' nonservice-related disability benefits. In addition, the initial base amountis reduced by one-half of the taxpayer's AGI in excess of $7,500, in the case of a singleindividual; $10,000, in the case of married taxpayers filing a joint return; or $5,000, in the caseof married taxpayers filing separate returns.

        **ii.  Adoption tax credit**

	Taxpayers are entitled to a maximum nonrefundable credit against income tax liability of$5,000 per child for qualified adoption expenses paid or incurred by the taxpayer (sec. 23). In thecase of a special needs adoption, the maximum credit amount is $6,000 ($5,000 in the case of aforeign special needs adoption). A special needs child is a child who the State has determined:(1) cannot or should not be returned to the home of the birth parents, and (2) has a specific factoror condition because of which the child cannot be placed with adoptive parents without adoptionassistance. The adoption of a child who is not a citizen or a resident of the United States is aforeign adoption.

	Qualified adoption expenses are reasonable and necessary adoption fees, court costs,attorneys' fees, and other expenses that are directly related to the legal adoption of an eligiblechild. All reasonable and necessary expenses required by a State as a condition of adoption arequalified adoption expenses. Otherwise qualified adoption expenses paid or incurred in onetaxable year are not taken into account for purposes of the credit until the next taxable yearunless the expenses are paid or incurred in the year the adoption becomes final.

	An eligible child is an individual (1) who has not attained age 18 or (2) who is physicallyor mentally incapable of caring for himself or herself. After December 31, 2001, the credit willbe available only for domestic special needs adoptions. No credit is allowed for expensesincurred (1) in violation of State or Federal law, (2) in carrying out any surrogate parentingarrangement, (3) in connection with the adoption of a child of the taxpayer's spouse, (4) that arereimbursed under an employer adoption assistance program or otherwise, or (5) for a foreignadoption that is not finalized.

	The credit is phased out ratably for taxpayers with modified AGI  above $75,000, and isfully phased out at $115,000 of modified AGI. For these purposes modified AGI is computed byincreasing the taxpayer's AGI by the amount otherwise excluded from gross income under Codesections 911, 931, or 933.

        **iii.  First-time homebuyer credit for the District of Columbia**

	First-time homebuyers of a principal residence in the District of Columbia may beeligible for a tax credit of up to $5,000 of the amount of the purchase price. The $5,000maximum credit amount applies both to individuals and married couples. Married individualsfiling separately can claim a maximum credit of $2,500 each. The first-time homebuyer credit isavailable only for property purchased after August 4, 1997, and before January 1, 2001.

	The credit phases out for individual taxpayers with modified AGI between $70,000 and$90,000 ($110,000-$130,000 for joint filers). For this purpose, modified AGI means adjustedgross income increased by any amount excluded under section 911 (certain foreign earnedincome), section 931 (income from sources within Guam, American Samoa, or the NorthernMariana Islands), or section 933 (income from sources within Puerto Rico).

     **f.  General business tax credits**

        **i.  Low-income housing tax credit**

	A tax credit having a 70-percent present value is allowed on qualified low-income rentalhousing (sec. 42). The credit is reduced to 30 percent for housing receiving most other Federalsubsidies. In certain difficult-to-develop areas, the credit is increased by 30 percent (e.g., from 70to 91 percent). The credit applies to the eligible basis of low-income housing units.

	Credits are subject to annual allocations of $1.25 per resident of each State. State housingagencies allocate this amount to eligible projects. Credit amounts that are not allocated in theyear in which the cap amount arises may be carried forward by the State for allocation in thefollowing year. Any amounts remaining unallocated after that time revert to a national pool andare reallocated among States that allocated their entire credit amount in the preceding year.

        **ii.  Rehabilitation tax credit**

	An income tax credit is provided for certain expenditures incurred in the rehabilitation ofcertified historic structures and certain nonresidential buildings placed in service before 1936(sec. 47). The amount of the credit is determined by multiplying the applicable rehabilitationpercentage by the basis of the property that is attributable to qualified rehabilitation expenditures.The applicable rehabilitation percentage is 20 percent for certified historic structures and 10percent for qualified rehabilitated nonresidential buildings (other than certified historicstructures) that were originally placed in service before 1936.

**B.  Individual Alternative Minimum Tax ("AMT")**

**In general**

	Present law imposes a minimum tax on an individual to the extent the taxpayer'sminimum tax liability exceeds his or her regular tax liability.  This alternative minimum tax("AMT") is imposed upon individuals at rates of (1) 26 percent on the first $175,000 ofalternative minimum taxable income in excess of a phased-out exemption amount and (2) 28percent on the amount in excess of $175,000. The exemptions amounts are $45,000 in the case ofmarried individuals filing a joint return and surviving spouses; $33,750 in the case of otherunmarried individuals; and $22,500 in the case of married individuals filing a separate return. These exemption amounts are phased-out by an amount equal to 25 percent of the amount thatthe individual's alternative minimum taxable income exceeds a threshold amount.  Thesethreshold amounts are $150,000 in the case of married individuals filing a joint return andsurviving spouses; $112,500 in the case of other unmarried individuals; and $75,000 in the caseof married individuals filing a separate return, estates, and trusts. The exemption amounts, thethreshold phase-out amounts, and the $175,000 break-point amount are not indexed for inflation.The lower capital gains rates applicable to the regular tax also apply for purposes of the AMT.

	Alternative minimum taxable income ("AMTI") is the taxpayer's taxable incomeincreased by certain preference items and adjusted by determining the tax treatment of certainitems in a manner that negates the deferral of income resulting from the regular tax treatment ofthose items.

**Preference items in computing AMTI**

	The minimum tax preference items are:
(1) The excess of the deduction for percentage depletion over the adjusted basis of theproperty at the end of the taxable year.  This preference does not apply to percentage depletionallowed with respect to oil and gas properties.
	(2) The amount by which excess intangible drilling costs arising in the taxable yearexceed 65 percent of the net income from oil, gas, and geothermal properties.  This preferencedoes not apply to independent producers to the extent the producer's AMTI is reduced by 40percent or less by ignoring the preference.
	(3) Tax-exempt interest income on private activity bonds (other than qualified 501(c)(3)bonds) issued after August 7, 1986.
	(4) Accelerated depreciation or amortization on certain property placed in service beforeJanuary 1, 1987.
	(5) Forty-two percent of the amount excluded from income under section 1202 (relatingto gains on the sale of certain small business stock).
	In addition, losses from any tax shelter, farm, or passive activities are denied.(22)

**Adjustments in computing AMTI**

	The adjustments that individuals must make are:

(1) Depreciation on property placed in service after 1986 and before January 1, 1999,must be computed by using the generally longer class lives prescribed by the alternativedepreciation system of section 168(g) and either (a) the straight-line method in the case ofproperty subject to the straight-line method under the regular tax or (b) the 150-percent decliningbalance method in the case of other property.  Depreciation on property placed in service afterDecember 31, 1998, is computed by using the regular tax recovery periods and the AMTmethods described in the previous sentence.

	(2) Mining exploration and development costs must be capitalized and amortized over a10-year period.

	(3) Taxable income from a long-term contract (other than a home construction contract)must be computed using the percentage of completion method of accounting.

	(4) The amortization deduction allowed for pollution control facilities placed in servicebefore January 1, 1999 (generally determined using 60-month amortization for a portion of thecost of the facility under the regular tax), must be calculated under the alternative depreciationsystem (generally, using longer class lives and the straight-line method).  The amortizationdeduction allowed for pollution control facilities placed in service after December 31, 1998, iscalculated using the regular tax recovery periods and the straight-line method.

	(5) Miscellaneous itemized deductions are not allowed.

	(6) Deductions for State, local, and foreign real property taxes; State and local personalproperty taxes; and State, local, and foreign income, war profits, and excess profits taxes are notallowed.

	(7) Medical expenses are allowed only to the extent they exceed ten percent of thetaxpayer's adjusted gross income.

	(8) Standard deductions and personal exemptions are not allowed.

	(9) The amount allowable as a deduction for circulation expenditures must be capitalizedand amortized over a 3-year period.

	(10) The amount allowable as a deduction for research and experimental expendituresmust be capitalized and amortized over a 10-year period.(23)

	(11) The special regular tax rules relating to incentive stock options do not apply.
**Other rules**

	The combination of the taxpayer's net operating loss carryover and foreign tax creditscannot reduce the taxpayer's AMT liability by more than 90 percent of the amount determinedwithout these items.

	The various nonrefundable credits allowed under the regular tax generally are allowedonly to the extent that the individual's regular tax exceeds the tentative minimum tax.  Theearned income credit and the child credit of those taxpayers with three or more qualified childrenare refundable credits and may offset the taxpayer's tentative minimum tax.  However, a taxpayermust reduce these refundable credits by the amount the taxpayer's tentative minimum tax exceedshis or her regular tax liability.(24)

	If an individual is subject to AMT in any year, the amount of tax exceeding the taxpayer'sregular tax liability is allowed as a credit (the "AMT credit") in any subsequent taxable year tothe extent the taxpayer's regular tax liability exceeds his or her tentative minimum tax in suchsubsequent year.  For individuals, the AMT credit is allowed only to the extent the taxpayer'sAMT liability is a result of adjustments that are timing in nature.  Most individual AMTadjustments relate to itemized deductions and personal exemptions and are not timing in nature.

**Data on taxpayers affected by the AMT**

	Relatively few individuals have been subject to the AMT.  Table 11 presents individualAMT data and projections for the 1987-2009 tax years.

**Table 11.-Individual Income Tax Returns With Tax LiabilityUnder the Individual Alternative Minimum Tax, 1987-2009, actual and projected****Year****Number ofreturns payingAMT (millions)****Percentage offiled returnspaying AMT****Excess of AMTliability over regulartax liability ($billions)**19870.1400.11.719880.1340.11.019890.1170.10.819900.1320.10.819910.2440.21.219920.2870.31.419930.3350.32.119940.3690.32.219950.4140.42.319960.4780.42.81997data not availabledata not availabledata not available1998data not availabledata not availabledata not available19990.8230.63.620000.9420.73.820011.1700.94.320021.4021.14.920031.8341.45.720042.4111.86.920053.0752.38.320064.0853.010.220075.4123.912.920086.9184.915.820099.0436.319.8
Note:  These statistics represent taxpayers who actually pay AMT and do not include taxpayers whose regular taxliabilities are affected by the AMT through tax credit limitations.  See Tables 15, 16, and 17 for such data.

Source: Internal Revenue Service, *Statistics of Income*, 1987-1996; projections for years 1999-2009 from JointCommittee on Taxation estimates.

Tables 12 and 13 below report how individual AMT taxpayers are estimated to bedistributed across various income classes in 2000 and 2008.

**Table 12.--Distribution of Individual AMT Taxpayerswith AMT Liability under Present Law, 2000**
**Income category(1)****Number of returns****(thousands)****AMTtaxpayers as a****percentage ofall taxpayers**Less than $10,000	(2)(3)$10,000 to less than $20,000	1(3)$20,000 to less than $30,000	2(3)$30,000 to less than $40,000	150.1$40,000 to less than $50,000	150.1$50,000 to less than $75,000	790.4$75,000 to less than $100,000	1351.3$100,000 to less than $200,000	3003.5$200,000 and over	38915.1**Total (all taxpayers):****937****0.7**
(1)	The income concept used to place tax returns into income categories is AGI plus: (a) tax-exempt interest; (b)employer contributions to health plans and life insurance; (c) employer share of FICA tax; (d) workerscompensation; (e) nontaxable Social Security benefits; (f) insurance value of Medicare benefits; (g) AMTpreference items; and (h) excluded income of U.S. citizens living abroad.  Categories are measured at 1999 levels. Excludes individuals who are dependents of other taxpayers and taxpayers with negative income, resulting indifferences with Table 1.(2)	Less than 500.(3)	Less than .05 percent.Details may not add to totals due to rounding.

Source:  Staff of the Joint Committee on Taxation.

**Table 13.--Distribution of Individual AMT Taxpayerswith AMT Liability under Present Law, 2008**
**Income category(1)****Number of returns****(millions)****AMTtaxpayers as apercentage ofall taxpayers**Less than $10,000	0.001(2)$10,000 to less than $20,0000.001(2)$20,000 to less than $30,0000.0140.1$30,000 to less than $40,0000.1140.6$40,000 to less than $50,0000.1701.2$50,000 to less than $75,0001.0604.4$75,000 to less than $100,0001.66112.3$100,000 to less than $200,0002.56822.9$200,000 and over1.31940.6**Total (all taxpayers):****6.906****4.6**
(1)  Same income concept as used in Table 2, measured at 1999 levels.(2)  Less than .05 percent.Details may not add due to rounding.
Source:  Staff of the Joint Committee on Taxation.

The increase in the number of taxpayers subject to the AMT largely can be attributed tothe fact that the personal exemptions, standard deduction, and tax bracket break points of theregular tax are indexed for inflation, while the AMT exemption amounts and tax bracket breakpoint are not indexed for inflation.  Proposals that would increase or index these amounts woulddecrease the number of taxpayers subject to the AMT and reduce the tax burden of thoseindividuals otherwise subject to the AMT.(25)  Even with indexing, one would expect some growthin AMT taxpayers as real (i.e., inflation-adjusted) incomes rise over time.

	The lack of indexing in the AMT also explains the increase of AMT taxpayers in themiddle-income categories.  Under present law, the relatively large AMT exemption amounts(26)shelter most of a low- or middle-income taxpayer's AMTI from tax.  However, over time, withinflation, a taxpayer's income is expected to grow in nominal dollars.  Most of this inflatedincome of a middle-income individual will remain subject to tax at a 15-percent rate for regulartax purposes because the personal exemptions, standard deduction, and tax bracket break pointsof the regular tax are indexed for inflation.  However, for AMT purposes, relatively less of thetaxpayer's inflated income will be sheltered by the unindexed AMT exemption amount and theamount not sheltered will become subject to the higher AMT rate of 26 percent. Because theAMT exemption amounts are phased out over relatively high levels of AMTI, indexing theseamounts would provide benefits to taxpayers in all income classes.(27)

	Table 14 demonstrates the results if the AMT exemption amounts were indexed forinflation, starting in 1999.  With indexing, the number of taxpayers subject to AMT and theamount of AMT collected is expected to remain relatively constant. 

**Table 14.--Projected Individual Income Tax ReturnsWith Tax Liability Under the IndividualAMT If Exemptions Were Indexed, 1999-2008**
**Year****Number of returns****paying AMT****(millions)****Percentage of filedreturns paying AMT****Excess of AMTliability over regulartax liability****($billions)**19990.7470.63.420000.7230.63.420010.7580.63.620020.7690.63.720030.7750.63.820040.8180.64.120050.8510.64.420060.8870.74.720070.9410.75.220080.9580.75.520091.0160.75.9
Source: Staff of the Joint Committee on Taxation.

	As described above, the AMT acts as a floor with respect to the utilization ofnonrefundable credits in that a taxpayer is allowed to reduce his or her regular tax liability withotherwise allowable credits only to the extent the taxpayer's regular tax exceeds his or hertentative minimum tax.  Tables 15, 16, and 17, below, demonstrate the estimated effects of theAMT on all nonrefundable tax credits, the child credit, and the education credits, respectively. Projections on the child and education credits are provided because these credits were onlyrecently enacted by the Congress in 1997, they significantly increased the number of taxpayerseligible for nonrefundable credits, and they were targeted toward taxpayers with middle incomes.

	Consistent with the projections in Table 11, relatively few taxpayers currently have taxcredit utilization that is limited because of the AMT.  However, over time, the number oftaxpayers subject to this limitation is expected to increase.  This pattern is consistent with theexpected increase in the number of AMT taxpayers.

**Table 15.--Projected Individual Income Tax ReturnsWith Nonrefundable Tax Credits, 2000 and 2008(in millions)**
******Taxable year2000****Taxable year 2008**Returns with nonrefundable credits46.949.0Returns receiving full credits18.215.1Returns receiving zero or less than full credits28.733.9Returns affected by the AMT1.16.0
**Table 16.--Projected Individual Income Tax ReturnsWith Child Credits, 2000 and 2008(in millions)********Taxable year 2000****Taxable year 2008**Returns with dependents under age 1739.440.6Returns receiving full child credit20.515.8Returns receiving zero or less than full childcredit18.924.8Returns affected by the AMT0.65.0
1  Includes refundable portion of the credit.

Source:  Staff of the Joint Committee on Taxation. 

**Table 17.--Projected Individual Income Tax ReturnsWith HOPE and Lifetime Learning Credits, 2000 and 2008(in millions)**
******Taxable year 2000****Taxable year 2008**Returns with tuition expense15.216.1Returns receiving full education credit5.75.1Returns receiving zero or less than full educationcredit9.511.3Returns affected by the AMT0.51.8
Source: Staff of the Joint Committee on Taxation.

**C.  Employment Taxes**

**1.  Social Security tax**

	As part of the Federal Insurance Contributions Act ("FICA"), a tax is imposed onemployees and employers up to a maximum amount of employee wages. The tax is composed oftwo parts: old-age, survivor, and disability insurance ("OASDI") (i.e., Social Security) andMedicare hospital insurance. The OASDI tax rate is 6.2 percent on both the employer andemployee (for a total rate of 12.4 percent). The OASDI tax rate applies to wages up to theOASDI wage base, which is $72,600 for 1999. "Wages" generally includes all remuneration foremployment, but there are specific exemptions. The wage base cap is indexed for changes inaverages. Revenues from the OASDI tax are credited to the Social Security Trust Fund.

**2.  Medicare tax**

	The second part of the FICA tax imposed on employees and employers is for Medicarehospital insurance ("HI"). The HI tax rate is 1.45 percent on both the employee and employer(for a total rate of 2.9 percent). There is no limit on the amount of wages subject to the HI portionof the FICA tax. Revenues from the HI tax are credited to the Hospital Insurance Trust Fund.

**3.  Self-employment tax**

	Under the Self-Employment Contributions Act ("SECA"), a tax is imposed on anindividual's net earnings from self-employment. The SECA tax rate is the same as the total FICAtax rates for employers and employees and is capped at the same levels. Thus, the OASDI taxrate is 12.4 percent and the HI tax rate is 2.9 percent. The OASDI tax rate applies to the first$72,600 (for 1999) of net earnings and the HI tax rate applies to all net earnings. Aself-employed individual is entitled to deduct one-half of his or her self-employment taxes.

**4.  Unemployment compensation tax**

	The Federal Unemployment Tax Act ("FUTA") imposes a 6.2-percent gross tax rate onthe first $7,000 paid annually by covered employers to each employee. Employers in States withprograms approved by the Federal Government and with no delinquent Federal loans may credit5.4 percentage points against the 6.2-percent tax rate, making the minimum, net Federalunemployment tax rate 0.8 percent. Because all States have approved programs, 0.8 percent isthe Federal tax rate that generally applies. This Federal revenue finances administration of thesystem, half of the Federal-State extended benefits program, and a Federal account for Stateloans. The States are supposed to use the revenue turned back to them by the 5.4-percent credit tofinance their regular State programs and half of the Federal-State extended benefits program.

	In 1976, Congress passed a temporary surtax of 0.2 percent of taxable wages to be addedto the permanent FUTA tax rate. Thus, the current 0.8-percent FUTA tax rate has twocomponents: a permanent tax rate of 0.6 percent, and a temporary surtax rate of 0.2 percent. Thetemporary surtax subsequently has been extended through 2007.

**5.  Treatment of household employees**

	The employment tax treatment of household employees has received considerableattention, and the rules relating to such workers substantially were revised in 1994 in order tosimplify administration and increase compliance. Under present law, if a household employeereceives cash wages of $1,100 or more (for 1998) during a calendar year, all the individual'swages are subject to FICA taxes. An employer may pay the household employee's liability forFICA taxes without deduction from the employee's wages. If an employer pays the householdemployee's FICA liability, those payments are not wages for FICA purposes but are wages forincome tax withholding purposes.

	FUTA taxes are imposed on the employer if a household employee receives cash wagesof $1,000 or more in a calendar quarter in the current or preceding calendar year. If the employerpays the household employee's FICA liability without deducting those taxes from the employee'swages, the amounts paid by the employer are not wages for FUTA purposes.

	FICA and FUTA taxes for household employees are payable annually with theemployer's individual tax return. For years beginning after 1998, in certain circumstances anindividual employing household employees may be subject to estimated taxes as a result ofemployment taxes due with respect to such employees.

**D.  Reporting, Withholding, and Estimated Tax Requirements**

**Income tax withholding and reporting**

	The Code requires that employers making payments of wages to employees withholdFederal income taxes from those wage payments in accordance with tables or computationalprocedures prescribed by the IRS (sec. 3402). Each employee must file with his or her employera Withholding Allowance Certificate (Form W-4) on which the employee claims a specificnumber of withholding allowances based on family size, employment status, itemizeddeductions, and other matters. The employer then utilizes tables issued by the IRS to compute thecorrect amount of Federal income tax withholding. This computation is based on the number ofwithholding allowances claimed, the taxpayer's wages, and the frequency of payroll payments.The amount of wages paid and the amount of income taxes withheld must be reported to the IRSand to the employee on Form W-2 (sec. 6051).

	No income tax withholding is required on payments made to independent contractors.(28)Independent contractors are required to make quarterly estimated tax payments.

**Reporting requirements with respect to independent contractors**

	The Code contains a number of information reporting requirements. One requires that aperson engaged in a trade or business who makes payments during the calendar year of $600 ormore to a person for rents, salaries, wages, premiums, annuities, compensations, remunerations,emoluments, or other fixed or determinable gains, profits, and income, must file an informationreturn with the IRS reporting the amount of such payments, as well as the name, address andtaxpayer identification number of the person to whom such payments were made.(29)  A similarstatement must also be furnished to the person to whom such payments were made.(30)

	The Code contains a separate provision (sec. 6041A) specifically dealing with paymentsof remuneration for services. Under this provision, a service recipient engaged in a trade orbusiness who makes payments of remuneration in the course of that trade or business to anyperson for services performed must file with the Internal Revenue Service an information return(Form 1099) reporting such payments (and the name, address, and taxpayer identificationnumber of the payee) if the remuneration paid to the person during the calendar year is $600 ormore. Also, the service recipient must furnish to the person receiving such payments a statementsetting forth the name, address, and taxpayer identification number of the service recipient, andthe aggregate amount of payments made to the payee during the year.

**Estimated tax requirements for individuals**

	An individual taxpayer generally is subject to an addition to tax for any underpayment ofestimated tax (sec. 6654). An individual generally does not have an underpayment of estimatedtax if he or she makes timely estimated tax payments at least equal to: (1) 100 percent of the taxshown on the return of the individual for the preceding year (the "100 percent of last year'sliability safe harbor") or (2) 90 percent of the tax shown on the return for the current year. The100 percent of last year's liability safe harbor is modified to be an increased percentage of lastyear's liability safe harbor for any individual with an AGI of more than $150,000 as shown onthe return for the preceding taxable year.  These percentages are as follows:	**For payments with respectto tax year****Percentage**19991052000106200110620021122003 and after110

	Income tax withholding from wages is considered to be a payment of estimated taxes. Ingeneral, payment of estimated taxes must be made quarterly.

**III.  SOURCES OF COMPLEXITY FOR INDIVIDUALS**

**A.  General Sources of Complexity
**Need for simplification**

	Many commentators have written about the complexity of the present-law Federal taxsystem for individuals.  In addition, groups such as the American Institute of Certified PublicAccountants ("AICPA") have testified before the Congress about the need to reduce thecomplexity of present law for individuals and have made various simplificationrecommendations.  A number of reasons for the need for simplification have been cited.

	Most commentators agree that (1) a tax system should be easy both for individuals tounderstand and for the government to administer, and (2) the computation of tax liabilities formost taxpayers should not require tedious or time consuming computations or recordkeeping.  Acomplicated tax system may result in inefficiencies because of high compliance costs, as well asa perception of unfairness because of the likelihood that similarly situated taxpayers will havedifferent tax liabilities.  Under a complicated tax system, taxpayers may invest large amounts oftime and money both to ensure compliance with the existing system and to take advantage ofopportunities to minimize their tax liability.  Thus, a portion of the resources devoted tocompliance with the tax law could be redirected to more productive activities if the tax law wereless complicated.

	A complicated tax system may result in similarly situated taxpayers reporting unequal taxliabilities because of differing abilities to understand the rules or pay for professional taxassistance.  Indeed, professional tax preparers may not give similarly situated taxpayersconsistent advice when the tax system is complicated.  Thus, complexity in the tax system canintroduce a source of inequity into the system, affecting both actual tax liabilities reported onreturns and taxpayers' perceptions of equity of the system.

	On the other hand, simplicity in a tax system may involve sacrifices of equity andefficiency.  Rules that are complicated may result in more appropriate calculations of taxliability.  Complicated tax rules often apply with respect to business and other transactions thatthemselves are inherently complex.

**General sources of complexity**

	Certain general sources of complexity in the present-law rules relating to individuals canbe identified.  These sources of complexity include (1) elections provided to taxpayers, (2)definitional issues that taxpayers must consider, (3) recordkeeping and reporting requirements,(4) limitations on the availability of tax benefits, and (5) frequent changes in the tax laws.  Thesesources of complexity are discussed in greater detail with respect to certain specified present-lawprovisions below.

Elections provided to taxpayers.-The Congress (or the Internal Revenue Service throughrevenue rulings and regulations) often provides for elective treatment with respect to certaintransactions.  These elections may be provided to taxpayers as a compromise among alternativeviews of the appropriate tax policy result for a particular transaction.

	Elections create complexity for taxpayers because affected taxpayers must invest timeand resources in determining whether or not to utilize an election provided.  Thus, taxpayers maybe required to compute their tax liability in two or more ways in order to determine whether it isworthwhile to take advantage of an election.

Definitions.-Complexity may be created for taxpayers by the definitions that determinewhether a taxpayer qualifies for a particular tax provision.  This source of complexity iscompounded if different definitions are used for the same term that is used in different taxprovisions.  For example, there are a number of different definitions of the term "child" thatapply for various purposes under present law.  Complexity is created for any taxpayer who mustuse more than one of these definitions to determine whether an individual is the taxpayer's child.  Similarly, different definitions of qualified educational expenses apply for purposes of thevarious educational tax incentives available under present law.

Recordkeeping and reporting.-An important aspect of the equity of a tax system involvesthe degree of compliance of taxpayers with the applicable laws.  To facilitate compliance and toimprove enforcement of the law, numerous reporting and recordkeeping requirements have beenimposed on taxpayers.  However, increased reporting and recordkeeping increases the burden ontaxpayers.  The extent of the burden and the added complexity concomitant with such burdendepends on whether the information required to be reported would otherwise be collected by thetaxpayer.  For example, under present law, taxpayers are required to substantiate certaincharitable contributions.  This substantiation requirement increases recordkeeping and reportingotherwise done by both charitable organizations and individuals solely for the purpose ofensuring compliance with the tax law.  Similarly, reporting requirements have been imposed oneducational institutions and individuals to substantiate education expenses for purposes of certainof the education tax incentives.

Limitations on availability of tax incentives.-Some areas of complexity result becausecertain tax incentives have been designed to target the incentive to a particular class of taxpayer. These limitations on the availability of tax incentives may create the greatest complexity foraffected individual taxpayers.  For example, the numerous different phase-out ranges that applyto certain individual tax incentives increase the complexity of the Form 1040 individual incometax return.  Although the number of individual taxpayers who are directly affected by thephaseouts may be relatively small relative to the universe of individual taxpayers, the addedcomplexity of the Form 1040 will affect more than those taxpayers directly affected.

Frequent changes in the tax laws.-Frequent changes in the tax laws can contribute tocomplexity both for taxpayers and the government.  Frequent changes in the law can increaseinadvertent errors by taxpayers, as taxpayers may not be aware of the change or mayinadvertently apply prior law, and can contribute to taxpayer frustration.  Changes in the tax lawsnecessitates the expenditure of resources to educate IRS employees regarding the changes. Frequent changes in the tax laws can also delay needed regulatory or other needed administrativeguidance.

**B.  Alternative Minimum Tax**

	The AMT requires a calculation of a second income tax base and computation of a tax onthat base, so the present tax system, with an AMT, is not as simple to administer or comply withas the same system would be without an AMT.  Relatively few taxpayers currently are subject tothe AMT.(31)  However, the data on taxpayers subject to the AMT understates the extent to whichthe AMT imposes a compliance burden on taxpayers.  Many taxpayers must calculate whether, infact, they are liable for the AMT or whether the utilization of certain credits is limited by theAMT.  The IRS has provided a 12-line worksheet to see if the taxpayer needs to fill in the AMTForm 6251.(32)  In addition, the IRS instructions instruct the taxpayer to fill in Form 6251 if thetaxpayer has any of 13 listed preferences.  The Form 6251 itself contains 50 lines to compute theminimum tax.  In addition, taxpayers claiming credits must fill out worksheets to see if theircredits are limited by the AMT.(33)

	The projections in Table 11, in Part II.B., above, show that many more individuals will besubject to or otherwise affected by the AMT in the future.  Thus, more individuals will face theadded complexity of the AMT in the future.  This increase in number of taxpayers affected by theAMT occurs because the exemption amount and the tax bracket break point for the AMT are notindexed for inflation.

	There are no studies that specifically measure compliance costs arising from theindividual AMT.  Indirect evidence of the complexity imposed by the individual AMT may bethe increased utilization of the services of paid tax preparers by individual taxpayers subject tothe individual AMT.  If taxpayers subject to the AMT are more likely to have complicatedfinancial affairs, they might use paid tax preparers even in the absence of the AMT.  However,Tables 12 and 13 indicate that middle-income taxpayers, whose financial affairs are less likely tobe complicated, are more likely to become subject to the AMT in the future and thus may befaced with more complicated tax compliance burdens.

**C.  Treatment of Capital Gains and Losses**

	Unlike prior law, the capital gains reduction enacted by the Tax Relief Act of 1997("1997 Act") (as modified by the Internal Revenue Service Restructuring Act of 1998) is amultiple rate system:  28 percent for the sum of gain from collectibles, and includible smallbusiness gain(34); 25 percent for unrecaptured real estate depreciation; and 20 percent (10 percentfor gain otherwise taxed at 15 percent) for the remainder of the net capital gain.(35)  In addition, in2001, gain from assets held for more than 5 years will be eligible for an 8-percent rate rather thana 10-percent rate and in 2006 assets held more than 5 years and acquired after 2000 will beeligible for an 18-percent rate rather than a 20-percent rate.

	Prior to 1987, individuals were allowed a 60-percent deduction for the net capital gain, asystem that resulted in a different maximum effective rate for each tax rate bracket.  Under thepre-1986 Act rules, no special tax computation was necessary, because a deduction was allowedin computing taxable income and then the tax was computed using the regular tax rate scheduleor table.  In addition, because the deduction was a single fixed percentage, it was unnecessary toapply differing percentages to different components of the net capital gain.  Under this system,individuals in any tax bracket reporting capital gain only from mutual fund distributions couldreport 40 percent of the gain on Form 1040 and not file a Schedule D (the form to report capitalgains).  When the alternative rate system was in effect prior to 1978, the maximum rate systemapplied only to individuals in the higher rate brackets, thus allowing most individuals to reporttheir capital gain without having to compute their tax on schedule D.

	Under the rules in effect from 1991 through 1996, only individuals in the 31-percent orhigher tax brackets were required to make the tax computation on the 13-line worksheet toSchedule D, because individuals with taxable incomes below the 31-percent bracket received nobenefit from the 28-percent maximum rate applicable to  capital gains.(36)  Under the 1991-1996rules, capital gain distributions from mutual funds for individuals in the 15- or 28-percent taxbracket could be reported directly on Form 1040 without filing a Schedule D.  In 1994, 5.8million taxpayers reported capital gain distributions in this way.

	Under the rules enacted in the 1997 Act, every individual with a net capital gain(including those whose only capital gain is from mutual fund distributions) needs to complete the36-line tax computation on Schedule D to receive the benefit of the lower capital gain rate.(37)  For1998, it is estimated that 22 million taxpayers will make these computations.  The multiple ratesystem adopted by the 1997 Act requires Form 1099s and Schedule Ks received by holders ofinterests in pass-through entities, such as mutual funds, REITS, partnerships, trusts, estates, andSub S corporations to report multiple categories of gain so that the investor may properlycompute the capital gains tax.  Additional calculations will have to be added to Schedule D andadditional reporting will be required in both 2001 and 2006 when the additional capital gain ratesbecome effective.

	Because, under the 1997 Act, amounts taxed at the various rates are based, not on grossgains from within a category, but rather on net amounts of gain, rules for netting gains and lossesare needed.  The net gain must be arrived at by offsetting gains within a category by losses fromwithin the same category as well as net long-term losses from other categories, net short-termcapital losses, long-term capital loss carryovers, and ordinary losses.  Also, lower capital gainrates must be computed for income otherwise taxed at the 15-percent rate.  The 1997 Act setsforth rules for making these computations.  Many of the additional lines added to the Schedule Dfor 1997 are needed to complete these computations.

	Further, section 1231 provides, in general, that if there is a net long-term gain fromcertain assets used in a trade or business, then all the gains and losses comprising that net gainare capital gains and losses.  However, if there is a net section 1231 loss, then all the gains andlosses are ordinary gains and losses.  When there was only one category of long-term gain andloss, any loss would offset the tax on any gain, dollar-for-dollar, whether or not the gains andlosses are all characterized as capital or ordinary.  Under the 1997 Act multiple rate system,because section 1231 gains and losses, if treated as long-term capital gains and losses, may fallinto differing rate categories,  a "notch" may be created where the net amount turns from positiveto negative.  The 1997 Act dealt with this problem by, in part, limiting 25-percent gain fromsection 1231 assets to the net section 1231 gain.  This also adds additional computationalcomplexity.

	Under the 1997 Act any individual having a net capital gain and needing to compute thetentative minimum tax amount is required to fill out a 22-line tax computation on Form 6251(Alternative Minimum Tax).

**D.  Income Phaseouts, Phaseins, and Floors**

**Present law**

	The Code includes 22 provisions that can increase a taxpayer's effective marginal tax ratethrough income phaseouts, phaseins, and floors that limit the ability of certain taxpayers to claimcertain deductions, credits or other tax benefits.(38)  Table 18,below, provides a summary of theseprovisions. The Joint Committee staff estimates that over 30 million taxpayers are subject tothese provisions.  The provisions affecting the most taxpayers are the phaseout of the EIC, the2-percent floor on miscellaneous itemized deductions, the phasein of the EIC, the phaseout of theexclusion of Social Security benefits, and the overall limitation on itemized deductions.

	It is possible for taxpayers to be subject to more than one of the phaseouts or phaseinssimultaneously. Certain of the phaseouts are mutually exclusive--for example, a taxpayer couldnot simultaneously be subject to the personal exemption phaseout and the phaseout for thedeductibility of interest on qualified student loans, as the income ranges of the separate phaseoutsdo not overlap. However, other phaseouts can overlap. Table 18 can be used as a general guide tothe income levels where multiple phaseouts can overlap. Some care must be used in interpretingthe table, however. For example, the table shows that taxpayers in the $20,000 to $30,000 AGIrange could be subject to a combination of the EIC and dependent care credit phaseouts and thephasein of Social Security benefits. However, a taxpayer is unlikely to be subject to the SocialSecurity inclusion and receive either the EIC or the dependent care credit, given the distinctlydifferent demographics of the taxpayers that benefit from Social Security as compared to theother provisions.

**Analysis**

	Many of the provisions identified in Table 18 require additional computations bytaxpayers, marginally increasing both the time required to prepare the taxpayer's return and theprobability of making an error.  In addition to whatever additional complexity they create, suchprovisions may make the Code less clear and lead to taxpayer confusion regarding the individualincome tax. As noted above, these provisions have the effect of increases in marginal tax rates,but are not stated as statutory rates. Likewise, taxpayers generally understand that certaindeductible expenditures are "favored" and reduce their tax liability or that certain credits may beclaimed for specified expenditures. Because taxpayers can not always predict what their incomewill be for any given year or may be unaware of all of the requirements of the Code, theseprovisions may make it harder for taxpayers to plan to take advantage of certain tax-favoredactivities.

	Complexity and lack of clarity may promote taxpayer disillusionment and a sense ofunfairness regarding the Code, and may reduce compliance. It probably is impossible to discernthe extent, if any, to which compliance rates have been affected by the existence of theprovisions described in this section.

	On the other hand, by limiting the number of taxpayers eligible to qualify for certain taxbenefits, some of the provisions reduce computations, possibility of error, and recordkeeping. Forexample, the 7.5-percent-of-AGI floor on deductible medical expenditures eliminates the needfor recordkeeping and computation for the approximately 30 million taxpayers who claimitemized deductions other than for medical expenses. It also may induce some taxpayers to claimthe standard deduction, which provides significant simplification.

	Some commentators have suggested that the complexity relating to these provisionsshould be reduced. Some propose the repeal of some or all of the phaseouts and phaseins. Otherssuggest the creation of a limited number of dollar ranges (e.g., low-income, middle-income andupper-income) to increase uniformity within the Code for some or all these provisions. Stillothers suggest conforming the definitions of modified AGI used in some of these provisions. Making any such changes would not necessarily result in simplification for all taxpayers subjectto these provisions.  For example, if a taxpayer is subject to only one income phaseout underpresent law, changing the phase-out range to the range used for other provisions would notsimplify preparation of that individual's return.  Indeed, such a change might add complexity forthat taxpayer, because he or she would have to learn to apply a new provision.

	In addition, any changes to these provisions to reduce complexity would need to beweighed against the policy provisions and Congressional intent underlying present law.  Many ofthe provisions serve to target tax benefits to certain groups of taxpayers (e.g., the EIC is a taxbenefit for lower-income individuals) or to deny certain tax benefits to higher-income taxpayers(e.g., the IRA deduction is limited for certain higher-income taxpayers).  Changing the present-law phase-out ranges could alter the distribution of tax benefits among taxpayers.

**Table 18.-Summary of Present-Law Individual Tax ProvisionsWith Income Phaseins or Phaseouts, or AGI Floors (1999)**
**Provision****Code Section****Applicable Range****of AGI**Phaseout of exclusion of social security benefitsSection 86**First tier:**
*Single:*  $25,000-various1

*Joint:*  $32,000-various1

**Second tier:**

*Single:*  $34,000-various1

*Joint:*  $44,000-various1Overall limitation on itemized deductions ("Pease")Section 68$126,600-various17.5-percent of AGI floor on medical deductionSection 213Any taxpayer itemizing medical deductions2-percent of AGI floor on miscellaneousSection 67Any taxpayer itemizing miscellaneous deductions10-percent floor on casualty lossSection 165(h)(2)Any taxpayer itemizing casualty loss deductionsPhaseout of personal exemptionSection 151*Single:*  $126,600-$249,100
*H/H:*  $158,300-$280,800

*Joint:*  $189,950-$312,450Phasein of earned income creditSection 32*No children*:
$0-$4,5302

*One child*:

$0-$6,8002

*Two children*:

$0-$9,5402Phaseout of earned income creditSection 32*No children:*
$5,670-$10,2002,3

*One child:*

$12,460-$26,9282,3

*Two children:* $12,460-$30,5802,3Phaseout of child creditsSection 24*Single:*  $75,000-various3
*Joint:*  $110,0003Partial phaseout of dependent care creditSection 21$10,000-$28,001Phaseout of eligibility for deductible IRASection 219*Single:*  $31,000-$41,000
*Joint:*  $51,000-$61,000Phaseout of eligibility for Roth IRASection 408A*Single:*  $95,000-$110,000
*Joint:*  $150,000-$160,000Phaseout of eligibility for education IRASection 530*Single:*  $95,000-$110,000
*Joint:*  $150,000-$160,000Phaseout of HOPE creditSection 25A*Single:*  $40,000-$50,0003
*Joint:*  $80,000-$100,0003Phaseout of Lifetime Learning creditSection 25A*Single:*  $40,000-$50,0003
*Joint:*  $80,000-$100,0003Phaseout of deductibility of interest on qualified studentloansSection 221*Single:*  $40,000-$55,0003
*Joint:*  $60,000-$75,0003Phaseout of exclusion of interest from education savingsbondsSection 135*Single:*  $53,100-$68,1003
*H/H:*  $53,100-$68,1003

*Joint:*  $79,650-$109,6503Phaseout of credit for elderly and disabledSection 22*Single:*  $7,500-maximum of $17,500
*Joint:*  $10,000-maximum of $25,000Phaseout of adoption credit and exclusionSection 23$75,000-$115,0003Phaseout of first-time homebuyer credit for D.C.Section 1400C*Single:*  $70,000-$90,0003
*Joint:*  $110,000-$130,0003Phaseout of rental real estate losses under passive lossrulesSection 469(i)$100,000-$150,000Phaseout of rehab tax credit under passive loss rulesSection 469(i)$200,000-$250,000Income phase-in of recapture of subsidy of qualifiedmortgage bondsSection 143Defined relative to area median income

1Applicable range defined by reference to provisional income and modified AGI is used in lieu of AGI.2  Assumes all income is earned income.3  Income range measured by reference to modified AGI.
Source: Staff of the Joint Committee on Taxation.

**E.  Individual Retirement Arrangements ("IRAs")**

	The present-law provisions relating to IRAs can add to complexity for individuals.  Thereare several reasons for this complexity, including (1) the existence of multiple options withdiffering requirements and tax benefits, (2) recordkeeping requirements, and (3) the applicationof different rules to similar types of tax-favored vehicles.

Existence of multiple options.-Although the availability of deductible IRAs,nondeductible IRAs, and Roth IRAs increases retirement savings opportunity and flexibility, theexistence of multiple options also produces complexity.  Different rules concerning eligibility,limitations and taxation apply to each type of IRA.  The availability and/or desirability of eachtype of IRA varies from taxpayer to taxpayer based upon the taxpayer's age, income, filing statusand participation in an employer-sponsored retirement plan.  The use of one type of IRA maylimit or prevent the use of another type.  Because of the variation and interaction of the multipleIRA options, a taxpayer must become familiar with all of the IRA rules in order to choose thebest IRA for his or her circumstances.

	Table 19, below, shows a summary comparison of the present-law rules relating to IRAs,including deductible IRAs, Roth IRAs, and nondeductible IRAs.

Recordkeeping requirements.-IRA owners need to keep records in order to be able todetermine the taxable portion of a withdrawal.  The extent of recordkeeping requirementsdepends in part on the type of IRA contributions the individual has made.  For example, if theindividual has only a Roth IRA, then the individual will have to keep records in order todemonstrate whether a withdrawal is tax free.  This involves keeping track of when an individualfirst established an Roth IRA.  If a withdrawal does not qualify for tax-free treatment, then theindividual will need to be able to determine what portion of the withdrawal, if any, is taxable. This will require keeping track of the amount of contributions and any previous distributions.  Ifan individual has made only nondeductible contributions to an IRA, the individual will need tokeep track of such contributions (and any distributions) in order to determine what portion of anydistribution is taxable.  The recordkeeping requirements may be more difficult if an individualhas more than one IRA, or more than one type of IRA.  In general, all an individual's Roth IRAsare treated as a single Roth IRA for purposes of determining whether any portion of adistribution is taxable.  Thus, an individual with more than one Roth IRA will need to keepcomprehensive records of all Roth IRA transactions.  Regular IRAs (including IRAs to whichnondeductible and deductible IRA contributions have been made) are similarly treated as a singleIRA for taxation purposes.  Records for such IRAs would need to be kept separately from recordsfor any Roth IRAs.  Recordkeeping will be easiest if an individual has made only deductible IRAcontributions, because all withdrawals will be includible in income.

	In some cases, the financial institution holding the IRA account may be able to assist thetaxpayer with recordkeeping.  However, this will generally be possible only if the individual'sIRAs have always been maintained at the same institution.  If an IRA owner transfers balances orrolls over balances between financial institutions, the new financial institution may not be able todetermine the information needed to compute the amount of a distribution that is includible inincome.  For example, the new financial institution may not be able to determine what portion ofa roll over is attributable to nondeductible contributions.

	IRA owners that make taxable distributions before age 59-1/2 that are exempt from theearly withdrawal tax will need to keep records to substantiate the exemption.  For example, ataxpayer that makes a withdrawal from an IRA for first-time home expenses will need toestablish that his or her expenses at least equaled the amount of the withdrawal.

Similar types of arrangements.-Many taxpayers view IRAs and employer-sponsored401(k) plans in a similar light because both provide favorable tax treatment for individualtaxpayer contributions to retirement savings.  Furthermore, some general rules that apply to401(k) plans also apply to one or more types of IRAs.  These rules include the commencement ofminimum distributions at required beginning dates and restrictions on distributions prior to theoccurrence of certain events.  The specific application of these rules, however, is different for401(k) plans and IRAs and for different types of IRAs.  For example, while the typical 401(k)plan participant may postpone the commencement of minimum distributions until retirement, anindividual who owns a deductible IRA or a nondeductible IRA must begin receiving minimumdistributions at age 70-1/2.(39)  A Roth IRA owner is not required to receive any lifetimedistributions.  A 401(k) plan participant who receives a distribution prior to age 59-1/2 in orderto pay expenses related to education, or the purchase of a home must pay a 10-percent earlywithdrawal tax, but an IRA owner who receives a similar distribution may be exempt from theearly withdrawal tax.  These differences may produce uncertainty and confusion, especially fortaxpayers who have both IRAs and 401(k) plan accounts.

**Table 19.-Summary Comparison of Present-Law Rules Relating toIndividual Retirement Arrangements**
ProvisionDeductible IRARoth IRANondeductible IRA**1.  Eligibility tocontribute**Single taxpayers under age 70�who either are not an activeparticipant in an employer-sponsored retirement plan or haveAGI less than $41,000 (for 1999).Dollar limit increases annuallyuntil it reaches $60,000 in 2005.
Married taxpayer under age 70�filing a joint return if (a) neithertaxpayer nor spouse is an activeparticipant, or (b) taxpayer is activeparticipant and has AGI less than$61,000 (for 1999), or (c) spouse isan active participant but taxpayer isnot and has AGI less than$160,000.  Dollar limit in (b)increases annually until it reaches$100,000 in 2007.Single taxpayers with AGI of lessthan $110,000.
Married taxpayers filing a jointreturn with AGI of less than$160,000.
All taxpayers with compensationunder age 70 �.**2.  Maximum allowableannual contribution**The lesser of the taxpayer'scompensation or $2,000.  If thetaxpayer files a joint return,compensation includes thecompensation of the taxpayer'sspouse.  Limit applies to the totalcontributions to all of a taxpayer'sIRAs.
Contribution limit is reduced bytaxpayer's contributions to anyother IRAs.Same as for deductible IRAs.
Contribution limit is reduced bytaxpayer's contributions to anyother IRAs.Same as for deductible IRAs.
Contribution limit is reduced bytaxpayer's contributions to anyother IRAs.**3.  Phaseout of maximumallowable annualcontribution**For single taxpayer who is anactive participant in an employer-sponsored retirement plan, in 1999,pro rata phaseout if AGI withinrange of $31,000 to $41,000.Phase-out range increases annuallyuntil it reaches $50,000 to $60,000in 2005.
For married taxpayer filing jointreturn who is an active participantin an employer-sponsoredretirement plan, in 1999, pro rataphaseout if AGI within range of$51,000 to $61,000. Phase-outrange increases annually until itreaches $80,000 to $100,000 in2007.

For married taxpayer filing jointreturn who is not an activeparticipant but whose spouse is, prorata phaseout if AGI within rangeof $150,000 to $160,000.For single taxpayer, pro rataphaseout if AGI within range of$95,000 to $110,000.
For married taxpayer filing jointreturn, pro rata phaseout if AGIwithin range of $150,000 to$160,000.No phaseout.**4.  Tax treatment ofcontributions**Taxpayer may deduct thecontribution (up to the maximumallowable annual contribution)from gross income in the year forwhich the contribution is made.
Contribution in excess of maximumallowable annual contribution issubject to 6% excise tax.Taxpayer may not deductcontribution from gross income.

Contribution in excess of maximumallowable annual contribution issubject to 6% excise tax.
Taxpayer may not deductcontribution from gross income.
Contribution in excess of maximumallowable annual contribution issubject to 6% excise tax.**5.  Tax treatment ofdistributions**Distributions are includible in grossincome.
Distributions prior to age 59-� aresubject to 10% early withdrawaltax unless an exception applies. 
Distributions are not includible ingross income if distribution (a)occurs after the 5-taxable yearperiod beginning with the taxableyear of taxpayer's 1st  Roth IRAcontribution, and (b) occurs afterage 59�, or is due to death ordisability, or is used for first-timehomebuyer expenses up to $10,000. To the extent attributable toearnings, a distribution that doesnot meet these requirements isincludible in income and subject to10% early withdrawal tax if prior toage 59� unless an exceptionapplies.To the extent attributable toearnings, distributions areincludible in income and is subjectto 10% early withdrawl tax if itoccurs prior to age 59� unless anexception applies.
**F.  Provisions Relating to Education**

**In general**

	In recent years, several education financing and savings incentives have been added to theCode.  As a result, there now are numerous ways that taxpayers may be able to reduce the cost ofpost-secondary education.  Table 20 provides a summary of some of the provisions in the Coderelating to education savings incentives and education financing.  In addition to the provisionsnoted in the table, there are special rules governing the tax treatment of employer-providededucation assistance, qualified scholarships and fellowships, the forgiveness of certain studentloans, and withdrawals from IRAs for educational expenses.

	The education incentives in the Code are structured in several different ways.  Someprovisions are structured as savings incentives (e.g., education IRAs and qualified state tuitionprograms), some are designed to reduce the cost of post-secondary education at the timeeducational expenses are incurred (e.g., the HOPE and Lifetime Learning credits), some provideexclusions from income for amounts used to pay for educational expenses (e.g., interest oneducation savings bonds), and some reduce the cost of borrowing money to pay for educationalexpenses (e.g., the student loan interest deduction).  While the existence of a variety of taxincentives for education with differing provisions may mean that more taxpayers are able to takeadvantage of one or more education incentives, understanding the tax benefits provided by thedifferent provisions, the various eligibility requirements, the interaction between differentprovisions, as well as the recordkeeping and reporting requirements, may be time consuming andconfusing for taxpayers who are interested in reducing their current educational expenses orsaving for future expenses.

**Interaction among provisions**

	Several of the education-related provisions (including education IRAs, qualified Statetuition programs, and the HOPE and Lifetime Learning credits) have restrictions on their usebased upon the taxpayer's use of other education provisions.  These interactions may not beobvious in all cases -- e.g., a beneficiary of an education IRA will incur an excise tax if acontribution is made on his or her behalf to a qualified state tuition program in the same year --and, consequently, may be confusing to some taxpayers.  While it is possible for taxpayers totake advantage of many or even all of the education incentives at some point, they must becareful about which incentives are selected in any particular year so as to avoid losing eligibilityfor a particular provision.

**Differing definitions and qualifications**

	Several education-related provisions use different definitions for similar or identicalterms.  For example, several education incentives use the terms "qualified higher educationexpenses," "eligible educational institution," and "eligible student," but define them differently. The differences in definitions can be significant.  For example, for some education provisions theterm "qualified higher education expenses" includes room and board, while for others it does not. Similarly, for purposes of some provisions, an "eligible student" is defined as a student enrolledon at least a half-time basis, while for purposes of other provisions, an "eligible student" isdefined to include students enrolled on a less than half-time basis.  Instances where similar oridentical terms are defined differently may result in confusion for those taxpayers attempting todetermine whether certain persons and/or expenses meet the eligibility requirements forparticular education incentives.

**Income phaseouts**

	Several of the education-related provisions use income phaseouts to limit the availabilityof the provision to a particular class of taxpayers.  As discussed elsewhere in this pamphlet, theuse of income phaseouts results in additional computations for those taxpayers who wish to useone or more education-related provisions that have phase-out ranges.  Complexity also may becreated by the existence of different phase-out ranges for education incentives that can be usedsimultaneously.  For example, a single taxpayer with modified AGI of $45,000 will be subject todifferent phase-out ranges for purposes of claiming the HOPE credit and the student loan interestdeduction.

	Furthermore, in some cases, phase-out ranges can increase complexity for severaltaxpayers involved a single transaction.  For example, a contributor to an education IRA isunlikely to know what his or her modified AGI for that taxable year will be at the time acontribution is made and thus will not know his or her contribution limit.  If, after using aworksheet to compute his or her modified AGI (which may not be the same as the AGI reportedon his or her tax return) and contribution limit, the contributor determines that he or sheexceeded the contribution limit in a particular year, the beneficiary is then responsible for eitherwithdrawing the excess contributions (and the earnings thereon) before the due date of his or herreturn or reporting the amount of the excess contributions and paying a penalty excise tax.  Thus,the phase-out ranges applicable to contributors to education IRAs can affect both the contributorto an education IRA account and the designated beneficiary of the account.

**Table 20.-Comparison of Certain Education Tax IncentivesAvailable to Individuals Under Present Law**
**Provisions****Tax Benefit****Contribution/**Deduction Limits****Eligible Contributors(for savingsincentives)/ EligibleClaimants (fordeductions, credits,and exclusions)****Eligible Beneficiaries****Qualified EducationExpenses****Coordination with**Other EducationProvisions****1.  EducationIRA (sec. 530)**Earnings are not subjectto tax until distributed. Distributions are notsubject to tax if theamount distributed doesnot exceed the qualifiedhigher educationexpenses of thebeneficiary during theyear.  Earnings portionof distributions inexcess of qualifiedexpenses is subject to anadditional 10-percenttax.Annual contributionsmay not exceed $500per designatedbeneficiary.  Nocontributions permittedafter beneficiary attainsage 18.Contribution limitphased out forcontributors withmodified AGI of$95,000 to $110,000($150,000 to $160,000for joint returns).Eligible distributee (i.e.,student) can be enrolledon full-time, half-time,or less than half-timebasis.Includes tuition, fees,books, supplies, andequipment required forattendance at an eligibleeducational institution(defined in sec. 481 ofthe Higher EducationAct of 1965).  Alsoincludes certain roomand board expenses ifstudent enrolled on atleast a half-time basis. Does not includeexpenses covered bycertain scholarships orother tax-freeeducational benefits. Includes amountscontributed to a QSTPfor the benefit of thebeneficiary of theeducation IRA.  No exclusion fromincome for a particularstudent if either theHOPE credit or LLC isclaimed for the sameyear with respect to thesame student.  Beneficiary will incur apenalty excise tax if acontribution is made byany person to aneducation IRA if, in thesame year, acontribution is made to aQSTP on behalf of thesame beneficiary.**2.  QualifiedState tuitionprogram("QSTP")**
**(sec. 529)**Earnings are not subjectto tax until distributed.Earnings not used forqualified highereducation expenses aresubject to an additionalpenalty.QSTP must haveadequate safeguards toprevent contributions inexcess of amountneeded for thebeneficiary's highereducation expenses.No restrictions.No restrictions.Same as education IRA,although there is norestriction regardingexpenses covered bytax-free educationalassistance.See education IRAdiscussion above. HOPE credit or LLCmay be claimed in sameyear and with respect tosame expenses forwhich a distributionfrom a QSTP is made.   **3.  HOPEcredit (sec.25A)**Credit against tax forqualified tuition andrelated expenses for firsttwo years of post-secondary education.  Maximum credit is$1,500, computed on aper-student basis. Credit rate is 100% onfirst $1,000 of qualifiedexpenses and 50% onnext $1,000 of expenses Credit amount is phasedout for taxpayers withmodified AGI between$40,000 and $50,000($80,000 and $100,000for joint returns). Creditmay be claimed bystudent or by anothertaxpayer if the taxpayerclaims the student as adependent.Eligible student must beenrolled on at least ahalf-time basis and mustnot have been convictedof Federal or Statefelony involvingpossession ordistribution of acontrolled substance.Same as education IRA,except does not includecharges or feesassociated with roomand board, athletics(unless part of student'sdegree program, andnonacademic fees(including insurance,transportation, andsimilar personal, livingor family expenses).  HOPE credit notavailable with respect toa particular student if,the student elects anexclusion from incomefor a distribution froman education IRA in thesame year.Also see QSTPdiscussion above.  **4.  LifetimeLearningcredit("LLC")(sec. 25A)** Credit against tax forqualified tuition andrelated expenses forundergraduate orgraduate (andprofessional) courses. Unlike HOPE credit,LLC is available for anunlimited number ofyears.For expenses paidbetween July 1, 1998and December 31, 2002,maximum credit is$1,000. For expensespaid after December 31,2002, maximum creditis $2,000.  Credit rate is20% of up to $5,000($10,000 beginning in2003) of qualifiedexpenses.
Unlike HOPE credit,LLC is computed onfamily-wide basis,rather than per-studentbasis.AGI phase-out rangesare same as HOPEcredit.  As with HOPEcredit, LLC may beclaimed by student or byanother taxpayer if thetaxpayer claims thestudent as a dependent.Eligible studentsinclude: (1) thoseenrolled on at least ahalf-time basis as part ofa degree or certificateprogram, and (2) thoseenrolled in any course ofinstruction at an eligibleeducational institution toacquire or improve thejob skills on a full-time,half-time, or less thanhalf-time basis.Same as HOPE credit.Same as HOPE credit. **5.  Studentloan interestdeduction**
**(sec. 221)**Taxpayer may claim anabove-the-line deductionfor interest paid onqualified educationloans, subject to anannual deduction limit. Deduction allowed withrespect to interest paidon qualified educationloans during the first 60months in which interestpayments are required. Maximum deduction is$1,500 in 1999, $2,000in 2000, and $2,500 in2001 and thereafter.Deduction is phased outfor taxpayers withmodified AGI of$40,000 to $55,000($60,000 to $75,000 forjoint returns).No restrictions.Includes tuition, fees,room and board, andrelated expenses,reduced by (1) anyinterest on educationsavings bonds excludedfrom income, (2) anydistribution from aneducation IRA excludedfrom income, and (3)any educational benefits(e.g., scholarships,employer-providededucational assistance)excluded from income.  No restrictions.**6.  Educationsavings bonds(sec. 135)**Interest on certainsavings bonds is notsubject to tax if theproceeds of the bondupon redemption do notexceed qualified highereducation expenses paidby the taxpayer duringtaxable year.No limit on amount thatmay be excluded, butsee income phase-outlimitation.For 1999, exclusion isphased out for taxpayerswith modified AGI of$53,100 to $68,100($79,650 to $109,650for joint returns).  Toprevent avoidance of theincome phase-outlimitation, bonds mustbe issued to taxpayerwho is at least 24 yearsold.No restrictions.Same as for HOPEcredit and LLC, butwithout the restrictionon nonacademic fees.  For purposes ofcomputing excludableamount, taxpayer cannotinclude expenses takeninto account indetermining the HOPEcredit or LLC claimedby the taxpayer, or theexcludable amount of aneducation IRAdistribution.

**G.  Definition of Dependent**

**Present law**

        Personal exemption for dependent children

	In general, a taxpayer is entitled to claim an exemption for any dependent child of thetaxpayer.  In order to claim a child as a dependent, the taxpayer must provide more than one halfof the child's total support during the calendar year, as well as meet certain other requirements. For purposes of the support test, governmental benefit payments (e.g., Temporary Assistance toNeedy Families ("TANF") payments, food stamps, and housing) are not treated as supportprovided by the taxpayer but rather are treated as support provided by the government.  Expensesthat are not directly related to any one member of a household, such as the cost of food for thehousehold, must be divided among the members of the household.

	To determine whether a taxpayer has provided more than half of a child's support, theamount the taxpayer contributed to the child's support is compared with the entire amount ofsupport the child received from all sources.  This amount includes the child's own funds used forsupport.  See the illustration of the support test below.

	A taxpayer may be able to claim a child as a dependent even though the taxpayerprovided support for less than half the year.  Support is determined based upon the amount spent,not the length of time over which it is spent.  As long as the taxpayer provides more than half ofthe total amount of a person's support for a year, the taxpayer satisfies the support test.

	The Code provides special support rules in the case of a child of parents: (1) who aredivorced or legally separated under a decree of divorce or separate maintenance, (2) who areseparated under a written separation agreement, or (3) who live apart at all times during the last 6months of the calendar year.  If the child is in the custody of one or both of these parents formore than one half of the calendar year, then the parent having custody for the greater portion ofthe calendar year is deemed to satisfy the support test.  That parent can release claim to theexemption for any year by filing a proper written declaration (Form 8322 or similar statement)with the Secretary of the Treasury.  Figure 2 shows the support test in the case of divorced orseparated parents.

	A child over the age of 19 (24 if the child is a full-time student) cannot be claimed as adependent if the child has gross income equal to or in excess of the personal exemption amount($2,750 for 1999).  There is no gross income limit for children younger than these age thresholds. In the case of a dependent who is permanently and totally disabled, income from a shelteredworkshop is not taken into account for this purpose.  For purposes of the gross income test, thetaxpayer's child includes a son, stepson, daughter, stepdaughter, a legally adopted child, or achild who was placed with the taxpayer by an authorized placement agency for legal adoption.  Afoster child who was a member of the taxpayer's household for the entire tax year is alsoconsidered the taxpayer's child.

        Personal exemption for dependents other than children

	A taxpayer may claim an exemption for specified relatives other than if the taxpayerprovides more than half the support of the relative for the year, the relative has income less thanthe exemption amount, and certain other requirements are satisfied.  A taxpayer may also claiman exemption for an individual other than a specified relative if the taxpayer provides more thanone half of the individual's support for the year and the individual lives with the taxpayer for theentire year, has gross income less than the exemption amount, and satisfies certain otherrequirements.  Support is generally determined using the same rules as described for childrenabove.

        Other rules

	To qualify as a dependent under any category, a person must be a U.S. citizen, resident ornational, or a resident of Canada or Mexico for some part of the calendar year in which thetaxpayer's tax year begins.  Also, a person is disqualified as a taxpayer's dependent if he or shefiles a joint income tax return.

	In some cases no one taxpayer provides more than half of the support of a person. Instead, two or more taxpayers, each of whom would be able to take the exemption but for thesupport test, together provide more than half of the person's support.  If this occurs, taxpayerscan agree to designate that one of the taxpayers who individually provides more than 10 percentof the person's support can claim an exemption for that person.  Each of the others must sign awritten statement agreeing not to claim the exemption for that year.  The statements must be filedwith the income tax return of the person who claims the exemption.

        Interaction with filing status and certain tax credits

	A taxpayer may be entitled to file an income tax return as a surviving spouse or as a headof household if the taxpayer is entitled to a dependency exemption for certain dependents and thetaxpayer pays more than one half of the cost of maintaining a home which is the principal placeof abode for such dependents.  A taxpayer may claim head of household filing status if thetaxpayer pays more than one half the cost of maintaining a home which is the principal place ofabode for a non-dependent, unmarried son, stepson, daughter, stepdaughter or a descendent of ason or daughter of the taxpayer.

	Taxpayers with income below certain income thresholds may claim a $500 child taxcredit for qualifying children claimed as a dependent who are under the age of 17 and meetcertain other requirements.  Similarly, a dependent care tax credit may be claimed by taxpayerswho maintain a household for a dependent who is under the age of 13 or other individual whomeets certain other requirements and for whom the taxpayer has paid employment relatedexpenses to care for the child or other individual.

        Illustration of dependency rules

	Figure 3, below, shows the tests that apply in determining whether a taxpayer may claiman individual as a dependent for a taxable year.

**Illustration of the support test**

	Certain information is needed to determine if the taxpayer provided more than one half ofa person's support during the calender year.  The following is illustrative of the types ofinformation and computations which are necessary:
1.	Did the proposed dependent receive any types of income such as wages, social security
	     benefits, or other government assistance such as welfare?
	    A.	If yes, list total amount received.
	    B.	What portion of total income received was used to support the proposed dependent
	       (excluding other uses such as savings)?
2.	Total cost to maintain household
	    A.	List actual rent paid, or if owned list fair rental value of home.
	    B.	Food
 	    C.	Utilities
	    D.	Insurance and other identifiable expenses
3.	Total number of persons living in home
4.	Living expenses of proposed dependent
	    A.	Household expenses (generally line 2 total costs divided by line 3.) However, if 
	        home was owned by proposed dependent, exclude fair rental value from line 2A and
	        instead include total fair rental value here)
	    B.	Clothing
	    C.	Other expenses such as medical or education
5.	Combine income proposed dependent used for support (line 1B) with other support
      received which was not included in line 1A (i.e., support from other relatives).  This is
      the total support for the proposed dependent which was not provided by the taxpayer.
6.	Total living expenses computed on line 4 is reduced by line 5 to arrive at the total amount
     of support provided by the taxpayer wishing to claim the dependency exemption.
7.	If the amount of support provided by the taxpayer (line 6) exceeds 50 percent of the total
     living expenses of the proposed dependent (line 4), then you meet the support test for the
     dependency exemption.

	While this computation is fairly easy for many households with a child living at homewith his or her parents, the computation of support can become much more complicated insituations where multiple generations of a family are living in the same household or when agrandparent is paying for tuition and room and board expenses for a grandchild who is away atschool for most of the year.

**Analysis**

	Some argue that the definition of dependent is a significant source of complexity in theCode, in part because of its widespread applicability.  In particular, some argue that the supporttest requires time-consuming recordkeeping and computations.  Another source of complexity,some argue, is the fact that the requirements for dependency exemption are different than forother tax benefits (e.g., the earned income credit).  These commentators would conform thedefinitions to reduce complexity.

	On the other hand, some argue that, while the dependency rules are on their facecomplex, in practice they are not, because many taxpayers do not actually apply the support testbefore claiming the exemption.  Some argue that, in that case, it would be appropriate toeliminate the technical complexities in the law to help prevent taxpayer mistakes and to conformthe law to taxpayer practices.

**H.  Earned Income Credit**

**Present law**

	The earned income credit ("EIC") is available to low-income working taxpayers. Threeseparate schedules apply.

	Taxpayers with one qualifying child may claim a credit in 1999 of 34 percent of theirearnings up to $6,800, resulting in a maximum credit of $2,312. The maximum credit is availablefor those with earnings between $6,800 and $12,460. At $12,460 of earnings (or modified AGI,if greater) the credit begins to phase down at a rate of 15.98 percent of the amount of earnings (ormodified AGI, if greater) above that amount.  The credit is phased down to $0 at $26,928 ofearnings (or modified AGI, if greater).

	Taxpayers with more than one qualifying child may claim a credit in 1999 of 40 percentof earnings up to $9,540, resulting in a maximum credit of $3,816. The maximum credit isavailable for those with earnings between $9,540 and $12,460. At $12,460 of earnings (ormodified AGI, if greater) the credit begins to phase down at a rate of 21.06 percent of earnings(or modified AGI, if greater) above that amount. The credit is phased down to $0 at $30,580 ofearnings (or modified AGI, if greater).

	Taxpayers with no qualifying children may claim a credit if they are over age 24 andbelow age 65. The credit is 7.65 percent of earnings up to $4,530, resulting in a maximum creditof $347. The maximum credit is available for those with incomes between $4,530 and $5,670. At$5,670 of earnings (or modified AGI, if greater), the credit begins to phase down at a rate of 7.65percent of earnings (or modified AGI, if greater) above that amount, resulting in a $0 credit at$10,200.

	All income thresholds are indexed for inflation annually.

	In order to be a qualifying child, an individual must satisfy a relationship test, a residencytest, and an age test. The relationship test requires that the individual be a child, a stepchild, adescendant of a child, or a foster or adopted child of the taxpayer. The residency test requires thatthe individual have the same place of abode as the taxpayer for more than half the taxable year.The household must be located in the United States. The age test requires that the individual beunder 19 (24 for a full-time student) or be permanently and totally disabled.

	An individual is not eligible for the earned income credit if the aggregate amount of"disqualified income" of the taxpayer for the taxable year exceeds $2,350. This threshold isindexed.  Disqualified income is the sum of: (1) interest (taxable and tax-exempt); (2) dividends;(3) net rent and royalty income (if greater than zero); (4) capital gain net income; and (5) netpassive income (if greater than zero) that is not self-employment income.

	For taxpayers with earned income (or modified AGI, if greater) in excess of the beginningof the phase-out range, the maximum EIC amount is reduced by the phase-out rate multiplied bythe amount of earned income (or modified AGI, if greater) in excess of the beginning of thephase-out range. For taxpayers with earned income (or modified AGI, if greater) in excess of theend of the phase-out range, no credit is allowed.

	The definition of modified AGI used for phasing out the EIC disregards certain losses.The losses disregarded are: (1) net capital losses (if greater than zero); (2) net losses from trustsand estates; (3) net losses from nonbusiness rents and royalties; and (4) 75 percent of the netlosses from businesses, computed separately with respect to sole proprietorships (other than infarming), sole proprietorships in farming, and other businesses.  The definition of modified AGIalso includes: (1) tax-exempt interest; and (2) non-taxable distributions from pensions, annuities,and individual retirement accounts (but only if not rolled over into similar vehicles during theapplicable rollover period).

	Table 21 shows the number of taxpayers claiming the EIC and the number of taxpayers inthe phase-in and phase-out ranges, respectively.

**Table 21.--Distribution By Income of Taxpayers Claiming the Earned IncomeCredit and Those in the Phase-in and Phase-out Range[Calendar Year 1999]**

**Income category1******Taxpayers claimingearned incomecredit**

**(millions)****Taxpayers inearnedincome creditphase-inrange**
**(millions)****Taxpayers inearned incomecredit phase-outrange**
**(millions)**Less than $10,000	6.94.61.3$10,000 to $20,000	7.70.74.7$20,000 to $30,000	4.40.14.2$30,000 to $40,000	0.3(2)0.3$40,000 to $50,000	0.1(2)0.1$50,000 to $75,000	(2)(2)(2)$75,000 to $100,000	0.00.00.0$100,000 to $200,000	0.00.00.0$200,000 and over	0.00.00.0**Total, all taxpayers:**19.45.510.5

Details may not add to total due to rounding.

1  The income concept used to place tax returns into income categories is adjusted gross income plus [1] tax exemptinterest, [2] employer contributions for health plans and life insurance, [3] employer share of FICA tax, [4] workers'compensation, [5] nontaxable social security benefits, [6] insurance value of Medicare benefits, [7] alternativeminimum tax preference items, and [8] excluded income of U.S. citizens living abroad.  Categories are measured at1999 levels.

Source: Staff of the Joint Committee on Taxation.

**Analysis**

	The EIC has two main sources of complexity.  The first source of complexity is indetermining whether or not a child is a qualifying child for purposes of claiming the EIC.  Whilein most family situations the determination of eligibility is straightforward, in other situationscomplex living arrangements make it difficult to determine whether a child is eligible for a creditwith respect to a particular taxpayer.  In certain cases, more than one taxpayer would appear to beable to claim the EIC with respect to a particular child - in such cases, however, only thetaxpayer with the higher AGI is allowed to claim the credit.  In order for the taxpayer with thelower AGI to know not to claim the credit, such taxpayer needs to know that the child is EIC-eligible with respect to another taxpayer, and know that such taxpayer has a higher AGI.  Whilein some cases these determinations may be easily made, such as when all the relevant persons areliving in the same household.  However, such situations often lead to both taxpayers claiming thecredit, or the wrong taxpayer claiming the credit.

	The second source of complexity with respect to the EIC is the calculation of the credit. A taxpayer's credit is based on his or her earned income, and may also be affected by amounts ofunearned income.  In determining earned income, a taxpayer must include non-taxable earnedincome, such as salary deferrals, excludable dependent care benefits, housing allowances, etc.Determining the value of these benefits may be difficult.  While earned income is used todetermine the credit during the phase-in of the credit, a taxpayer must include his or her unearnedincome to determine the credit amount if he or she is in the phase-out range of the credit.  Usingone income measure for the phase-in of the credit and another for the phase-out of the creditmight be seen as contributing to some complexity.  While the various credit phase-in and phase-out rates may appear to create great complexity, the IRS-provided worksheet and EIC credit tablemake it possible to determine the credit knowing the amounts of earned and unearned incomeand the number of qualifying children, but without knowing the phase-in or phase-out rates.  Also, as an alternative, the IRS will calculate the amount of the credit for the taxpayer as long asthe amount of nontaxable earned income is provided.

**I.  Estimated Taxes**

**Present law**

	Taxpayers whose sole (or primary) form of income is wages generally do not makeestimated tax payments, because they generally have sufficient taxes withheld from their wagesto cover their tax liability.  In fact, many of these individuals have taxes withheld from theirwages in excess of their ultimate tax liability.  Taxpayers who make estimated tax paymentsgenerally receive a significant amount of income from non-wage sources.  For tax year 1996,120.7 million individual income tax returns were filed.  Of those returns, 12.3 million reflectedestimated tax payments made for that tax year.  Thus, approximately 10 percent of filing unitsmade estimated tax payments, while 90 percent did not.  One goal of the estimated tax system isto ensure that the amount of estimated tax payments made (including any income taxwithholding) closely approximates the actual tax liability that a taxpayer will owe.  Taxpayerswho do not pay enough estimated tax are liable for a penalty for failing to do so.  In 1996, theInternal Revenue Service asserted estimated tax penalties, in total, of over $1 billion againstapproximately 5.6 million taxpayers.

**Analysis**

	The estimated tax rules can require taxpayers to perform a variety of calculations.  Thesecalculations are shown on Form 2210, Underpayment of Estimated Tax by Individuals, Estatesand Trusts, which is reproduced in Appendix C.  The following are principal sources ofcomplexity in the estimated tax rules.

Underpayment periods.-Section 6654(b)(1) defines "underpayment" as the amount of aninstallment due over the amount of any installment paid (including withholding) on or before thedue date of the installment.  In determining an underpayment penalty for a calendar yeartaxpayer, the period of underpayment runs for each underpayment from the payment's due datethrough the earlier of April 15th or the date on which any such portion of the payment is made. (When a payment of estimated tax is made, it is credited against unpaid required installments inthe order in which such installments are required to be paid.)  Underpayment balances are notcumulative and do not carry over from one estimated tax period to the next; overpayments,however, are applied to successive estimated tax payments.  Form 2210, which is used tocalculate a taxpayer's underpayment for each estimated tax payment period, requires severalcalculations, some of which are a result of the present-law definition of "underpayment" and"period of underpayment."

Interest rates.-The underpayment penalty is calculated by applying the underpaymentinterest rate of section 6621 to the amount of the underpayment for the period of theunderpayment.  The underpayment interest rate is calculated by adding 3 percentage points to theFederal short-term rate, which is determined by the Secretary for the first month in each calendarquarter.  Estimated payments, for a calendar-year individual taxpayer, are due on the 15th day ofApril, June, September, and January (of the following year).  Interest rates, however, change asof the first day of each quarter.  Thus, taxpayers may have up to three different interest ratesapply to one quarter's underpayment.(40)  Depending on the fluctuation of interest rates throughoutthe year, taxpayers may be required to perform several interest-related calculations whencompleting Form 2210.

Annualizing income.-The estimated tax rules permit taxpayers to lower or eliminate theamount of one or more estimated tax installments by using the annualized income installmentmethod.  Use of this rule allows taxpayers to recognize situations in which their income variedduring the year because, for example, the taxpayer had unexpected income in a particular quarteror conducted business on a seasonal basis.  Taxpayers who annualize their income are required tofile Form 2210, regardless of whether the taxpayer is liable for a penalty for underpayment ofestimated tax.  Calculating estimated tax payments on an annualized basis, however, requiresmultiple calculations.  For example, a taxpayer who annualizes must essentially calculateadjusted gross income and itemized deductions for four different periods throughout the taxableyear.

Income shifts and safe harbors.-Taxpayers generally must make estimated tax paymentsequal to the smaller of: (1) 90 percent of the current year's tax or (2) 100 percent of the prioryear's tax.  The 100 percent of prior year's tax safe harbor is increased to a higher percentage forany individual with an adjusted gross income in excess of $150,000 as shown on the prior year'stax return ($75,000 for married individuals filing separately).  Because prior year's tax numbersgenerally are available to taxpayers at the start of the preceding tax year (or soon thereafter), thissafe harbor generally is less onerous to calculate than one based on current year's tax.  However,when a taxpayer has an unexpected (and nonrecurring) increase in income during a taxable year,the taxpayer may not wish to base his or her successive year's estimated tax payments on theunusually high prior year's tax.  Consider a taxpayer with an unusual item of income in year 1. The taxpayer would not desire making estimated tax payments for year 2 based on the taxpayer'sincome in year 1.  Thus, this taxpayer would have to make its year 2 estimated tax payments bymonitoring current year's income, period by period, to ensure that each payments falls within thecurrent-year-income safe harbor.

**Appendix A: IRS Worksheets and Forms Relating tothe Individual Alternative Minimum Tax**

**Worksheet To See If You Should Fill In Form 6251 - Line 511**(keep for your records)

          1.      Enter the amount from Form 1040, line 37 . . . . . . . . . . . . . . . . . . . . . 1.	_____          2.      If you itemized deductions on Schedule A, go to line 3.                   Otherwise, enter your standard deduction from Form                   1040, line 36, and go to line 5 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.	_____          3.      Enter the **smaller** of the amount on Schedule A, line 4                   or 2.5% (.025) of the amount on Form 1040, line 34 . . . . . . . . . . . . . 3.	_____          4.      Add lines 9 and 26 of Schedule A and enter the total . . . . . . . . . . . . . 4.	_____          5.      Add lines 1 through 4 above . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5.	_____          6.      Enter: $45,000 if married filing jointly or qualifying                   widow(er); $22,500 if married filing separately; $33,7650 if                   single or head of household . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .6.	_____          7.      Subtract line 6 from line 5.  If zero or less, **stop**; you do                    not need to fill in Form 6251 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  7.	_____          8.      Enter: $150,000 if married filing jointly or qualifying                   widow(er); $75,000 if married filing separately; $112,500                   if single or head of household . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8.	_____          9.      Subtract line 8 from line 5. If zero or less, enter -0- here                   and on line 10 and go to line 11 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9.	_____        10.      Multiply line 9 by 25% (.25) and enter the result but do                   not enter more than line 6 above . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10.	_____        11.      Add lines 7 and 10. If the total is over: $175,000 if single,                   married filing jointly, head of household, or qualifying                   widow(er); $87,500 if married filing separately, **stop** and                    fill in Form 6251 to see if you owe the alternative minimum                   tax. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11.	_____        12.      Multiply line 11 by 26% (.26) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12.	_____        **Next:** If line 12 is more than the amount on Form 1040, line 40 (excluding any        amount from Form 4972), fill in Form 6251 to see if you owe the alternative        minimum tax.  If line 12 is equal to or less than that amount, **do not** fill in        Form 6251.

__________________        1 This worksheet appears in the instructions for Form 1040, the Individual Income TaxReturn.

**Proposed 1998 Child Credit Worksheet**The worksheet on the following page was proposed by the IRS to relflect the law as ineffect before the amendments made by section 2001 of the Tax and Trade Relief Extension Actof 1998 (" the 1998 Act").  Section 2001 of the 1998 Act allowed the nonrefundable creditsagainst the entire regular tax for the 1998 taxable year.  The worksheet that was issued bythe IRS subsequent to this legislation deleted lines 12 through 22 on the worksheet becausethe minimum tax no longer limited the credits for the 1998 taxable year.
Presumably, the IRS will return to a worksheet similar to what follows for taxable yearsafter 1998 when the provision in section 2001 no longer applies.

**Appendix B:  IRS Forms Relating to Capital Gains and Losses**
pages 95 and 96 not available in electronic format

**Appendix C:  IRS Form Relating to Estimated Taxes****FOOTNOTES**
1.   This document may be cited as follows: Joint Committee on Taxation, *Overview ofPresent Law and Issues Relating to Individual Income Taxes* (JCX-18-99), April 14, 1999.
2.   Foreign tax credits generally are available against U.S. income tax imposed on foreignsource income to the extent of foreign income taxes paid on that income.

	A nonresident alien generally is subject to the U.S. individual income tax (at a 30-percentrate) only on income derived from sources within the United States and income that is effectivelyconnected with the conduct of a trade or business within the United States. 
3.   Code section 61. 
4.   Exceptions are amounts received from governmental or charitable organizations. 
5.   Code section 11. Such corporations generally are referred to as "C corporations"because the tax rules governing the relationship between such corporations and their shareholdersare found in subchapter C of the Code. 
6.   A small business corporation and its shareholders may elect to be treated in a mannersimilar to the treatment of a partnership and its partners. Such corporations generally are referredto as "S corporations" because the tax rules governing the treatment of such entities are found insubchapter S of the Code. 
7.   In addition, a single level of tax is accorded to certain investment vehicles (such asregulated investment companies, real estate investment trusts, real estate mortgage investmentconduits, and financial asset securitization investment trusts) under various statutory regimes. 
8.   Losses and tax credits from a pass-through entity generally may not be claimed by anindividual unless the individual is "at risk" with respect to, and "materially participates" in, theactivities of the entity (secs. 465 and 469). 
9.   In the case of payments with respect to a chronically ill individual, the exclusion maybe limited in certain circumstances.  
10.   Interest on the Federal Government's debt is taxable, but repayment is guaranteed bythe United States. With the exception of State and local government bonds guaranteed undercertain grandfathered programs that were in existence before 1985, interest on State and localgovernment bonds is not permitted to be both tax-exempt and Federally guaranteed.  
11.   Interest on private activity bonds is a preference item in calculating the individualalternative minimum tax.  
12.   State and local government bonds used to finance the acquisition of existing output(e.g., electric utility) property are treated as private activity bonds even if the property is to begovernmentally owned and operated, unless (1) the same service was provided to the area to beserved by the acquiring governmental entity during the 10-year period before the acquisition, or(2) the area to be served is contiguous to the annexing governmental unit, does not exceed 10percent of the service area of the acquirer, and is annexed in a qualifying annexation.  
13.   For further discussion of this issue, see Joint Committee on Taxation, *Description andAnalysis of Tax Proposals Relating to Individual Savings and IRAs* (JCS-2-97), March 3, 1997.  
14.   Early distribution of converted amounts may also accelerate income inclusion ofconverted amounts that are taxable under the 4-year rule applicable to 1998 conversions.
15.   Under present law, some individuals defer significant amounts of compensationpursuant to so-called nonqualified deferred compensation plans. These plans are not provided forunder specific Code provisions and are not subject to specific rules in the Code as aretax-qualified and similar plans discussed in the text. Rather, the deferral occurs pursuant to thegenerally applicable income tax rules, discussed above.  
16.   If the option itself had a fair market value, then the value of the option generally wouldbe includible in income.  
17.   "Indexed for inflation" generally refers to the present-law mechanism for inflationindexing. This measurement is made in reference to the Consumer Price Index ("CPI").   
18.   For 1999, the additional amount for married individuals is $850, while the additionalamount for single individuals and heads of households is $1,050.
19.   For more detailed discussion, see Joint Committee on Taxation, *Impact on State andLocal Governments and Tax-Exempt Organizations of Replacing the Federal Income Tax* (JCS-4-96), April 30, 1996.  
20.   This results in a maximum effective regular tax rate on qualified gain from smallbusiness stock of 14 percent.
21.   In the case of a married individual who files a joint return with his or her spouse, theincome for purposes of these tests is the combined income of the couple.
22.   Given the passage of section 469 by the Tax Reform Act of 1986 (relating to thedeductibility of losses from passive activities), these provisions are largely "deadwood."
23.   No adjustment is required if the taxpayer materially participates in the activity thatrelates to the research and experimental expenditures.
24.   For 1998 only, the nonrefundable personal credits were not limited by the tentativeminimum tax, and the refundable child credit was not reduced by the minimum tax.
25.   Both the House- and Senate-passed versions of H.R. 2014, the "Taxpayer Relief Act of1997," would have increased or indexed the exemption amounts of the individual AMT.However, the final conference agreement on H.R. 2014 as passed by the Congress and signed bythe President, did not contain any provision to change the AMT exemption amounts (P.L. 105-34, August 5, 1997).    
26.   The exemptions amounts are $45,000 in the case of married individuals filing a jointreturn and surviving spouses; $33,750 in the case of other unmarried individuals; and $22,500 inthe case of married individuals filing a separate return.
27.   The phase-out ranges are $150,000 to $330,000 of AMTI for married individuals filinga joint return and surviving spouses; $112,500 to $262,500 of AMTI for other unmarriedindividuals; and $75,000 to $165,000 of AMTI for married individuals filing singly.
28.   Payments to independent contractors may be subject to backup withholding undercertain circumstances (sec. 3406). 
29.   Section 6041(a). A number of exceptions to this requirement are provided in Treasuryregulations. In addition, to the extent the general information reporting requirements of thisprovision overlap specific information reporting requirements elsewhere in the Code, taxpayersare generally required to report only once, under the more specific information reportingprovision. 
30.   Section 6041(d). 
31.   See Table 11, in Part II.B., above.
32.   A copy of this worksheet is reproduced in Appendix A, below.
33.   For 1998 only, personal credits were not limited by the AMT.  A copy of Form 6251and instructions is reproduced in Appendix A, below.
34.   For gain of $10 million or less from a single qualifying small business stock, only 50percent of the qualifying gain is includible.  This creates an effective tax rate equal to 14 percent.
35.   See Table 6, in Part II.A.4, above, which shows the various capital gains rates thatapply to taxpayers in particular marginal and AMT tax rate brackets under present law.
36.   See Appendix B for a copy of the 1996 Schedule D and capital gain worksheet.
37.   See Appendix B for a copy of the 1998 Schedule D.
38.   For a detailed discussion of the effect of such provisions on marginal tax rates, seeJoint Committee on Taxation, *Present Law and Analysis Relating to Individual EffectiveMarginal Tax Rates*(JCS-3-98), February 3, 1998.
39.   In addition to applying differently to various types of retirement savings arrangements,the minimum distribution rules are themselves complex.  These rules govern not only the timingof lifetime distributions (except in the case of Roth IRAs), but also post-death distributions. Failure to comply with the minimum distribution rules can result in the imposition of an excisetax of 50 percent of the amount that should have been distributed but was not. 
40.  A special rule exists under section 6621(b)(2)(B), which provides that the Federalshort-term rate which applies during the third month following the taxable year shall also applyduring the first 15 days of the fourth month following such taxable year.************************