29–010 

Calendar No. 498 

108TH CONGRESS REPORT " ! SENATE 2d Session 108–257 

TAX ADMINISTRATION GOOD GOVERNMENT ACT 

MAY 4, 2004.—Ordered to be printed 

Mr. GRASSLEY, from the Committee on Finance, 

submitted the following 

R E P O R T 

[To accompany S. 882] 

The Committee on Finance, to which was referred the bill (S. 

882) to amend the Internal Revenue Code of 1986 to provide improvements in tax administration and taxpayer safeguards, and for 

other purposes, reports favorably thereon with an amendment in 

the nature of a substitute and recommends that the bill, as amended, do pass. 

CONTENTS 

Page 

I. Legislative Background .................................................................................... 5 

Title I.—Improvements in Tax Administration and Taxpayer Safeguards 5 

A. Improve Efficiency and Safeguards in IRS Collection ...................... 5 

1. Waiver of user fee for installment agreements using automated withdrawals (sec. 101 of the bill and sec. 6159 of 

the Code) ...................................................................................... 5 

2. Authorize IRS to enter into installment agreements that provide for partial payment (sec. 102 of the bill and sec. 6159 

of the Code) .................................................................................. 6 

3. Termination of installment agreements (sec. 103 of the bill 

and sec. 6159 of the Code) .......................................................... 7 

4. Office of Chief Counsel review of offers-in-compromise (sec. 

104 of the bill and sec. 7122 of the Code) ................................. 8 

5. Permit the IRS to require increased electronic filing of returns 

prepared by paid return preparers (sec. 105 of the bill and 

sec. 6011 of the Code) ................................................................. 9 

6. Place threshold on tolling of statute of limitations during 

review by Taxpayer Advocate Service (sec. 106 of the bill 

and sec. 7811 of the Code) .......................................................... 9 

7. Increase in penalty for bad checks and money orders (sec. 

107 of the bill and sec. 6657 of the Code) ................................. 10 

8. Extend time limit for contesting IRS levy (sec. 108 of the 

bill and sec. 6343 of the Code) ................................................... 10 

2 

9. Individuals held harmless on improper levy on individual retirement plan (sec. 109 of the bill and sec. 6343 of the 

Code) ............................................................................................ 11 

10. Allow the Financial Management Service to retain transaction fees from levied amounts (sec. 110 of the bill) .............. 12 

11. Elimination on restriction on offsetting refunds from former 

residents (sec. 111 of the bill and sec. 6402 of the Code) ........ 13 

B. Processing and Personnel .................................................................... 13 

1. Information regarding statute of limitations (sec. 121 of the 

bill) ............................................................................................... 13 

2. Annual report on IRS performance measures (sec. 122 of the 

bill and sec. 7803 of the Code) ................................................... 14 

3. Disclosure of tax information to facilitate combined employment tax reporting (sec. 123 of the bill and sec. 6103 of 

the Code) ...................................................................................... 15 

4. Extension of declaratory judgment procedures to non–501(c)(3) 

tax-exempt organizations (sec. 124 of the bill and sec. 7428 

of the Code) .................................................................................. 16 

5. Amendment to Treasury auction reforms (sec. 125 of the bill 

and sec. 202 of the Government Securities Act Amendments 

of 1993) ........................................................................................ 18 

6. Revisions relating to termination of employment of IRS employees for misconduct (sec. 126 of the bill and new sec. 

7804A of the Code) ...................................................................... 18 

7. Expand IRS Oversight Board authority (sec. 127 of the bill 

and sec. 7802 of the Code) .......................................................... 19 

8. IRS Oversight Board approval of use of critical pay authority 

(sec. 128 of the bill and sec. 7802 of the Code) ......................... 21 

9. Low-income taxpayer clinics (sec. 129 of the bill and new 

sec. 7526A of the Code) .............................................................. 21 

10. Taxpayer access to financial institutions (sec. 130 of the 

bill) ............................................................................................... 22 

11. Enrolled agents (sec. 131 of the bill and new sec. 7529 of 

the Code) ...................................................................................... 23 

12. Establishment of disaster response team (sec. 132 of the 

bill and sec. 7803 of the Code) ................................................... 23 

13. Study of accelerated tax refunds (sec. 133 of the bill) ............. 24 

14. Study of clarifying recordkeeping responsibilities (sec. 134 

of the bill) .................................................................................... 24 

15. Streamline reporting process for National Taxpayer Advocate 

(sec. 135 of the bill and sec. 7803 of the Code) ......................... 25 

16. IRS Free File program (sec. 136 of the bill) .............................. 26 

17. Modification of TIGTA reporting requirements (sec. 137 of 

the bill and sec. 7803 of the Code) ............................................ 26 

18. Study of IRS accounts receivable (sec. 138 of the bill) ............. 27 

19. Electronic commerce advisory group (sec. 139 of the bill and 

sec. 2001 of the Internal Revenue Service Restructuring and 

Reform Act of 1998) .................................................................... 28 

20. Study of modifications to Schedules L and M–1 (sec. 140 

of the bill) .................................................................................... 28 

21. Regulation of Federal income tax return preparers and refund anticipation loan providers (sec. 141 of the bill and 

new sec. 7530 of the Code) ......................................................... 30 

C. Other Provisions .................................................................................. 31 

1. Penalty for failure to report interests in foreign financial accounts (sec. 151 of the bill and sec. 5321 of Title 31, United 

States Code) ................................................................................. 31 

2. Repeal of application of below-market loan rules to amounts 

paid to certain continuing care facilities (sec. 152 of the 

bill and sec. 7872 of the Code) ................................................... 32 

Title II.—Reform of Penalty and Interest ...................................................... 35 

A. Individual Estimated Tax (sec. 201 of the bill and sec. 6654 of 

the Code) ............................................................................................. 35 

1. Increase estimated tax threshold ................................................. 35 

2. Apply one interest rate per estimated tax underpayment period for individuals, estates, and trusts .................................... 36 

3. Provide that underpayment balances are cumulative ............... 36 

3 

4. Require 365-day year for all estimated tax interest calculations for individuals, estates, and trusts .................................. 37 

B. Corporate Estimated Tax (sec. 202 of the bill and sec. 6655 of 

the Code) ............................................................................................. 38 

C. Increase in Large Corporation Threshold for Estimated Tax Payments (sec. 203 of the bill and sec. 6655 of the Code) .................... 38 

D. Abatement of Interest (sec. 204 of the bill and sec. 6404 of the 

Code) ................................................................................................... 39 

E. Deposits Made To Suspend the Running of Interest on Potential 

Underpayments (sec. 205 of the bill and new sec. 6603 of the 

Code) ................................................................................................... 41 

F. Freeze of Provision Regarding Suspension of Interest Where Secretary Fails To Contact Taxpayer (sec. 206 of the bill and sec. 

6404 of the Code) ................................................................................ 44 

G. Clarification of Application of Federal Tax Deposit Penalty (sec. 

207 of the bill) .................................................................................... 45 

H. Frivolous Tax Returns and Submissions (sec. 208 of the bill and 

sec. 6702 of the Code) ........................................................................ 45 

I. Extension of Notice Requirements With Respect to Interest and 

Penalty Calculations (sec. 209 of the bill and secs. 3306 and 

3308 of the Internal Revenue Service Restructuring and Reform 

Act of 1998) ......................................................................................... 46 

J. Expansion of Interest Netting (sec. 210 of the bill and sec. 6621 

of the Code) ......................................................................................... 47 

Title III.—United States Tax Court Modernization ...................................... 48 

A. Consolidate Review of Collection Due Process Cases in the Tax 

Court (sec. 301 of the bill and sec. 6330 of the Code) ..................... 48 

B. Extend Authority for Special Trial Judges To Hear and Decide 

Certain Employment Status Cases (sec. 302 of the bill and sec. 

7443A of the Code) ............................................................................. 49 

C. Confirmation of Tax Court Authority To Apply Equitable 

Recoupment (sec. 303 of the bill and sec. 6214 of the Code) .......... 50 

D. Tax Court Filing Fee (sec. 304 of the bill and sec. 7451 of the 

Code) ................................................................................................... 51 

E. Appointment of Tax Court Employees (sec. 305 of the bill and 

sec. 7471(a) of the Code) .................................................................... 51 

F. Use of Practitioner Fee (sec. 306 of the bill and sec. 7475 of 

the Code) ............................................................................................. 53 

G. Tax Court Pension and Compensation .............................................. 54 

1. Judges of the Tax Court (secs. 311–317 and 323 of the bill 

and secs. 7443, 7447, 7448, and 7472 of the Code) .................. 54 

2. Special trial judges of the Tax Court (secs. 318–323 of the 

bill and sec. 7448 and new secs. 7443A, 7443B, and 7443C 

of the Code) .................................................................................. 56 

Title IV.—Confidentiality and Disclosure ...................................................... 59 

A. Clarification of Definition of Church Tax Inquiry (sec. 401 of 

the bill and sec. 7611 of the Code) .................................................... 59 

B. Collection Activities with Respect to a Joint Return Disclosable 

to Either Spouse Based on Oral Request (sec. 402 of the bill 

and sec. 6103 of the Code) ................................................................. 60 

C. Taxpayer Representatives Not Subject to Examination on Sole 

Basis of Representation of Taxpayers (sec. 403 of the bill and 

sec. 6103 of the Code) ........................................................................ 61 

D. Prohibition of Disclosure of Taxpayer Identification Information 

With Respect to Disclosure of Accepted Offers-in-Compromise 

(sec. 404 of the bill and sec. 6103 of the Code) ................................ 62 

E. Compliance by Contractors With Confidentiality Safeguards (sec. 

405 of the bill and sec. 6103 of the Code) ........................................ 63 

F. Higher Standards for Requests for and Consents to Disclosure 

(sec. 406 of the bill and sec. 6103 of the Code) ................................ 65 

G. Civil Damage Remedies for Unauthorized Disclosure or Inspection 

(sec. 407 of the bill and sec. 7431 of the Code) ................................ 68 

H. Expanded Disclosure in Emergency Circumstances (sec. 408 of 

the bill and sec. 6103 of the Code) .................................................... 70 

I. Disclosure of Taxpayer Identity for Tax Refund Purposes (sec. 

409 of the bill and sec. 6103 of the Code) ........................................ 70 

4 

J. Disclosure to State Officials of Proposed Actions Related to Section 

501(c) Organizations (sec. 410 of the bill and sec. 6104 of the 

Code) ................................................................................................... 71 

K. Treatment of Public Records (sec. 411 of the bill and sec. 6103 

of the Code) ......................................................................................... 74 

L. Employee Identity Disclosures (sec. 412 of the bill and sec. 6103 

of the Code) ......................................................................................... 75 

M. Taxpayer Identification Number Matching (sec. 413 of the bill 

and sec. 6103 of the Code) ................................................................. 77 

N. Form 8300 Disclosures (sec. 414 of the bill and sec. 6103 of 

the Code) ............................................................................................. 77 

O. Disclosure to Law Enforcement Agencies Regarding Terrorist Activities (sec. 415 of the bill and sec. 6103 of the Code) ................... 78 

Title V.—Simplification .................................................................................... 79 

A. Establish Uniform Definition of a Qualifying Child (secs. 501 

through 508 of the bill and secs. 2, 21, 24, 32, 151, and 152 

of the Code) ......................................................................................... 79 

B. Simplification Through Elimination of Inoperative Provisions (sec. 

511 of the bill) .................................................................................... 89 

Title VI.—Revenue Raisers .............................................................................. 90 

A. Provisions Designed to Curtail Tax Shelters .................................... 90 

1. Penalty for failing to disclose reportable transaction (sec. 601 

of the bill and sec. 6707A of the Code) ...................................... 90 

2. Accuracy-related penalty for listed transactions and other reportable transactions having a significant tax avoidance purpose (sec. 602 of the bill and sec. 6662A of the Code) .............. 93 

3. Modifications of substantial understatement penalty for nonreportable transactions (sec. 603 of the bill and sec. 6662 

of the Code) .................................................................................. 97 

4. Tax shelter exception to confidentiality privileges relating to 

taxpayer communications (sec. 604 of the bill and sec. 7525 

of the Code) .................................................................................. 98 

5. Disclosure of reportable transactions (sec. 605 of the bill and 

secs. 6111 and 6707 of the Code) ............................................... 99 

6. Modification of penalties for failure to register tax shelters 

or maintain lists of investors (secs. 606 and 607 of the bill 

and secs. 6707 and 6708 of the Code) ....................................... 102 

7. Modification of actions to enjoin certain conduct related to 

tax shelters and reportable transactions (sec. 608 of the bill 

and sec. 7408 of the Code) .......................................................... 104 

8. Understatement of taxpayer’s liability by income tax return 

preparer (sec. 609 of the bill and sec. 6694 of the Code) ......... 104 

9. Regulation of individuals practicing before the Department 

of Treasury (sec. 610 of the bill and sec. 330 of Title 31, 

United States Code) .................................................................... 105 

10. Penalty on promoters of tax shelters (sec. 611 of the bill 

and sec. 6700 of the Code) .......................................................... 106 

11. Statute of limitations for taxable years for which required 

listed transactions not disclosed (sec. 612 of the bill and 

sec. 6501 of the Code) ................................................................. 107 

12. Denial of deduction for interest on underpayments attributable to tax-motivated transactions (sec. 613 of the bill 

and sec. 163 of the Code) ............................................................ 108 

13. Authorization of appropriations for tax law enforcement (sec. 

614 of the bill) ............................................................................. 109 

B. Other Corporate Governance Provisions ........................................... 109 

1. Affirmation of consolidated return regulation authority (sec. 

621 of the bill and sec. 1502 of the Code) ................................. 109 

2. Chief Executive Officer required to sign declaration with respect to corporate income tax returns (sec. 622 of the bill) ..... 113 

3. Denial of deduction for certain fines, penalties, and other 

amounts (sec. 623 of the bill and sec. 162 of the Code) ........... 115 

4. Denial of deduction for punitive damages (sec. 624 of the 

bill and sec. 162 of the Code) ..................................................... 117 

5. Increase the maximum criminal fraud penalty for individuals 

to the amount of the tax at issue (sec. 625 of the bill and 

secs. 7201, 7203, and 7206 of the Code) .................................... 118 

5 

6. Doubling of certain penalties, fines, and interest on underpayments related to certain offshore financial arrangements 

(sec. 626 of the bill) ..................................................................... 120 

C. Extension of IRS User Fees (sec. 631 of the bill and sec. 7528 

of the Code) ......................................................................................... 123 

II. Budget Effects of the Bill ................................................................................. 124 

A. Committee Estimates .......................................................................... 124 

B. Budget Authority and Tax Expenditures .......................................... 130 

C. Consultation With Congressional Budget Office ............................... 130 

III. Votes of the Committee .................................................................................... 130 

IV. Regulatory Impact and Other Matters ........................................................... 130 

A. Regulatory Impact ............................................................................... 130 

B. Unfunded Mandates Statement .......................................................... 131 

C. Tax Complexity Analysis ..................................................................... 131 

V. Changes in Existing Law Made by the Bill as Reported .............................. 131 

I. LEGISLATIVE BACKGROUND 

Overview 

The Senate Committee on Finance marked up S. 882, the ‘‘Tax 

Administration Good Government Act,’’ on February 2, 2004, and 

ordered the bill, with an amendment in the nature of a substitute, 

favorably reported by voice vote. 

Hearings 

During the 108th Congress, the Committee held hearings on various topics relating to the provisions of the bill, as follows: • October 21, 2003, Tax Shelters: Who’s Buying, Who’s Selling 

and What’s the Government Doing About It? • May 20, 2003, Joint Review of the Strategic Plans and Budget 

of the Internal Revenue Service, 2003. • April 1, 2003, Taxpayer Alert: Choosing a Paid Preparer and 

the Pitfalls of Charitable Car Donation. • February 13, 2003, Enron: The Joint Committee on Taxation’s 

Investigative Report. 

During the 107th Congress, the Committee held hearings on various topics relating to the provisions of the bill, as follows: • May 14, 2002, Joint Review of the Strategic Plans and Budget 

of the Internal Revenue Service, 2002. • April 11, 2002, Schemes, Scams and Cons, Part II: The IRS 

Strikes Back. • March 21, 2002, Corporate Tax Shelters: Looking Under the 

Roof. • May 8, 2001, Joint Review of the Strategic Plans and Budget 

of the Internal Revenue Service, 2001. • April 5, 2001, Oversight of the Internal Revenue Service ‘‘Taxpayer Beware: Schemes, Scams and Cons.’’ 

TITLE I.—IMPROVEMENTS IN TAX ADMINISTRATION AND 

TAXPAYER SAFEGUARDS 

A. IMPROVE EFFICIENCY AND SAFEGUARDS IN IRS COLLECTION

1. Waiver of user fee for installment agreements using automated 

withdrawals (sec. 101 of the bill and sec. 6159 of the Code) 

PRESENT LAW

The Code authorizes the IRS to enter into written agreements 

with any taxpayer under which the taxpayer is allowed to pay 

6 

1See Form 9465; Treas. Reg. see. 300.1. 

taxes owed, as well as interest and penalties, in installment payments if the IRS determines that doing so will facilitate collection 

of the amounts owed (sec. 6159). An installment agreement does 

not reduce the amount of taxes, interest, or penalties owed. Generally, during the period installment payments are being made, 

other IRS enforcement actions (such as levies or seizures) with respect to the taxes included in that agreement are held in abeyance. The IRS charges a $43 user fee if a request for an installment 

agreement is approved.1

REASONS FOR CHANGE

The Committee believes that it improves collection results if taxpayers utilize automated installment payment mechanisms. Automated installment payment mechanisms provide efficiencies in 

processing and promote timely payment. The Committee believes 

that waiving this user fee for taxpayers who utilize automated installment payment mechanisms will encourage more taxpayers to 

utilize them. 

EXPLANATION OF PROVISION

The provision waives the user fee for installment agreements in 

which automated installment payments (such as automated debits 

from a bank account) are agreed to. 

EFFECTIVE DATE

The provision is effective for agreements entered into on or after 

180 days after the date of enactment. 

2. Authorize IRS to enter into installment agreements that provide 

for partial payment (sec. 102 of the bill and sec. 6159 of the 

Code) 

PRESENT LAW

The Code authorizes the IRS to enter into written agreements 

with any taxpayer under which the taxpayer is allowed to pay 

taxes owed, as well as interest and penalties, in installment payments if the IRS determines that doing so will facilitate collection 

of the amounts owed (sec. 6159). An installment agreement does 

not reduce the amount of taxes, interest, or penalties owed. Generally, during the period installment payments are being made, 

other IRS enforcement actions (such as levies or seizures) with respect to the taxes included in that agreement are held in abeyance. 

Prior to 1998, the IRS administratively entered into installment 

agreements that provided for partial payment (rather than full 

payment) of the total amount owed over the period of the agreement. In that year, the IRS Chief Counsel issued a memorandum 

concluding that partial payment installment agreements were not 

permitted. 

REASONS FOR CHANGE

According to the Department of the Treasury, at the end of fiscal 

year 2003, the IRS had not pursued 2.25 million cases totaling 

more than $16.5 billion in delinquent taxes. The Committee beVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00006 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
7 

2Sec. 6159(b)(1). 

3Sec. 6159(b)(2), (3), and (4). 

lieves that clarifying that the IRS is authorized to enter into installment agreements with taxpayers that do not provide for full 

payment of the taxpayer’s liability over the life of the agreement 

will improve effective tax administration. 

The Committee recognizes that some taxpayers are unable or unwilling to enter into a realistic offer-in-compromise. The Committee 

believes that these taxpayers should be encouraged to make partial 

payments toward resolving their tax liability, and that providing 

for partial payment installment agreements will help facilitate this. 

The Committee also believes, however, that the offer-in-compromise 

program should remain the sole avenue via which taxpayers fully 

resolve their tax liabilities and attain a fresh start. 

EXPLANATION OF PROVISION

The provision clarifies that the IRS is authorized to enter into installment agreements with taxpayers which do not provide for full 

payment of the taxpayer’s liability over the life of the agreement. 

The provision also requires the IRS to review partial payment installment agreements at least every two years. The primary purpose of this review is to determine whether the financial condition 

of the taxpayer has significantly changed so as to warrant an increase in the value of the payments being made. 

EFFECTIVE DATE

The provision is effective for installment agreements entered into 

on or after the date of enactment. 

3. Termination of installment agreements (sec. 103 of the bill and 

sec. 6159 of the Code) 

PRESENT LAW

The Code authorizes the IRS to enter into written agreements 

with any taxpayer under which the taxpayer is allowed to pay 

taxes owed, as well as interest and penalties, in installment payments, if the IRS determines that doing so will facilitate collection 

of the amounts owed (sec. 6159). An installment agreement does 

not reduce the amount of taxes, interest, or penalties owed. Generally, during the period installment payments are being made, 

other IRS enforcement actions (such as levies or seizures) with respect to the taxes included in that agreement are held in abeyance. 

Under present law, the IRS is permitted to terminate an installment agreement only 2 if: (1) the taxpayer fails to pay an installment at the time the payment is due; (2) the taxpayer fails to pay 

any other tax liability at the time when such liability is due; (3) 

the taxpayer fails to provide a financial condition update as required by the IRS; (4) the taxpayer provides inadequate or incomplete information when applying for an installment agreement; (5) 

there has been a significant change in the financial condition of the 

taxpayer; or (6) the collection of the tax is in jeopardy.3

8 

4Failure to timely make a required Federal tax deposit is not considered to be a failure to 

pay any other tax liability at the time such liability is due under section 6159(b)(4)(B) because 

liability for tax generally does not accrue until the end of the taxable period, and deposits are 

required to be made prior to that date (sec. 6302). 

REASONS FOR CHANGE

The Committee believes that taxpayers who are permitted to pay 

their previous tax obligations through an installment agreement 

should also be required to remain current with their Federal tax 

obligations. The Committee believes that giving the IRS the authority to terminate installment agreements in additional circumstances will improve the operation of the installment agreement process and enhance tax compliance. 

EXPLANATION OF PROVISION

The provision grants the IRS authority to terminate an installment agreement when a taxpayer fails to timely make a required 

Federal tax deposit 4 or fails to timely file a tax return (including 

extensions). The termination could occur even if the taxpayer remained current with payments under the installment agreement. 

EFFECTIVE DATE

The provision is effective for failures occurring on or after the 

date of enactment. 

4. Office of Chief Counsel review of offers-in-compromise (sec. 104 

of the bill and sec. 7122 of the Code) 

PRESENT LAW

The IRS has the authority to settle a tax debt pursuant to an 

offer-in-compromise. IRS regulations provide that such offers can 

be accepted if the taxpayer is unable to pay the full amount of the 

tax liability and it is doubtful that the tax, interest, and penalties 

can be collected or there is doubt as to the validity of the actual 

tax liability. Amounts of $50,000 or more can only be accepted if 

the reasons for the acceptance are documented in detail and supported by a written opinion from the IRS Chief Counsel (sec. 7122). 

REASONS FOR CHANGE

Many offers-in-compromise cases do not present any significant 

legal issues, and the required legal review for cases meeting the 

statutory threshold can delay the acceptance process under current 

administrative procedures. The Committee believes that eliminating this threshold requiring review will permit the IRS to focus 

its review resources on the most important cases, regardless of dollar value. 

EXPLANATION OF PROVISION

The provision repeals the requirement that an offer-in-compromise of $50,000 or more must be supported by a written opinion 

from the Office of Chief Counsel. Written opinions must only be 

provided if the Secretary determines that an opinion is required 

with respect to a compromise. 

9 

5Sec. 6011(e). 

6Partnerships with more than 100 partners are required to file electronically. 

EFFECTIVE DATE

The provision applies to offers-in-compromise submitted or pending on or after the date of enactment. 

5. Permit the IRS to require increased electronic filing of returns 

prepared by paid return preparers (sec. 105 of the bill and sec. 

6011 of the Code) 

PRESENT LAW

The Code authorizes the IRS to issue regulations specifying 

which returns must be filed electronically.5 There are several limitations on this authority. First, it can only apply to persons required to file at least 250 returns during the year.6 Second, the IRS 

is prohibited from requiring that income tax returns of individuals, 

estates, and trusts be submitted in any format other than paper 

(although these returns may by choice be filed electronically). 

REASONS FOR CHANGE

The Congress set a goal for the IRS to have 80 percent of tax returns filed electronically by 2007. The Committee understands that 

an overwhelming number of tax returns are already prepared electronically. Thus, the Committee believes that expanding the scope 

of returns that are prepared by paid return preparers and that are 

required to be filed electronically is necessary for the IRS to meet 

the 80 percent goal set by the Congress and will improve tax administration. 

EXPLANATION OF PROVISION

The provision permits the IRS to expand the scope of returns 

that are prepared by paid return preparers and that are required 

to be filed electronically by removing the present-law restrictions 

relating to the types of tax returns required to be filed electronically and by lowering the number of returns that trigger the requirement to file electronically to five. The Committee expects the 

IRS to expand the types of forms and schedules that may be filed 

electronically to permit full implementation of this provision. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

6. Place threshold on tolling of statute of limitations during review 

by Taxpayer Advocate Service (sec. 106 of the bill and sec. 

7811 of the Code) 

PRESENT LAW

Taxpayers suffering significant hardship may request that the 

Office of the Taxpayer Advocate issue a Taxpayer Assistance 

Order, which requires the IRS to take (or refrain from taking) specified actions (sec. 7811). The statute of limitations is suspended for 

the period beginning on the date of the taxpayer’s application and 

ending on the date of the decision by the National Taxpayer Advocate. 

10 

7Sec. 6657. 

REASONS FOR CHANGE

The Committee believes that the administration of this suspension of the statute of limitations adds unnecessary complexity to 

the Taxpayer Assistance Order process when the National Taxpayer Advocate renders a decision within a short period of time. 

The Committee believes the Taxpayer Assistance Order process 

would be improved by disregarding relatively short periods of review by the Taxpayer Advocate. 

EXPLANATION OF PROVISION

The provision modifies this suspension of statute of limitations 

by applying it only if the date of the decision by the National Taxpayer Advocate is at least 7 days after the date of the taxpayer’s 

application. 

EFFECTIVE DATE

The provision is effective for applications filed after the date of 

enactment. 

7. Increase in penalty for bad checks and money orders (sec. 107 

of the bill and sec. 6657 of the Code) 

PRESENT LAW

The Code7 imposes a penalty for bad checks and money orders 

on the person who tendered it. The penalty is two percent of the 

amount of the bad check or money order. The minimum penalty is 

$15 (or, if less, the amount of the check), applicable to checks that 

are less than $750. 

REASONS FOR CHANGE

The Committee believes that it is appropriate to increase the 

minimum amount of this penalty so that it is more consistent with 

amounts charged by the private sector for bad checks. 

EXPLANATION OF PROVISION

The provision increases the minimum penalty to $25 (or, if less, 

the amount of the check), applicable to checks that are less than 

$1,250. 

EFFECTIVE DATE

The provision applies to checks or money orders received after 

the date of enactment. 

8. Extend time limit for contesting IRS levy (sec. 108 of the bill and 

sec. 6343 of the Code) 

PRESENT LAW

The IRS is authorized to return property that has been wrongfully or mistakenly levied upon (sec. 6343). In general, monetary 

proceeds may be returned within 9 months of the date of the levy. 

11 

REASONS FOR CHANGE

The Committee understands that in many cases this 9-month period may be insufficient for taxpayers or third parties to discover 

a wrongful or mistaken levy and seek to remedy it. Accordingly, the 

Committee believes it is appropriate to provide for a longer period 

of time within which a person may contest a wrongful IRS levy. 

EXPLANATION OF PROVISION

The provision extends this 9-month period to 2 years. 

EFFECTIVE DATE

The provision is effective with respect to: (1) Levies made after 

the date of enactment; and (2) levies made on or before the date 

of enactment provided that the 9-month period has not expired as 

of the date of enactment. 

9. Individuals held harmless on improper levy on individual retirement plan (sec. 109 of the bill and sec. 6343 of the Code) 

PRESENT LAW

Distributions from an individual retirement arrangement (‘‘IRA’’) 

made on account of an IRS levy are includible in the gross income 

of the individual under the rules applicable to the IRA subject to 

the levy. Thus, in the case of a traditional IRA, the amount distributed as a result of a levy is includible in gross income except to 

the extent such amount represents a return of nondeductible contributions (i.e., basis). In the case of a Roth IRA, earnings on a distribution are excludable from gross income if the distribution is 

made: (1) After the five-taxable year period beginning with the first 

taxable year for which the individual made a contribution to a Roth 

IRA; and (2) after attainment of age 591⁄2 or on account of certain 

other circumstances. Amounts withdrawn from an IRA due to a 

levy are not subject to the 10 percent early withdrawal tax, regardless of whether the amount is includible in income. 

Present law provides rules under which the IRS returns amounts 

subject to an incorrect levy. For example, amounts withdrawn from 

an IRA pursuant to a levy are returned to the individual owning 

the IRA in the case of a wrongful levy or if the levy was not in accordance with IRS administrative procedures. In the case of a 

wrongful levy, the IRS is required to pay interest on the amount 

returned to the individual at the overpayment rate. The IRS is not 

required to pay interest if the levy was not in accordance with IRS 

administrative procedures. 

Present law does not provide special rules to allow an individual 

to recontribute to an IRA amounts withdrawn from an IRA pursuant to a levy and later returned to the individual by the IRS (or 

interest thereon). Thus, if an individual wishes to contribute such 

returned amounts to an IRA, the contribution is subject to the normally applicable rules for IRA contributions. 

REASONS FOR CHANGE

IRA assets provide an important source of retirement income for 

many Americans. Under present law, if the IRS improperly levies 

on an IRA, the individual owning the IRA may not be made whole, 

12 

even if the IRS returns the amount levied, with interest, because 

the individual may lose the opportunity to have those funds accumulate on a tax-favored basis until retirement. The Committee believes that improper levies should not reduce retirement income security for IRA owners. Thus, the Committee bill provides that IRA 

funds that are withdrawn pursuant to an improper IRS levy and 

returned by the IRS may be recontributed to the IRA. 

EXPLANATION OF PROVISION

Under the provision, an individual is able to recontribute to an 

IRA amounts withdrawn pursuant to a levy and returned by the 

IRS (and any interest thereon) within 60 days of receipt by the individual, without regard to the normally applicable limits on IRA 

contributions and rollovers. The provision applies to levied 

amounts returned to the individual because the levy (1) was wrongful or (2) is determined to be premature or otherwise not in accordance with administrative procedures. The contribution has to be 

made to the same type of IRA from which the amounts were withdrawn. 

Under the provision, the IRS is required to pay interest on 

amounts returned to the individual at the overpayment rate in the 

case of a levy that is determined to be premature or otherwise not 

in accordance with administrative procedures (as well as in the 

case of a wrongful levy under present law). Interest paid by the 

IRS on the amount returned to the individual and contributed to 

the IRA is treated as part of the distribution made from the IRA 

on account of the levy and is not includible in gross income. In addition, any tax attributable to an amount distributed from an IRA 

by reason of a levy is abated if the amount is recontributed to an 

IRA pursuant to the provision. 

EFFECTIVE DATE

The provision is effective for levied amounts (and interest thereon) returned to individuals after December 31, 2004. 

10. Allow the Financial Management Service to retain transaction 

fees from levied amounts (sec. 110 of the bill) 

PRESENT LAW

To facilitate the collection of tax, the IRS can generally levy upon 

all property and rights to property of a taxpayer (sec. 6331). With 

respect to specified types of recurring payments, the IRS may impose a continuous levy of up to 15 percent of each payment, which 

generally continues in effect until the liability is paid (sec. 6331(h)). 

Continuous levies imposed by the IRS on specified Federal payments are administered by the Financial Management Service 

(FMS) of the Department of the Treasury. FMS is generally responsible for making most non-defense related Federal payments. FMS 

is required to charge the IRS for the costs of developing and operating this continuous levy program. The IRS pays these FMS 

charges out of its appropriations. 

REASONS FOR CHANGE

The Committee believes that altering the bookkeeping structure 

of these costs will provide for cost savings to the government. 

13 

8Sec. 6402. 

EXPLANATION OF PROVISION

The provision allows FMS to retain a portion of the levied funds 

as payment of these FMS fees. The amount credited to the taxpayer’s account would not, however, be reduced by this fee. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

11. Elimination on restriction on offsetting refunds from former 

residents (sec. 111 of the bill and sec. 6402 of the Code) 

PRESENT LAW

Overpayments of Federal tax may be used to pay past-due child 

support and debts owed to Federal agencies, without the consent 

of the taxpayer.8 Overpayments of Federal tax may also be used to 

pay specified past-due, legally enforceable State income tax debts, 

provided that the person making the Federal tax overpayment has 

shown on the Federal tax return for the taxable year of the overpayment an address that is within the State seeking the tax offset. 

REASONS FOR CHANGE

The Committee understands that the current refund procedure 

has proven an effective collection tool for State governments. The 

Committee believes that eliminating unnecessary restrictions on 

this program will improve the ability of States to collect past-due, 

legally enforceable State income tax debts. 

EXPLANATION OF PROVISION

The provision eliminates the requirement that the person making the Federal tax overpayment show on the Federal tax return 

for the taxable year of the overpayment an address that is within 

the State seeking the tax offset. Accordingly, States may seek to 

offset refunds from residents of their own State as well as any 

other State to collect specified past-due, legally enforceable State 

income tax debts. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

B. PROCESSING AND PERSONNEL

1. Information regarding statute of limitations (sec. 121 of the bill) 

PRESENT LAW

In general, a taxpayer must file a refund claim within three 

years of the filing of the return or within two years of the payment 

of the tax, whichever period expires later (if no return is filed, the 

two-year limit applies). A refund claim that is not filed within 

these time periods is rejected as untimely. 

A special rule applies during periods of disability. Equitable tolling of the statute of limitations for refund claims of an individual 

taxpayer applies during any period in which an individual is unVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00013 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
14 

able to manage his or her financial affairs by reason of a medically 

determinable physical or mental impairment that can be expected 

to result in death or to last for a continuous period of not less than 

12 months. Equitable tolling does not apply during periods in 

which the taxpayer’s spouse or another person is authorized to act 

on the taxpayer’s behalf in financial matters. 

There is no requirement that IRS publications contain information that both describes this statute of limitations provision and explains the consequences of failing to file within the time period prescribed by the statute of limitations. 

REASONS FOR CHANGE

Some taxpayers who are due refunds fail to file tax returns by 

the due date. Several years later they realize that they owe additional taxes to the IRS for that later year and attempt to offset the 

amount that they owe against the refund that they were due for 

the earlier year. They are unable to do so, however, if their claim 

for the refund is filed beyond the statutorily specified deadline. The 

Committee recognizes that, in general, statutes of limitations promote important policy goals of repose and certainty. The Committee also believes that it is important that taxpayers be adequately informed of the operation of these provisions so that they 

are not inadvertently disadvantaged by consequences that they did 

not foresee. 

EXPLANATION OF PROVISION

The provision requires the IRS to revise Publication 1 (‘‘Your 

Rights as a Taxpayer’’) by adding an explanation of the consequences of failing to file within the time period prescribed by the 

statute of limitations to the section on refunds that describes the 

statute of limitations. The provision also requires the IRS to revise 

the instructions that accompany all of the Form 1040 packages (including 1040A and 1040EZ) in a similar manner to add a description of this statute of limitations and an explanation of the consequences of failing to file within the time period prescribed by the 

statute of limitations. 

EFFECTIVE DATE

The revisions to Publication 1 are required to be made as soon 

as practicable, but not later than 180 days after the date of enactment. The revisions to the Form 1040 instructional packages are 

required to be made for instructions for taxable years beginning 

after December 31, 2004. 

2. Annual report on IRS performance measures (sec. 122 of the bill 

and sec. 7803 of the Code) 

PRESENT LAW

There is no specific statutory requirement that the IRS Commissioner provide annual reports on performance measures. 

REASONS FOR CHANGE

In the 2002 Report of the IRS Oversight Board: Assessment of 

the IRS and the Tax System, the IRS set forth the current state 

15 

9Sec. 976; P.L. 105–34; August 5, 1997. 

of the IRS, the tax administration system, as well as the opportunities and challenges that the agency faces. The Committee believes 

that such a report provided on an annual basis will meet several 

needs, including: (1) it will assist Congress in holding the IRS and 

the IRS Commissioner accountable, (2) it will give senior management an opportunity to state publicly, and in concrete terms, the 

agency’s performance goals, and (3) it will serve as a useful reference guide for IRS stakeholders. The Committee believes that requiring the IRS to report on performance measures, levels, and 

goals, will improve the administration of the tax system. 

EXPLANATION OF PROVISION

The provision statutorily requires that the IRS Commissioner 

provide annual reports, on a fiscal year basis, to the IRS Oversight 

Board and to the Congress on performance measures. The report 

must include specific target performance goals (including volume 

projections) for a five-year period against which to measure the 

IRS’s performance. For each performance goal, the report must include comparisons between the target performance level and the 

actual performance level. The report must include a narrative explaining how the IRS plans to meet each performance goal. If the 

IRS fails to meet a performance goal, the IRS must explain why. 

In general, the performance goals must cover the following areas: 

public evaluation of the IRS, customer service, compliance, and 

management initiatives. The report must also include a narrative 

regarding the level of the IRS workload and the resources available 

to IRS. The report is due by December 31 of each year, covering 

the preceding fiscal year. 

EFFECTIVE DATE

The provision is effective for fiscal year 2004 and thereafter. 

3. Disclosure of tax information to facilitate combined employment 

tax reporting (sec. 123 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Traditionally, Federal tax forms are filed with the Federal government and State tax forms are filed with individual States. This 

necessitates duplication of items common to both returns. 

The Taxpayer Relief Act of 1997 9 permitted implementation of a 

demonstration project to assess the feasibility and desirability of 

expanding combined Federal and State reporting. There were several limitations on the demonstration project. First, it was limited 

to the sharing of information between the State of Montana and 

the IRS. Second, it was limited to employment tax reporting. Third, 

it was limited to disclosure of the name, address, TIN, and signature of the taxpayer, which is information common to both the 

Montana and Federal portions of the combined form. Fourth, it was 

limited to a period of five years. 

The authority for the demonstration project expired on the date 

five years after the date of enactment (August 5, 2002). 

16 

REASONS FOR CHANGE

The Committee believes that combined employment tax reporting 

eliminates filing duplication, allowing for a more technologically efficient transmission of data, and reducing taxpayer burden. The 

Committee also believes that combined employment tax reporting 

will increase electronic filing. 

EXPLANATION OF PROVISION

The provision amends the Code to provide permanent authority 

for any State to participate in a combined Federal and State employment tax reporting program, provided that the program has 

been approved by the Secretary. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

4. Extension of declaratory judgment procedures to non-501(c)(3) 

tax-exempt organizations (sec. 124 of the bill and sec. 7428 of 

the Code) 

PRESENT LAW

In order for an organization to be granted tax exemption as a 

charitable entity described in section 501(c)(3), it generally must 

file an application for recognition of exemption with the IRS and 

receive a favorable determination of its status. Similarly, for most 

organizations, a charitable organization’s eligibility to receive taxdeductible contributions is dependent upon its receipt of a favorable determination from the IRS. In general, a section 501(c)(3) organization can rely on a determination letter or ruling from the 

IRS regarding its tax-exempt status, unless there is a material 

change in its character, purposes, or methods of operation. In cases 

in which an organization violates one or more of the requirements 

for tax exemption under section 501(c)(3), the IRS is authorized to 

revoke an organization’s tax exemption, notwithstanding an earlier 

favorable determination. 

In situations in which the IRS denies an organization’s application for recognition of exemption under section 501(c)(3) or fails to 

act on such application, or in which the IRS informs a section 

501(c)(3) organization that it is considering revoking or adversely 

modifying its tax-exempt status, present law authorizes the organization to seek a declaratory judgment regarding its tax status (sec. 

7428). Section 7428 provides a remedy in the case of a dispute involving a determination by the IRS with respect to: (1) the initial 

qualification or continuing qualification of an organization as a 

charitable organization for tax exemption purposes or for charitable 

contribution deduction purposes; (2) the initial classification or continuing classification of an organization as a private foundation; (3) 

the initial classification or continuing classification of an organization as a private operating foundation; or (4) the failure of the IRS 

to make a determination with respect to (1), (2), or (3). A ‘‘determination’’ in this context generally means a final decision by the 

IRS affecting the tax qualification of a charitable organization, although it also can include a proposed revocation of an organization’s tax-exempt status or public charity classification. Section 

17 

10This limitation currently applies to declaratory judgments relating to tax qualification for 

certain employee retirement plans (sec. 7476). 

7428 vests jurisdiction over controversies involving such a determination in the U.S. District Court for the District of Columbia, 

the U.S. Court of Federal Claims, and the U.S. Tax Court. 

Prior to utilizing the declaratory judgment procedure, an organization must have exhausted all administrative remedies available 

to it within the IRS. An organization is deemed to have exhausted 

its administrative remedies at the expiration of 270 days after the 

date on which the request for a determination was made if the organization has taken, in a timely manner, all reasonable steps to 

secure such determination. 

If an organization (other than a section 501(c)(3) organization) 

files an application for recognition of exemption and receives a favorable determination from the IRS, the determination of tax-exempt status is usually effective as of the date of formation of the 

organization if its purposes and activities during the period prior 

to the date of the determination letter were consistent with the requirements for exemption. However, if the organization files an application for recognition of exemption and later receives an adverse 

determination from the IRS, the IRS may assert that the organization is subject to tax on some or all of its income for open taxable 

years. In addition, as with charitable organizations, the IRS may 

revoke or modify an earlier favorable determination regarding an 

organization’s tax-exempt status. 

Under present law, a non-charity (i.e., an organization not described in section 501(c)(3)) may not seek a declaratory judgment 

with respect to an IRS determination regarding its tax-exempt status. The only remedies available to such an organization are to petition the U.S. Tax Court for relief following the issuance of a notice of deficiency or to pay any tax owed and sue for refund in Federal district court or the U.S. Court of Federal Claims. 

REASONS FOR CHANGE

The Committee believes that it is important to provide certainty 

for organizations that have sought a determination of their tax-exempt status. Thus, the Committee finds it appropriate to extend 

the present-law declaratory judgment procedures to all organizations that apply for tax-exempt status as organizations described in 

section 501(c) and (d). 

DESCRIPTION OF PROVISION

The provision extends declaratory judgment procedures similar 

to those currently available only to charities under section 7428 to 

other section 501(c) and 501(d) determinations. The provision limits 

jurisdiction over controversies involving such other determinations 

to the United States Tax Court.10

EFFECTIVE DATE

The extension of the declaratory judgment procedures to organizations other than section 501(c)(3) organizations is effective for 

pleadings filed with respect to determinations (or requests for determinations) made after December 31, 2004. 

18 

5. Amendment to Treasury auction reforms (sec. 125 of the bill and 

sec. 202 of the Government Securities Act Amendments of 

1993) 

PRESENT LAW

Members of the Treasury Borrowing Advisory Committee are 

prohibited from disclosing anything relating to the securities to be 

auctioned in a midquarter refunding by the Secretary until the Secretary makes a public announcement of the refunding. 

REASONS FOR CHANGE

The Committee believes that permitting disclosure upon the release by the Secretary of the minutes of the meeting accomplishes 

the goals of the present-law restrictions without needlessly hindering the members of the advisory committee. 

EXPLANATION OF PROVISION

The provision permits earlier disclosure upon the release by the 

Secretary of the minutes of the meeting. 

EFFECTIVE DATE

The provision applies to meetings held after the date of enactment. 

6. Revisions relating to termination of employment of IRS employees for misconduct (sec. 126 of the bill and new sec. 7804A of 

the Code) 

PRESENT LAW

Section 1203 of the IRS Restructuring and Reform Act of 1998 

requires the IRS to terminate an employee for certain proven violations committed by the employee in connection with the performance of official duties. The violations include: (1) willful failure to 

obtain the required approval signatures on documents authorizing 

the seizure of a taxpayer’s home, personal belongings, or business 

assets; (2) providing a false statement under oath material to a 

matter involving a taxpayer; (3) with respect to a taxpayer, taxpayer representative, or other IRS employee, the violation of any 

right under the U.S. Constitution, or any civil right established 

under titles VI or VII of the Civil Rights Act of 1964, title IX of 

the Educational Amendments of 1972, the Age Discrimination in 

Employment Act of 1967, the Age Discrimination Act of 1975, sections 501 or 504 of the Rehabilitation Act of 1973 and title I of the 

Americans with Disabilities Act of 1990; (4) falsifying or destroying 

documents to conceal mistakes made by any employee with respect 

to a matter involving a taxpayer or a taxpayer representative; (5) 

assault or battery on a taxpayer or other IRS employee, but only 

if there is a criminal conviction or a final judgment by a court in 

a civil case, with respect to the assault or battery; (6) violations of 

the Internal Revenue Code, Treasury Regulations, or policies of the 

IRS (including the Internal Revenue Manual) for the purpose of retaliating or harassing a taxpayer or other IRS employee; (7) willful 

misuse of section 6103 for the purpose of concealing data from a 

Congressional inquiry; (8) willful failure to file any tax return reVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00018 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
19 

11Sec. 7802(c) and (d). 

quired under the Code on or before the due date (including extensions) unless failure is due to reasonable cause; (9) willful understatement of Federal tax liability, unless such understatement is 

due to reasonable cause; and (10) threatening to audit a taxpayer 

for the purpose of extracting personal gain or benefit. 

Section 1203 also provides non-delegable authority to the Commissioner to determine that mitigating factors exist, that, in the 

Commissioner’s sole discretion, mitigate against terminating the 

employee. The Commissioner, in his sole discretion, may establish 

a procedure to determine whether an individual should be referred 

for such a determination by the Commissioner. 

REASONS FOR CHANGE

The Committee understands that two of the violations under 

present law have resulted in unintended consequences. First, the 

Committee does not believe that an IRS employee due a tax refund 

should be terminated from employment for filing that return late. 

No other taxpayer faces a comparable penalty for the late filing of 

a return due a refund. Investigating and resolving issues related 

to the late filing by IRS employees of refund returns expends resources that could be better spent on other tax administration efforts. 

Second, the Committee understands that employees are misusing 

the ‘‘employee versus employee’’ violation as retaliation against fellow employees. There are other administrative remedies that are 

more appropriate for resolving employee versus employee claims, 

such as Title V adverse action cases, as well as actions of the Merit 

Systems Protection Board. 

The Committee believes that removing from the list of violations 

these two provisions that do not directly involve an IRS employee’s 

interactions with taxpayers will improve the focus of the provision. 

EXPLANATION OF PROVISION

The provision removes from the list of violations: (1) the late filing of refund returns; and (2) employee versus employee assault or 

battery. The provision also places the entire section in the Internal 

Revenue Code. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

7. Expand IRS Oversight Board authority (sec. 127 of the bill and 

sec. 7802 of the Code) 

PRESENT LAW

The Code has established the IRS Oversight Board and has given 

that Board general oversight responsibilities for the IRS, as well as 

specific oversight responsibilities with respect to the IRS’ strategic 

plans, operational plans, management, budget, and taxpayer protections.11 Among these responsibilities, the Board is required to 

review the Commissioner’s selection, evaluation, and compensation 

of IRS senior executives and to review and approve the IRS budget 

request (having ensured that the budget request supports the anVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00019 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
20 

nual and long-range strategic plans of the IRS). The Board must 

report annually to the Congress with respect to the conduct of its 

responsibilities. 

REASONS FOR CHANGE

The Committee understands that the IRS Oversight Board, as established, is in a difficult position to exert meaningful authority 

and oversight over the IRS. Although the Board is under the Department of Treasury, Congress intended for the Board to provide 

balanced independent oversight over the IRS. The Committee understands that the Board’s current authority to review the IRS 

Commissioner’s selection, evaluation, and compensation of senior 

executives has been unclear and that the Board has not been actively engaged and consulted as Congress intended. The Committee 

believes that the Board should have a strong and active role in the 

IRS Commissioner’s selection, evaluation, and compensation of senior executives. The Board should be included in the process before 

the IRS Commissioner acts with respect to the selection, evaluation, and compensation of senior executives. Furthermore, the Committee understands that the Board’s ability to provide a thorough 

and independent analysis of the IRS’s budget request is hindered 

by its organizational structure within the Executive Branch. The 

Committee believes that expanding the authority of the IRS Oversight Board will improve oversight and accountability of the IRS. 

EXPLANATION OF PROVISION

Approval with respect to senior executives 

The provision requires that the IRS Oversight Board approve the 

IRS Commissioner’s selection, evaluation, and compensation of senior executives. 

Reports 

Budget 

The provision requires that the budget for the IRS that the 

Board submits to the Secretary of the Treasury be detailed and 

contain analysis. The budget is to be submitted without any prior 

review or comment from the Commissioner, the Secretary of the 

Treasury, or any officer or employee of either the Department of 

the Treasury or the Office of Management and Budget. 

Annual Report 

The provision requires that the Board submit its annual report 

by March 1st of each year. 

Continuity in office 

The provision provides that an Oversight Board member whose 

term has expired shall continue to serve until his or her successor 

takes office (limited to one year after the expiration of the Board 

member’s term). 

Access to health benefits 

The provision makes Oversight Board members eligible for coverage by the Federal Employees’ Health Benefits Program on the 

same basis as Federal employees. 

21 

12 5 U.S.C. secs. 9502 and 9503. 13Sec. 7802(c) and (d). 14Sec. 7526. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

8. IRS Oversight Board approval of use of critical pay authority 

(sec. 128 of the bill and sec. 7802 of the Code) 

PRESENT LAW

The Secretary of the Treasury has the authority, subject to specified conditions, to increase the pay levels for critical positions at 

the IRS above the levels otherwise provided.12

The Code has established the IRS Oversight Board and has given 

that board general oversight responsibilities for the IRS, as well as 

specific oversight responsibilities with respect to the IRS’ strategic 

plans, operational plans, management, budget, and taxpayer protections.13

REASONS FOR CHANGE

The Committee understands that some believe that the IRS may 

have used its critical pay authority for positions that do not necessarily meet the specified conditions required under present law. 

Critical pay authority gives the IRS the flexibility to compensate 

certain employees at levels that are more competitive with the private sector. Thus, such authority is intended to aid the IRS in hiring individuals with specific expertise. The Committee believes that 

requiring the IRS Oversight Board to review and approve each use 

of critical pay authority will improve the administration and utilization of this authority. 

EXPLANATION OF PROVISION

The provision requires that the IRS Oversight Board review and 

approve each use of this critical pay authority. 

EFFECTIVE DATE

The provision is effective for personnel hired after the date of enactment. 

9. Low-income taxpayer clinics (sec. 129 of the bill and new sec. 

7526A of the Code) 

PRESENT LAW

The Code 14 provides that the Secretary is authorized to provide 

up to $6 million per year in matching grants to certain low-income 

taxpayer clinics. Eligible clinics are those that charge no more than 

a nominal fee to either represent low-income taxpayers in controversies with the IRS or provide tax information to individuals 

for whom English is a second language (‘‘controversy clinics’’). No 

clinic can receive more than $100,000 per year. 

A ‘‘clinic’’ includes (1) a clinical program at an accredited law, 

business, or accounting school, in which students represent low-income taxpayers, or (2) an organization exempt from tax under Code 

22 

section 501(c) which either represents low-income taxpayers or provides referral to qualified representatives. 

REASONS FOR CHANGE

The Committee believes that low-income taxpayer clinics contribute to compliance with the Code by providing representation to 

taxpayers who might otherwise be uncertain about their rights and 

obligations under the Code. Accordingly, the Committee believes 

that the amount authorized to be appropriated for matching grants 

to them should be increased. The Committee also believes that the 

scope of the work that clinics seeking grants may do should be 

broadened to encompass return preparation. 

EXPLANATION OF PROVISION

The provision authorizes $10 million in matching grants for lowincome taxpayer return preparation clinics (‘‘preparation clinics’’). 

These clinics may provide routine tax return preparation and filing 

services to low-income taxpayers. The authorization of $6 million 

for low-income controversy clinics under present law is also increased to $10 million. 

The provision expands the scope of clinics eligible to receive preparation clinic grants to encompass clinics at all educational institutions. The provision prohibits the use of grants for overhead expenses at both controversy clinics and preparation clinics. The provision also authorizes the IRS to use mass communications, referrals, and other means to promote the benefits and encourage the 

use of low-income controversy and preparation clinics. 

EFFECTIVE DATE

The provision is effective for grants made after the date of enactment. 

10. Taxpayer access to financial institutions (sec. 130 of the bill) 

PRESENT LAW

A large number of individual taxpayers do not have bank accounts. Because of this, these taxpayers are unable to participate 

fully in electronic filing, because IRS cannot electronically transmit 

to them their tax refunds. 

REASONS FOR CHANGE

The Committee believes that assisting unbanked taxpayers in establishing accounts in depository institutions in connection with 

preparing and filing their tax returns will increase the number of 

taxpayers able to participate fully in electronic filing. 

EXPLANATION OF PROVISION

The provision authorizes the Secretary of the Treasury to award demonstration project grants (totaling up to $10 million) to eligible 

entities to provide tax preparation assistance in connection with establishing an account in a federally insured depositary institution 

for individuals that do not have such an account. Entities eligible 

to receive grants are: tax-exempt organizations described in section 

501(c)(3), federally insured depositary institutions, State or local 

23 

15Section 7508A. 

governmental agencies, community development financial institutions, Indian tribal organizations, Alaska native corporations, native Hawaiian organizations, and labor organizations. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

11. Enrolled agents (sec. 131 of the bill and new sec. 7529 of the 

Code) 

PRESENT LAW

Treasury Department Circular No. 230 provides rules relating to 

practice before the IRS by attorneys, certified public accountants, 

enrolled agents, enrolled actuaries, and others. 

REASONS FOR CHANGE

The Committee believes that individuals who meet the regulatory requirements established by the Secretary should be able to 

use the specified credentials or designation in any State or Federal 

jurisdiction. 

EXPLANATION OF PROVISION

The bill adds a new section to the Code permitting the Secretary 

to prescribe regulations to regulate the conduct of enrolled agents 

in regard to their practice before the IRS and to permit enrolled 

agents meeting the Secretary’s qualifications to use the credentials 

or designation ‘‘enrolled agent’’, ‘‘EA’’, or ‘‘E.A.’’. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

12. Establishment of disaster response team (sec. 132 of the bill 

and sec. 7803 of the Code) 

PRESENT LAW

The Secretary of the Treasury may specify that certain deadlines 

are postponed for a period of up to one year in the case of a taxpayer determined to be affected by a Presidentially declared disaster or by a terroristic or military action.15 The deadlines that 

may be postponed are the same as are postponed by reason of service in a combat zone. 

REASONS FOR CHANGE

The Committee understands that the IRS is involved in responding to disasters. However, the Committee believes that the lack of 

an established Disaster Response Team within the IRS results in 

delaying the IRS’ response to disasters and contributes to taxpayer 

burden when a taxpayer is affected by a Presidentially declared 

disaster. The Committee believes that it is important to improve 

the response of the IRS to Presidentially declared disasters. 

24 

EXPLANATION OF PROVISION

The provision directs the Secretary to create in the IRS a permanent Disaster Response Team, which, in coordination with the Federal Emergency Management Agency, is to assist taxpayers in 

clarifying and resolving tax matters associated with a Presidentially declared disaster. The provision requires that the Disaster Response Team be staffed by personnel from the office of the 

Taxpayer Advocate as well as personnel from the national office of 

the IRS with relevant knowledge and experience. The provision 

also requires the IRS to provide a toll-free number dedicated to responding to taxpayers affected by a Presidentially declared disaster 

and to provide relevant information via the IRS website. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

13. Study of accelerated tax refunds (sec. 133 of the bill) 

PRESENT LAW

Some States have established procedures to provide for accelerated tax refunds to taxpayers who maintain the same filing characteristics as in the previous year. The IRS does not have such a procedure. 

REASONS FOR CHANGE

The Committee understands that States have realized efficiency 

gains and cost savings with electronic filing, automated deposits of 

tax refunds, and automated payments of tax liabilities. The Committee believes that requiring the Secretary of the Treasury to conduct a study of the implementation of an accelerated tax refund 

program for taxpayers who maintain the same filing characteristics 

as in the previous year and who elect to receive their refunds via 

direct deposit will provide the Committee with valuable information as to whether it is appropriate to implement such a system. 

EXPLANATION OF PROVISION

The provision requires the Secretary of the Treasury to conduct 

a study of the implementation of an accelerated tax refund program for taxpayers who maintain the same filing characteristics as 

in the previous year and who elect to receive their refunds via direct deposit. 

EFFECTIVE DATE

The Secretary is required to submit the report to the Congress 

not later than one year after the date of enactment. 

14. Study of clarifying recordkeeping responsibilities (sec. 134 of 

the bill) 

PRESENT LAW

Every person liable for Federal tax must keep records, provide 

statements, make returns, and comply with rules and regulations, 

25 

16Section 6001. 

as prescribed by the Secretary.16 In general, taxpayers are required 

to keep records for as long as the statute of limitations may be 

open. 

REASONS FOR CHANGE

The Committee understands that the present-law recordkeeping 

requirements do not reflect advances in technology. Specifically, 

the storage requirements may require taxpayers to maintain outdated and cumbersome technologies. The Committee understands 

that there is a balance, however, between minimizing taxpayer 

burden and ensuring that taxpayers maintain appropriate recordkeeping for purposes of IRS enforcement. The Committee believes 

that requiring the Secretary of the Treasury to conduct a study of 

the recordkeeping requirements will provide the Committee with 

valuable information as to whether it is appropriate to modify 

these requirements. 

EXPLANATION OF PROVISION

The provision requires the Secretary of the Treasury to study: 

• The scope of the records required to be maintained by taxpayers; 

• The utility of requiring taxpayers to maintain all records indefinitely; 

• The effects of the necessity to upgrade technological storage for 

outdated records; 

• The number of negotiated records retention agreements requested by taxpayers and the number entered into by the IRS; and 

• Proposals regarding taxpayer recordkeeping. 

EFFECTIVE DATE

The Secretary is required to submit the report to the Congress 

not later than one year after the date of enactment. 

15. Streamline reporting process for National Taxpayer Advocate 

(sec. 135 of the bill and sec. 7803 of the Code) 

PRESENT LAW

The Code requires the National Taxpayer Advocate to produce 

two reports for the Congress each year. The first, due by June 30, 

reports on the objectives for the office; the second, due by December 

31, reports on the activities of the office and contains detailed data 

and recommendations in specified areas. 

REASONS FOR CHANGE

The Committee believes that combining these reports will reduce 

burdens on the National Taxpayer Advocate. The Committee also 

believes that authorizing the National Taxpayer Advocate to report 

to the Congress at any time on any significant issues affecting taxpayer rights will improve the awareness of the Congress of these 

issues. 

26 

EXPLANATION OF PROVISION

The provision combines these two reports into one, due by December 31. The provision also provides that the National Taxpayer 

Advocate, in his or her sole discretion, may report to the Congress 

at any time on any significant issues affecting taxpayer rights. 

EFFECTIVE DATE

The provision combining the reports is effective for reports in 

2005 and thereafter. The provision authorizing reports on significant issues affecting taxpayer rights is effective on the date of enactment. 

16. IRS Free File program (sec. 136 of the bill) 

PRESENT LAW

The IRS has entered into cooperative relationships with commercial return preparation services to provide free electronic filing 

services to eligible low-income or elderly taxpayers. This program 

is called ‘‘Free File.’’ IRS permits these commercial return preparation services to cross-market their other services and products to 

all participating taxpayers, except to those taxpayers who explicitly 

opt out of this cross-marketing. 

REASONS FOR CHANGE

The Committee believes that functioning of the Free File program will be improved if cross-marketing is permitted only to taxpayers who explicitly give permission to receive it. 

EXPLANATION OF PROVISION

The provision requires that, as a condition for participating in 

the Free File program, commercial return preparation services that 

choose to cross-market their other services and products to Free 

File taxpayers may only do so to taxpayers who explicitly choose 

this (opt in). The provision requires the IRS to ensure that this optin feature is clear, prominently displayed, and in large typeface. 

EFFECTIVE DATE

The provision is effective with respect to returns filed after December 31, 2004. 

17. Modification of TIGTA reporting requirements (sec. 137 of the 

bill and sec. 7803 of the Code) 

PRESENT LAW

The Treasury Inspector General for Tax Administration (TIGTA) 

conducts audits and reviews of IRS operations. TIGTA also is 

statutorily required to report to the Congress (both annually and 

semi-annually) on a number of specific issues. 

REASONS FOR CHANGE

The Committee understands that these reporting requirements 

utilize significant resources and that the IRS does not necessarily 

maintain the data required for these reports. The Committee also 

understands that the current frequency of reporting gives the IRS 

27 

17Sec. 7521. 18GAO–04–126 IRS’s Fiscal Years 2003 and 2002 Financial Statements, p.78. 

a limited and, perhaps, insufficient amount of time to implement 

corrective actions before another review. The Committee believes 

that streamlining these TIGTA reporting requirements will yield a 

more meaningful picture of the IRS and its progress in meeting 

Congressional expectations. 

EXPLANATION OF PROVISION

The provision repeals the statutory requirement that TIGTA 

issue the following reports: 

• IRS compliance with the restrictions 17 on directly contacting 

taxpayers who have indicated that they prefer that their representatives be contacted. 

• IRS compliance with the requirements relating to disclosure of 

collection information with respect to joint returns. 

• IRS compliance with the fair debt collection provisions of the 

Code. 

• The number of taxpayer complaints received during the reporting period. 

In addition, the provision requires that all reports currently required to be made annually must be provided semi-annually. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

18. Study of IRS accounts receivable (sec. 138 of the bill) 

PRESENT LAW

There is no statutory requirement of a study of IRS accounts receivables. 

REASONS FOR CHANGE

The General Accounting Office has reported that it has received 

from the IRS the following information.18 The gross accounts receivable for tax year 2003 is estimated at $246 billion. After a reduction for compliance assessments of $31 billion, write-offs of $126 

billion, and allowance for doubtful accounts of $69 billion, the total 

net accounts receivable is $20 billion. The Committee believes that 

requiring the Secretary of the Treasury to conduct a study of IRS 

accounts receivable will provide the Committee with valuable information to assess the current problem and develop appropriate solutions to reduce the accounts receivable inventory. 

EXPLANATION OF PROVISION

The provision requires the Department of the Treasury to conduct a study on the provisions of the Code, and the application of 

those provisions, regarding IRS collection procedures to determine 

whether impediments exist to the efficient and timely collection of 

tax debts. The study is also to include an examination of the accounts receivable inventory of the IRS. 

28 

19Pub. L. 105–206 (112 Stat. 723, July 22, 1998), sec. 2001(b)(2). 20Sec. 6011(a). 

EFFECTIVE DATE

The study must be completed within one year after the date of 

enactment. 

19. Electronic commerce advisory group (sec. 139 of the bill and 

sec. 2001 of the Internal Revenue Service Restructuring and 

Reform Act of 1998) 

PRESENT LAW

The IRS is statutorily required to convene an electronic commerce advisory group, including representatives from the small 

business community, from the tax practitioner, preparer, and computer tax processor communities and other representatives from 

the electronic filing industry.19

REASONS FOR CHANGE

The Committee believes that expanding the electronic commerce 

advisory group to include consumer advocate representation will 

ensure taxpayer representation and improve its functioning. 

EXPLANATION OF PROVISION

The provision requires that the electronic commerce advisory 

group include at least two representatives from the consumer advocate community. 

EFFECTIVE DATE

The initial appointment made in accordance with this provision 

must be made not later than 180 days after the date of enactment. 

20. Study of modifications to Schedules L and M–1 (sec. 140 of the 

bill) 

PRESENT LAW

The Code requires persons to file tax returns in accordance with 

the forms and regulations prescribed by the Secretary.20 In general, corporations must file Form 1120. As part of that form, a corporation with more than $250,000 of gross receipts and total assets 

must complete Schedule M–1, which reconciles book income (or 

loss) with income (or loss) reported on the tax return. 

REASONS FOR CHANGE

The Committee understands that high-profile cases involving 

profitable corporations (1) reporting little or no taxable income, (2) 

engaging in transactions that increased their financial income 

without affecting their current tax liabilities, or (3) engaging in 

transactions that decreased their taxable income without affecting 

their book income, have drawn attention to the sources and magnitudes of differences between tax and book income. IRS data 

shows that the dollar amount of the book-tax difference grew from 

$92.5 billion in 1996 to more than $159.0 billion in 1998, an increase of nearly 72 percent. 

29 

The Committee believes that a lack of historical data makes it 

difficult to determine whether this is only a recent phenomenon or 

the continuation of a long-term trend. Current reporting of book 

tax differences via the Schedule M–1 makes broad analysis of the 

sources of these differences extremely difficult. In light of this, the 

Committee believes it is appropriate to consider revisions to the 

relevant tax forms. 

EXPLANATION OF PROVISION

The provision requires the Secretary of the Treasury to report to 

the Senate Committee on Finance and the House Committee on 

Ways and Means on proposals to expand Schedules L and M–1 to 

include additional information, such as the following: 

• The names and identification numbers of the parent companies 

for both book and tax purposes. 

• A reconciliation of the consolidated book assets reported in 

public financial disclosure statements to the reported assets in the 

consolidated tax return. 

• Worldwide net income as reported in public financial disclosure 

statements. 

• The components of tax expense recorded in financial statement 

tax footnotes. 

• A reconciliation of the book and tax income of entities included 

in the consolidated financial statement with book income as reported on the consolidated tax return. 

• The adjustment for book income from domestic and foreign entities excluded from financial reporting but included for tax purposes. 

• The book income of U.S. entities included in the consolidated 

return. 

• Taxable income due to actual or deemed dividends from foreign 

subsidiaries. 

• A reconciliation to reflect pretax book income of the U.S. consolidated tax return group plus taxable deemed or actual foreign 

repatriations. 

• The differences in the reporting of income and expense between book and tax reporting, including specific reporting on pension expense, stock options, and the amortization of goodwill. 

• Consistency in reporting of any additional items not specifically listed above. 

In addition, the proposal requires the Securities and Exchange 

Commission and the Commissioner of Internal Revenue to report 

to the Senate Committee on Finance and the House Committee on 

Ways and Means on proposals to expand the public availability and 

clarity of information relating to book and tax differences and Federal tax liability with respect to corporations. 

EFFECTIVE DATE

The report on modifying Schedules L and M–1 must be provided 

within 6 months after the date of enactment. The reports on information to be made public must be provided within one year after 

the date of enactment. 

30 

21 31 U.S.C. 330. 

21. Regulation of Federal income tax return preparers and refund 

anticipation loan providers (sec. 141 of the bill and new sec. 

7530 of the Code) 

PRESENT LAW

Federal income tax return preparers 

The Secretary of the Treasury is authorized to regulate the practice of representatives of persons before the Department of the 

Treasury.21 The Secretary is also authorized to suspend or disbar 

from practice before the Department a representative who is incompetent, who is disreputable, who violates the rules regulating practice before the Department, or who (with intent to defraud) willfully and knowingly misleads or threatens the person being represented (or a person who may be represented). The rules promulgated by the Secretary pursuant to this provision are contained in 

Circular 230. In general, the preparation and filing of tax returns 

(absent further involvement) has not been considered within the 

scope of these Circular 230 provisions. 

Refund anticipation loan providers 

Taxpayers may choose to obtain a loan in the amount of their anticipated tax refund (a ‘‘refund anticipation loan’’). In general, these 

loans are provided in connection with the filing of the taxpayer’s 

return. In general, these loans are for relatively short periods of 

time (as little as several weeks, if the taxpayer files electronically). 

REASONS FOR CHANGE

In her annual report to the Congress, the National Taxpayer Advocate noted that over 55 percent of the 130 million U.S. individual 

taxpayers paid a return preparer to prepare their 2001 Federal income tax returns and of the 1.2 million known tax return preparers, one-quarter to one-half are not regulated by any licensing 

entity or subject to minimum competency requirements. The Committee also understands that 57 percent of the earned income credit overclaims were attributable to returns prepared by paid preparers. The Committee believes that Federal income tax return 

preparers play an important role in the tax system. While those 

preparers authorized to practice before the IRS are already subject 

to oversight, many preparers are not. Those preparers should accordingly have greater oversight. 

The Committee believes that requiring regulation of both Federal 

income tax return preparers and refund anticipation loan providers 

and increasing the information that must be disclosed in connection with a refund anticipation loan will improve the fairness and 

administration of the tax system. 

EXPLANATION OF PROVISION

Federal income tax return preparers 

The provision requires the annual registration of Federal income 

tax return preparers with the IRS. Any person who is paid to prepare five or more returns in a year is required to register, except 

that this provision does not apply to a qualified representative 

31 

22The Secretary must impose these requirements pursuant to 31 U.S.C. 5314. 23 31 U.S.C. 5321(a)(5). 

(whether or not an attorney) who is authorized to practice before 

the IRS or an applicable court. Preparers are required to pass an 

annual examination and meet standards of conduct in order to register. The IRS may charge reasonable fees to defray the costs of administering this program. The provision imposes penalties for noncompliance with this provision. The provision requires the Secretary to conduct a public awareness campaign with respect to this 

requirement and to maintain a public list of registered preparers. 

The provision permits the Secretary to use any funds specifically 

appropriated for earned income credit compliance to improve compliance with this provision. 

Refund anticipation loan providers 

The provision requires the Secretary of the Treasury to establish 

a program to require the registration with the IRS of all providers 

of refund anticipation loans to individual taxpayers. The Secretary 

must also specify the type of information that must be disclosed to 

taxpayers by refund anticipation loan providers (such as the fees 

charged in connection with the loan) and the manner and timing 

of the disclosure. The provision permits the imposition of sanctions 

for violations of these provisions. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

C. OTHER PROVISIONS

1. Penalty for failure to report interests in foreign financial accounts (sec. 151 of the bill and sec. 5321 of Title 31, United 

States Code) 

PRESENT LAW

The Secretary of the Treasury requires citizens, residents, or persons doing business in the United States to keep records and file 

reports when that person makes a transaction or maintains an account with a foreign financial entity.22 In general, individuals must 

fulfill this requirement by answering questions regarding foreign 

accounts or foreign trusts that are contained in Part III of Schedule 

B of the IRS Form 1040. Taxpayers who answer ‘‘yes’’ in response 

to the question regarding foreign accounts must then file Treasury 

Department Form TD F 90–22.1. This form must be filed with the 

Department of the Treasury, and not as part of the tax return that 

is filed with the IRS. 

The Secretary of the Treasury may impose a civil penalty on any 

person who willfully violates this reporting requirement. The civil 

penalty is the amount of the transaction or the value of the account, up to a maximum of $100,000; the minimum amount of the 

penalty is $25,000.23 In addition, any person who willfully violates 

this reporting requirement is subject to a criminal penalty. The 

criminal penalty is a fine of not more than $250,000 or imprisonment for not more than five years (or both); if the violation is part 

of a pattern of illegal activity, the maximum amount of the fine is 

32 

24 31 U.S.C. 5322. 25 A Report to Congress in Accordance with Sec. 361(b) of the Uniting and Strengthening 

America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 

2001, April 26, 2002. 26Sec. 361(b) of the USA PATRIOT Act of 2001 (Pub. L. 107–56). 

increased to $500,000 and the maximum length of imprisonment is 

increased to 10 years.24

On April 26, 2002, the Secretary of the Treasury submitted to 

the Congress a report on these reporting requirements.25 This report, which was statutorily required,26 studies methods for improving compliance with these reporting requirements. It makes several 

administrative recommendations, but no legislative recommendations. A further report was required to be submitted by the Secretary of the Treasury to the Congress by October 26, 2002. 

REASONS FOR CHANGE

The Committee understands that the number of individuals involved in using offshore bank accounts to engage in abusive tax 

scams has grown significantly in recent years. For one scheme 

alone, the IRS estimates that there may be hundreds of thousands 

of taxpayers with offshore bank accounts attempting to conceal income from the IRS. The Committee is concerned about this activity 

and believes that improving compliance with this reporting requirement is vitally important to sound tax administration, to combating 

terrorism, and to preventing the use of abusive tax schemes and 

scams. Adding a new civil penalty that applies without regard to 

willfulness will improve compliance with this reporting requirement. 

EXPLANATION OF PROVISION

The provision adds an additional civil penalty that may be imposed on any person who violates this reporting requirement (without regard to willfulness). This new civil penalty is up to $5,000. 

The penalty may be waived if any income from the account was 

properly reported on the income tax return and there was reasonable cause for the failure to report. 

EFFECTIVE DATE

The provision generally is effective for violations occurring after 

the date of enactment. 

2. Repeal of application of below-market loan rules to amounts paid 

to certain continuing care facilities (sec. 152 of the bill and sec. 

7872 of the Code) 

PRESENT LAW

Certain loans that bear interest at a below-market interest rate 

are treated as loans bearing interest at the market rate accompanied by a payment or payments from the lender to the borrower 

which are characterized in accordance with the substance of the 

particular transaction (e.g., gift, compensation, dividend, etc.) (sec. 

7872). The market rate of interest for purposes of the below-market 

loan rules is assumed to be 100 percent of the applicable Federal 

rate (‘‘AFR’’) at the time the loan is made in the case of a term loan 

33 

27 A ‘‘qualified continuing care facility’’ is defined as one or more facilities (1) which are designed to provide services under continuing care contracts, and (2) substantially all of the residents of which are covered by continuing care contracts. However, a facility is not a qualified 

continuing care facility unless substantially all facilities which are used to provide services that 

are required to be provided under a continuing care contract are owned or operated by the borrower. In addition, nursing homes do not constitute continuing care facilities (sec. 7872(g)(4)). 28 A ‘‘continuing care contract’’ is defined as a written contract between an individual and a 

qualified continuing care facility under which (1) the individual or indvidual’s spouse may use 

a qualified continuing care facility for their life or lives, (2) the individual or individual’s spouse 

(a) will first reside in a separate, independent living unit with additional facilities outside such 

unit for the providing of means and other personal care, and (b) then will be provided long-term 

and skilled nursing care as the health of such individual or individual’s spouse requires, and 

(3) no additional substantial payment is required if such individual or individual’s spouse requires increased personal care services or long-term and skilled nursing care. 29 Rev. Rul. 2003–118, 2003–47 I.R.B. 1095. 30Tech. Adv. Mem. 9521001 (Dec. 7, 1994). 

or, in the case of a demand loan, 100 percent of the AFR in effect 

over the time that the loan is outstanding. 

In general, the below-market loan rules apply to (1) loans where 

the foregone (i.e., below-market) interest is in the nature of a gift, 

(2) loans between an employee and an employer or between an 

independent contractor and one for whom the independent contractor provides services, (3) loans between a corporation and a 

shareholder of the corporation, (4) loans of which one of the principal purposes of the interest arrangement is the avoidance of Federal tax, (5) to the extent provided in Treasury regulations, any 

other below-market loans if the interest arrangement of such loan 

has a significant effect on any Federal tax liability of either the 

lender or borrower, and (6) loans to any qualified continuing care 

facility pursuant to a continuing care contract. 

In the case of loans made to qualified continuing care facilities,27

an exception from the below-market loan rules is provided for any 

loan as of the calendar year in which the lender has attained age 

65, provided the loan is made by the lender to the qualified continuing care facility pursuant to a continuing care contract.28 However, the exception applies only to the extent that the principal 

amount of the loan, when added to the aggregate outstanding 

amount of all other previous loans between the lender (or the lender’s spouse) and any qualified continuing care facility, does not exceed $90,000. This amount is indexed for inflation, and the amount 

for calendar year 2004 is $154,500.29

With regard to continuing care facilities that are not qualified 

continuing care facilities, the IRS takes the position that loans 

made to such facilities by residents are not subject to the belowmarket loan rules until and unless Treasury regulations are issued 

that treat such loans as having a significant effect on any Federal 

tax liability of either the facility or the resident.30

REASONS FOR CHANGE

In 1985, Congress enacted a limited exception from the belowmarket loan rules for qualified continuing care facilities with the 

expectation that Treasury would issue regulations applying such 

rules to non-qualified continuing care facilities based upon the general application of the rules to loans the interest arrangements of 

which have a significant effect on the Federal tax liability of either 

the lender or the borrower. The Committee understands that the 

absence of such regulations during the ensuing 20 years has created an anomalous situation in which contracts with qualified continuing care facilities are not subject to the below-market loan 

34 

rules only if they do not exceed the dollar threshold, while contracts with non-qualified continuing care facilities are not subject 

to such rules without limitation. The Committee believes that this 

has resulted in the unintended consequence that the present-law 

rules actually disadvantage qualified continuing care facilities and 

encourage continuing care facilities to intentionally fail to satisfy 

the present-law definition of a qualified continuing care facility in 

order to avoid the dollar threshold and the application of the belowmarket loan rules altogether. 

The Committee recognizes that the modifications made by this 

provision merely equalize the treatment of qualified continuing 

care facilities and non-qualified continuing care facilities, whereas 

it is intended that contracts with non-qualified continuing care facilities be subject to the below-market loan rules if the treatment 

of such contracts as below-market loans has a significant effect on 

the Federal tax liability of either the resident or the facility. Thus, 

the Committee encourages Treasury issue regulations that provide 

for the application of the below-market loan rules to non-qualified 

continuing care facilities. 

The Committee also believes that certain changes should be 

made to the definitions of a qualified continuing care facility and 

a continuing care contract in order to better reflect the current 

business practices of such facilities. 

EXPLANATION OF PROVISION

The provision repeals the application of the below-market loan 

rules to loans that are made to any qualified continuing care facility pursuant to a continuing care contract, without regard to the 

principal amount of the loan (including the aggregate outstanding 

amount of any other previous loans between the resident or resident’s spouse and any qualified continuing care facility). The provision also clarifies that the determination of whether a facility is a 

qualified continuing care facility is to be made on an annual basis 

at the end of each calendar year, rather than only when the continuing care contract is entered into. In addition, the provision 

modifies the definition of a continuing care contract to (1) not exclude contracts that require additional substantial payment for increased personal care services required by the resident or resident’s 

spouse, and (2) provide authority for the Treasury to issue guidance that limits such definition to contracts that provide to the 

resident or resident’s spouse only facilities, care and services that 

are customarily offered by continuing care facilities. The provision 

also clarifies that the definition of a qualified continuing care facility requires substantially all of the independent living unit residents of the facility to be covered by continuing care contracts. 

The provision does not affect the present-law application of the 

below-market loan rules to loans made to any continuing care facility that is not a qualified continuing care facility. 

EFFECTIVE DATE

The provision applies to calendar years beginning after December 

31, 2004. 

35 

TITLE II.—REFORM OF PENALTY AND INTEREST 

A. INDIVIDUAL ESTIMATED TAX

(Sec. 201 of the bill and sec. 6654 of the Code) 

1. Increase estimated tax threshold 

PRESENT LAW

The Federal income tax system is designed to ensure that taxpayers pay taxes throughout the year based on their income earned 

and deductions. To the extent that tax is not collected through 

withholding, taxpayers are required to make quarterly estimated 

payments of tax. If an individual fails to make the required estimated tax payments under the rules, a penalty is imposed under 

section 6654. The amount of the penalty is determined by applying 

the underpayment interest rate to the amount of the underpayment for the period of the underpayment. The amount of the 

underpayment is the excess of the required payment over the 

amount (if any) of the installment paid on or before the due date 

of the installment. The period of the underpayment runs from the 

due date of the installment to the earlier of (1) the 15th day of the 

fourth month following the close of the taxable year or (2) the date 

on which each portion of the underpayment is made. The penalty 

for failure to pay estimated tax is the equivalent of interest, which 

is based on the time value of money. 

Taxpayers are not liable for a penalty for the failure to pay estimated tax when the tax shown on the return for the taxable year 

(or, if no return is filed, the tax), reduced by withholding, is less 

than $1,000. This safe harbor does not apply, however, when a taxpayer has paid tax throughout the year solely through estimated 

tax payments. For such taxpayers, any tax shown on the return for 

the taxable year, net of estimated tax paid, could subject the taxpayer to the penalty for failure to pay estimated tax (unless another safe harbor applies). 

REASONS FOR CHANGE

Some taxpayers are required to complete Form 2210 (Underpayment of Estimated Tax by Individuals, Estates, and Trusts) and 

attach it to their tax return to show that they qualify for an exception that can lower or eliminate the penalty for underpayment of 

estimated tax. The computations required to determine the amount 

of the individual estimated tax penalty are complex and difficult to 

administer. The Committee believes that by increasing the estimated tax payment threshold, fewer taxpayers will be required to 

make estimated tax payments. 

EXPLANATION OF PROVISION

The threshold is increased to $2,000. 

EFFECTIVE DATE

The provision is effective for estimated tax payments made for 

taxable years beginning after December 31, 2004. 

36 

2. Apply one interest rate per estimated tax underpayment period 

for individuals, estates, and trusts 

PRESENT LAW

The present-law penalty for failure to pay estimated tax is equal 

to the underpayment interest rate multiplied by the number of 

days the underpayment is outstanding, which is the number of 

days between when the taxpayer should have made the estimated 

payment and the earlier of (1) the 15th day of the fourth month 

following the close of the taxable year or (2) the date on which each 

portion of the underpayment is made. The interest rate, which 

equals the Federal short-term rate plus three percentage points, is 

subject to change on the first day of each quarter, which is January 

1, April 1, July 1, and October 1. 

If interest rates change while an underpayment of estimated tax 

is outstanding, then taxpayers are required to make separate calculations for the periods before and after the interest rate change. 

Such calculations generally are needed to cover 15-day periods. For 

example, the July 1 interest rate occurs 15 days after the June 15 

payment date (for calendar-year taxpayers). A change in interest 

rates, which occurs on the first day of each calendar quarter, would 

require the use of different interest rates during one estimated tax 

underpayment period and would increase the number of calculations that a taxpayer must make in calculating a penalty for failure 

to pay estimated tax. 

REASONS FOR CHANGE

The adjustment of the interest rate for underpayments greatly 

complicates the computation of interest. When interest rates 

change during an underpayment period, taxpayers must perform 

multiple calculations to account for the change in interest rate. 

Thus, the Committee finds that, if only one interest rate applied 

per underpayment period, complexity would be reduced because 

there generally would be only one interest calculation required per 

underpayment period. 

EXPLANATION OF PROVISION

The interest rates are aligned so that, for any given estimated 

tax underpayment period, only one interest rate will apply. The underpayment interest rate in effect on the first day of the quarter 

in which the pertinent estimated payment due date arises is the 

interest rate that will apply during an entire underpayment period. 

EFFECTIVE DATE

The provision is effective for estimated tax payments made for 

taxable years beginning after December 31, 2004. 

3. Provide that underpayment balances are cumulative 

PRESENT LAW

Section 6654(b)(1) defines ‘‘underpayment’’ as the amount of an 

installment due over the amount of any installment paid (including 

withholding) on or before the due date of the installment. In determining an underpayment penalty for a calendar year taxpayer, the 

37 

31The year 2004 is a leap year, the year 2005 is not. 

period of underpayment runs for each underpayment from the payment’s due date through the earlier of the date on which any portion of the payment is made or the 15th day of the fourth month 

following the close of the taxable year. Underpayment balances are 

not cumulative and must be tracked separately for each estimated 

tax underpayment period. 

REASONS FOR CHANGE

Tracking underpayments separately results in additional complexity in calculating interest on underpayments of estimated tax. 

The Committee thus finds that the calculation of interest on underpayments of estimated tax would be simplified by providing that 

underpayment balances would roll into the next estimated tax period so that interest would be calculated once per cumulative underpayment, per period. 

EXPLANATION OF PROVISION

The definition of ‘‘underpayment’’ is changed to allow existing 

underpayment balances to be used in underpayment calculations 

for succeeding estimated payment periods. Taxpayers will now calculate a cumulative underpayment at the end of each underpayment period. 

EFFECTIVE DATE

The provision is effective for estimated tax payments made for 

taxable years beginning after December 31, 2004. 

4. Require 365-day year for all estimated tax interest calculations 

for individuals, estates, and trusts 

PRESENT LAW

Under current IRS procedures, taxpayers with outstanding underpayment balances that extend from a leap year through a nonleap year are required to make separate calculations solely to account for the different number of days in the two different years. 

For example, if a taxpayer has an underpayment outstanding from 

September 15, 2004, through January 15, 2005, then the taxpayer 

must account for the period from September 15, 2004, through December 31, 2004, by using a 366-day formula.31 The taxpayer then 

must account for the period from January 1, 2005, through January 15, 2005, under a 365-day formula. This calculation is required 

regardless of whether the interest rate changes on January 1, 2005. 

REASONS FOR CHANGE

The Committee finds that complexity in calculating interest on 

underpayments of estimated tax would be reduced by eliminating 

the extra calculation that is required for underpayment balances 

that extend from a leap year to a non-leap year or from a non-leap 

year to a leap year. 

38 

EXPLANATION OF PROVISION

A 365-day year is used for all individual, estate, and trust estimated tax interest calculations. 

EFFECTIVE DATE

The provision is effective for estimated tax payments made for 

taxable years beginning after December 31, 2004. 

B. CORPORATE ESTIMATED TAX

(Sec. 202 of the bill and sec. 6655 of the Code) 

PRESENT LAW

In general, corporations are required to make quarterly estimated tax payments of their income tax liability (sec. 6655). An exception to this requirement applies if the amount of tax for the taxable year is less than $500. 

REASONS FOR CHANGE

The Committee believes that increasing the value of this exception will reduce taxpayer burden and simplify administration of the 

tax laws. 

EXPLANATION OF PROVISION

The provision increases the value of this exception to amounts of 

tax that are less than $1,000. 

EFFECTIVE DATE

The provision is effective for taxable years beginning after December 31, 2004. 

C. INCREASE IN LARGE CORPORATION THRESHOLD FOR ESTIMATED

TAX PAYMENTS

(Sec. 203 of the bill and sec. 6655 of the Code) 

PRESENT LAW

In general, corporations are required to make quarterly estimated tax payments of their income tax liability (sec. 6655). In 

general, annual payments must total either 100 percent of the current year’s tax or 100 percent of the previous year’s tax. Large corporations may not base their payments on the previous year’s tax. 

A large corporation has taxable income of $1 million or more for 

any taxable year in the preceding three taxable years. 

REASONS FOR CHANGE

The Committee believes that increasing this threshold will reduce taxpayer burden and simplify administration of the tax laws. 

EXPLANATION OF PROVISION

The provision increases this $1 million threshold defining large 

corporations by $50,000 every year beginning after 2004 until it 

reaches $1.5 million. 

39 

EFFECTIVE DATE

The provision is effective for taxable years beginning after December 31, 2004. 

D. ABATEMENT OF INTEREST

(Sec. 204 of the bill and sec. 6404 of the Code) 

PRESENT LAW

In general 

The Secretary of the Treasury can abate or suspend the accrual 

of interest in a number of situations. In general, the Secretary is 

authorized to abate interest that is not owed by the taxpayer, either because the interest was erroneously or illegally assessed, or 

because the interest was assessed after the expiration of the period 

of limitations. The Secretary also may abate interest that is attributable to certain unreasonable errors and delays by the Internal 

Revenue Service. The Secretary may abate interest where, in his 

judgment, the administration and collection costs involved do not 

warrant the collection of the amount due. 

The Secretary is required to abate interest in the case of a declared disaster or certain erroneous refunds attributable solely to 

errors made by the IRS. The Secretary is required to suspend the 

accrual of interest if the IRS fails to contact the taxpayer in a timely manner and in the case of taxpayers serving in a combat zone. 

Interest that is abated is not owed by the taxpayer and does not 

accrue additional interest through compounding or result in any 

additional penalties. If the accrual of interest is suspended for a period, then that period is not taken into account in determining the 

interest owed on an underpayment. 

Most abatements of interest are a result of adjustments to the 

underlying tax liability. Underpayment interest is assessed any 

time an underpayment is assessed. If the underlying tax liability 

is later adjusted, resulting in a reduction in the amount of the underpayment, the portion of the interest attributable to such adjustment must be abated. 

Abatement of interest attributable to unreasonable IRS errors or 

delays 

The Secretary is permitted to abate interest on any deficiency attributable in whole or in part to any unreasonable error or delay 

by an IRS employee in performing a ministerial or managerial act. 

Abatement of penalties and additions to tax attributable to erroneous written advice given by the IRS 

The Secretary is required to abate any portion of any penalty or 

addition to tax attributable to erroneous advice furnished to the 

taxpayer in writing by an officer or employee of the IRS acting in 

his or her official capacity. The abatement applies only if (1) the 

advice is given in response to a specific written request made by 

the taxpayer, (2) the taxpayer reasonably relied on the advice, and 

(3) the taxpayer provided adequate and accurate information. 

Only penalties and additions to tax that are attributable to erroneous written advice given by the IRS are abated under this rule. 

40 

Interest is abated only to the extent that it is attributable to 

abated penalties and additions to tax. Interest attributable to an 

underpayment of tax, where such underpayment is the result of the 

taxpayer’s proper reliance on written advice of the IRS, is not eligible for abatement. 

Procedures for the abatement of interest 

Taxpayers may apply for the abatement of interest by filing a 

claim on Form 843 with the Internal Revenue Service Center that 

has assessed the interest the taxpayer seeks to have abated. 

Typically, interest is abated when the amount of tax assessed is 

reduced. Thus, any procedure that may result in the reduction of 

assessed tax may also result in an abatement of interest. 

REASONS FOR CHANGE

The Committee believes that the narrow definition of ministerial 

and managerial act prevents the abatement of interest in certain 

situations where there are errors or delays. Further, the abatement 

of interest does not apply to employment taxes and certain excise 

taxes. As with other types of taxes, errors and delays occur in the 

administration of employment and excise taxes. The Committee believes that there are additional situations in which it is not appropriate for the Secretary to collect interest on an underpayment of 

tax to promote efficiency in administration of the tax laws and fairness to taxpayers. 

EXPLANATION OF PROVISION

Expand abatement of interest for unreasonable IRS errors or delays 

The provision expands the scope of interest that may be abated 

by removing the requirement that the error or delay occur in performing a ministerial or managerial act and by applying it to interest for all types of taxes. 

Allow the abatement of interest to the extent the interest is attributable to taxpayer reliance on written statements of the IRS 

The provision requires the Secretary to abate interest on an underpayment where the underpayment is attributable to erroneous 

advice furnished to the taxpayer in writing by an officer or employee of the IRS acting in his or her official capacity. It is anticipated that the abatement would apply to interest attributable to 

the period of time from the issuance of the erroneous advice 

through the day that is 21 days (10 days in the case of an underpayment in excess of $100,000) after the day the IRS gives written 

notice that its advice was erroneous. The proposal does not eliminate the taxpayer’s obligation to satisfy any underpayment of tax 

attributable to such erroneous advice. 

EFFECTIVE DATE

The changes made by these provisions are effective with respect 

to interest accruing on or after the date of enactment. 

41 

E. DEPOSITS MADE TO SUSPEND THE RUNNING OF INTEREST ON

POTENTIAL UNDERPAYMENTS

(Sec. 205 of the bill and new sec. 6603 of the Code) 

PRESENT LAW

Generally, interest on underpayments and overpayments continues to accrue during the period that a taxpayer and the IRS dispute a liability. The accrual of interest on an underpayment is suspended if the IRS fails to notify an individual taxpayer in a timely 

manner, but interest will begin to accrue once the taxpayer is properly notified. No similar suspension is available for other taxpayers. 

A taxpayer that wants to limit its exposure to underpayment interest has a limited number of options. The taxpayer can continue 

to dispute the amount owed and risk paying a significant amount 

of interest. If the taxpayer continues to dispute the amount and ultimately loses, the taxpayer will be required to pay interest on the 

underpayment from the original due date of the return until the 

date of payment. 

In order to avoid the accrual of underpayment interest, the taxpayer may choose to pay the disputed amount and immediately file 

a claim for refund. Payment of the disputed amount will prevent 

further interest from accruing if the taxpayer loses (since there is 

no longer any underpayment) and the taxpayer will earn interest 

on the resultant overpayment if the taxpayer wins. However, the 

taxpayer will generally lose access to the Tax Court if it follows 

this alternative. Amounts paid generally cannot be recovered by 

the taxpayer on demand, but must await final determination of the 

taxpayer’s liability. Even if an overpayment is ultimately determined, overpaid amounts may not be refunded if they are eligible 

to be offset against other liabilities of the taxpayer. 

The taxpayer may also make a deposit in the nature of a cash 

bond. The procedures for making a deposit in the nature of a cash 

bond are provided in Rev. Proc. 84–58. 

A deposit in the nature of a cash bond will stop the running of 

interest on an amount of underpayment equal to the deposit, but 

the deposit does not itself earn interest. A deposit in the nature of 

a cash bond is not a payment of tax and is not subject to a claim 

for credit or refund. A deposit in the nature of a cash bond may 

be made for all or part of the disputed liability and generally may 

be recovered by the taxpayer prior to a final determination. However, a deposit in the nature of a cash bond need not be refunded 

to the extent the Secretary determines that the assessment or collection of the tax determined would be in jeopardy, or that the deposit should be applied against another liability of the taxpayer in 

the same manner as an overpayment of tax. If the taxpayer recovers the deposit prior to final determination and a deficiency is later 

determined, the taxpayer will not receive credit for the period in 

which the funds were held as a deposit. The taxable year to which 

the deposit in the nature of a cash bond relates must be designated, but the taxpayer may request that the deposit be applied 

to a different year under certain circumstances. 

42 

REASONS FOR CHANGE

The Committee believes that taxpayers should be able to limit 

their underpayment interest exposure in a tax dispute. An improved deposit system will help taxpayers better manage their exposure to underpayment interest without requiring them to surrender access to their funds or requiring them to make a potentially indefinite-term investment in a non-interest bearing account. 

The Committee believes that an improved deposit system that allows for the payment of interest on amounts that are not ultimately needed to offset tax liability when the taxpayer’s position 

is upheld, as well as allowing for the offset of tax liability when the 

taxpayer’s position fails, will provide an effective way for taxpayers 

to manage their exposure to underpayment interest. However, the 

Committee believes that such an improved deposit system should 

be reserved for the issues that are known to both parties, either 

through IRS examination or voluntary taxpayer disclosure. 

EXPLANATION OF PROVISION

In general 

The provision allows a taxpayer to deposit cash with the IRS 

that may subsequently be used to pay an underpayment of income, 

gift, estate, generation-skipping, or certain excise taxes. Interest 

will not be charged on the portion of the underpayment that is deposited for the period that the amount is on deposit. Generally, deposited amounts that have not been used to pay a tax may be withdrawn at any time if the taxpayer so requests in writing. The withdrawn amounts will earn interest at the applicable Federal rate to 

the extent they are attributable to a disputable tax. 

The Secretary may issue rules relating to the making, use, and 

return of the deposits. 

Use of a deposit to offset underpayments of tax 

Any amount on deposit may be used to pay an underpayment of 

tax that is ultimately assessed. If an underpayment is paid in this 

manner, the taxpayer will not be charged underpayment interest 

on the portion of the underpayment that is so paid for the period 

the funds were on deposit. 

For example, assume a calendar year individual taxpayer deposits $20,000 on May 15, 2005, with respect to a disputable item on 

its 2004 income tax return. On April 15, 2007, an examination of 

the taxpayer’s year 2004 income tax return is completed, and the 

taxpayer and the IRS agree that the taxable year 2004 taxes were 

underpaid by $25,000. The $20,000 on deposit is used to pay 

$20,000 of the underpayment, and the taxpayer also pays the remaining $5,000. In this case, the taxpayer will owe underpayment 

interest from April 15, 2005 (the original due date of the return) 

to the date of payment (April 15, 2007) only with respect to the 

$5,000 of the underpayment that is not paid by the deposit. The 

taxpayer will owe underpayment interest on the remaining $20,000 

of the underpayment only from April 15, 2005, to May 15, 2005, the 

date the $20,000 was deposited. 

43 

Withdrawal of amounts 

A taxpayer may request the withdrawal of any amount of deposit 

at any time. The Secretary must comply with the withdrawal request unless the amount has already been used to pay tax or the 

Secretary properly determines that collection of tax is in jeopardy. 

Interest will be paid on deposited amounts that are withdrawn at 

a rate equal to the short-term applicable Federal rate for the period 

from the date of deposit to a date not more than 30 days preceding 

the date of the check paying the withdrawal. Interest is not payable to the extent the deposit was not attributable to a disputable 

tax. 

For example, assume a calendar year individual taxpayer receives a 30-day letter showing a deficiency of $20,000 for taxable 

year 2004 and deposits $20,000 on May 15, 2006. On April 15, 

2007, an administrative appeal is completed, and the taxpayer and 

the IRS agree that the 2004 taxes were underpaid by $15,000. 

$15,000 of the deposit is used to pay the underpayment. In this 

case, the taxpayer will owe underpayment interest from April 15, 

2005 (the original due date of the return) to May 15, 2006, the date 

the $20,000 was deposited. Simultaneously with the use of the 

$15,000 to offset the underpayment, the taxpayer requests the return of the remaining amount of the deposit (after reduction for the 

underpayment interest owed by the taxpayer from April 15, 2005, 

to May 15, 2006). This amount must be returned to the taxpayer 

with interest determined at the short-term applicable Federal rate 

from the May 15, 2006, to a date not more than 30 days preceding 

the date of the check repaying the deposit to the taxpayer. 

Limitation on amounts for which interest may be allowed 

Interest on a deposit that is returned to a taxpayer shall be allowed for any period only to the extent attributable to a disputable 

item for that period. A disputable item is any item for which the 

taxpayer (1) has a reasonable basis for the treatment used on its 

return and (2) reasonably believes that the Secretary also has a 

reasonable basis for disallowing the taxpayer’s treatment of such 

item. 

All items included in a 30-day letter to a taxpayer are deemed 

disputable for this purpose. Thus, once a 30-day letter has been 

issued, the disputable amount cannot be less than the amount of 

the deficiency shown in the 30-day letter. A 30-day letter is the 

first letter of proposed deficiency that allows the taxpayer an opportunity for administrative review in the Internal Revenue Service Office of Appeals. 

Deposits are not payments of tax 

A deposit is not a payment of tax prior to the time the deposited 

amount is used to pay a tax. Similarly, withdrawal of a deposit will 

not establish a period for which interest was allowable at the shortterm applicable Federal rate for the purpose of establishing a net 

zero interest rate on a similar amount of underpayment for the 

same period. 

44 

32Sec. 6404(g). This provision was added to the Code by sec. 3305 of the IRS Restructuring 

and Reform Act of 1998 (Pub. L. No. 105–206, July 22,1998). 33This includes any substantial omission of items to which the six-year statute of limitations 

applies (sec. 6051(e), gross valuation misstatements (sec. 6662(h)), and similar provisions. 34 It is intended that this proposal apply retroactively to the period beginning January 1, 2004 

and ending on the date of enactment. 

EFFECTIVE DATE

The provision applies to deposits made after one year after the 

date of enactment. Amounts already on deposit as of the date of enactment are treated as deposited (for purposes of applying this provision) on the date (after one year after the date of enactment) the 

taxpayer identifies the amount as a deposit made pursuant to this 

provision. 

F. FREEZE OF PROVISION REGARDING SUSPENSION OF INTEREST

WHERE SECRETARY FAILS TO CONTACT TAXPAYER

(Sec. 206 of the bill and sec. 6404 of the Code) 

PRESENT LAW

In general, interest and penalties accrue during periods for which 

taxes were unpaid without regard to whether the taxpayer was 

aware that there was tax due. The Code suspends the accrual of 

certain penalties and interest after 1 year if the IRS has not sent 

the taxpayer a notice specifically stating the taxpayer’s liability 

and the basis for the liability within the specified period.32 With 

respect to taxable years beginning before January 1, 2004, the oneyear period is increased to 18 months. Interest and penalties resume 21 days after the IRS sends the required notice to the taxpayer. The provision is applied separately with respect to each item 

or adjustment. The provision does not apply where a taxpayer has 

self-assessed the tax. The suspension only applies to taxpayers who 

file a timely tax return. The provision applies only to individuals 

and does not apply to the failure to pay penalty, in the case of 

fraud, or with respect to criminal penalties. 

REASONS FOR CHANGE

The volume and complexity of the IRS workload has significantly 

increased. The Committee believes that, in light of current IRS capabilities, staffing levels, and resource constraints the one-year period is too short and that the 18-month period should be made the 

permanent rule. 

EXPLANATION OF PROVISION

The provision makes the 18-month rule the permanent rule. The 

provision also adds gross misstatements33 to the list of provisions 

to which the suspension of interest rules do not apply. 

EFFECTIVE DATE

The provision is effective for taxable years beginning after December 31, 2003.34

45 

G. CLARIFICATION OF APPLICATION OF FEDERAL TAX DEPOSIT

PENALTY

(Sec. 207 of the bill) 

PRESENT LAW

In many instances, taxpayers are required to make deposits of 

Federal taxes (sec. 6302). Failure to do so is subject to a penalty 

(sec. 6656). The amount of that penalty depends on the length of 

time that the deposit was not made. The penalty is 2 percent of the 

underpayment if the failure to deposit is for not more than 5 days, 

5 percent for 6 through 15 days, and 10 percent for more than 15 

days. The IRS has stated its position that the 10 percent penalty 

rate automatically applies if a deposit is not made in the manner 

required. 

REASONS FOR CHANGE

The Committee believes that the position of the IRS does not reflect the intent of the Congress in enacting this penalty, that the 

rate of the penalty vary depending on the time of the failure, 

whether the failure being penalized is a failure to make a deposit 

in the manner required or a failure to make a deposit at all. The 

Committee considers it anomalous that the IRS would interpret 

this penalty so that individuals who make the correct deposit but 

not in the manner required are penalized at a higher rate than 

those that do not make a deposit at all until several days after the 

due date. The Committee believes it is more appropriate to penalize taxpayers in similar situations similarly. 

EXPLANATION OF PROVISION

The application of the Federal tax deposit penalty is clarified so 

that the 10 percent penalty rate only applies in cases where the 

failure to deposit extends for more than 15 days. Thus, a taxpayer 

who makes a deposit on time but not in the manner required will 

be subject to a penalty of 2 percent. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

H. FRIVOLOUS TAX RETURNS AND SUBMISSIONS

(Sec. 208 of the bill and sec. 6702 of the Code) 

PRESENT LAW

The Code provides that an individual who files a frivolous income 

tax return is subject to a penalty of $500 imposed by the IRS (sec. 

6702). The Code also permits the Tax Court to impose a penalty 

of up to $25,000 if a taxpayer has instituted or maintained proceedings primarily for delay or if the taxpayer’s position in the proceeding is frivolous or groundless (sec. 6673(a)). 

REASONS FOR CHANGE

The Committee believes that frivolous returns and submissions 

consume resources at the IRS and in the courts that can better be 

utilized in resolving legitimate disputes with taxpayers. Expanding 

46 

35Sec. 6631. 36Sec. 6751. 

the scope of the penalty to cover all taxpayers and tax returns promotes fairness in the tax system. The Committee believes that 

adopting this provision will improve effective tax administration. 

EXPLANATION OF PROVISION

The provision modifies this IRS-imposed penalty by increasing 

the amount of the penalty to up to $5,000 and by applying it to all 

taxpayers and to all types of Federal taxes. 

The provision also modifies present law with respect to certain 

submissions that raise frivolous arguments. The submissions to 

which this provision applies are requests for a collection due process hearing, installment agreements, offers-in-compromise, and taxpayer assistance orders. The proposal permits the IRS to impose a 

penalty of up to $5,000 for such requests, unless the taxpayer withdraws the request promptly after being given an opportunity to do 

so. 

The provision requires the IRS to publish a list of positions, arguments, requests, and proposals determined to be frivolous for 

purposes of these provisions. 

EFFECTIVE DATE

The provision is effective for submissions made and issues raised 

after the date on which the Secretary first prescribes the required 

list. 

I. EXTENSION OF NOTICE REQUIREMENTS WITH RESPECT TO

INTEREST AND PENALTY CALCULATIONS

(Sec. 209 of the bill and secs. 3306 and 3308 of the Internal Revenue Service Restructuring and Reform Act of 1998) 

PRESENT LAW

The Code requires that the IRS include in every notice to an individual taxpayer requiring the payment of interest a computation 

of the interest and information regarding the provision of the Code 

under which interest is imposed.35 A similar requirement generally 

applies with respect to notices imposing penalties.36 In the case of 

notices issued after June 30, 2001, and before July 1, 2003, these 

requirements were treated as met if the notice contained a telephone number for the IRS from whom the taxpayer could request 

the relevant information. 

REASONS FOR CHANGE

In light of IRS resources and technology constraints, the Committee believes that the application of this special telephone number rule should be extended for several years. 

EXPLANATION OF PROVISION

The provision extends the application of this special telephone 

number rule. 

47 

EFFECTIVE DATE

The provision is effective for notices issued before July 1, 2006. 

J. EXPANSION OF INTEREST NETTING

(Sec. 210 of the bill and sec. 6621 of the Code) 

PRESENT LAW

A special net interest rate of zero applies to the extent that, for 

any period, interest is payable under subchapter A and allowable 

under subchapter B on equivalent underpayments and overpayments by the same taxpayer. If both the underpayment and overpayment are unsatisfied, the interest rate applied to both will be 

zero. If either the underpayment or overpayment has previously 

been satisfied, the interest rate applicable to the unsatisfied 

amount will be equal to the interest rate applicable to the satisfied 

amount to the extent that interest was allowable or payable on 

both the underpayment and the overpayment for the same period. 

Interest must be both payable and allowable for interest netting 

to apply. If interest is not payable by the taxpayer with respect to 

an underpayment of tax, or interest is not allowable to the taxpayer on an overpayment of tax, the interest netting rules will not 

apply. 

For example, on July 1, 2017, a deficiency of $1,500 is determined with respect to a taxpayer’s 2014 Federal income tax return, 

which the taxpayer pays within 21 days. In the meantime, the taxpayer has filed returns for 2015 and 2016, showing a refund due 

to overwithholding each year of $1,000. The IRS issues the appropriate refund checks on May 15 of each year, within 45 days of the 

due date of the return. Thus, interest is not allowable to the taxpayer with respect to either 2015 or 2016. In this case, the taxpayer owes interest on the $1,500 year 2014 underpayment from 

the original due date of the return (April 15, 2015) until the underpayment is satisfied. Although, there are offsetting periods of overpayment (April 15, 2016 to May 15, 2016 and April 15, 2017 to 

May 15, 2017), there is no offsetting period for which interest is allowable on an overpayment. 

REASONS FOR CHANGE

Interest represents the time value of money. The Committee believes that allowing taxpayers to consider the period of time the 

Secretary is allowed to process a refund in determining a net interest rate reflects this principle by recognizing that the government 

had use of the taxpayer’s overpayment even though such overpayment was not allowable (i.e., periods of mutual indebtedness). 

EXPLANATION OF PROVISION

In the case of any taxpayer (whether an individual or corporation 

or other), the interest netting rules are applied without regard to 

the 45-day period in which the Secretary may refund an overpayment of tax without the payment of interest under section 6611(e). 

Solely for the purpose of the interest netting computation, the portion of the 45-day period before repayment of the overpayment is 

considered as a period for which overpayment interest was allowVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00047 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
48 

37Sec. 6330(a). 38Sec. 6320. 39Sec. 6330(d). 40Sec. 7441. 41Sec. 7442. 

able at a zero rate. The provision does not modify the period for 

which interest is payable or allowable for any other purpose. 

In the example discussed as part of present law, above, a net in- terest rate of zero would be applied to $1,000 of the taxpayer’s year 

2014 underpayment for the periods between the due date of the 

2015 and 2016 returns and the dates on which the refunds are 

made. The taxpayer in the example would owe interest at the underpayment rate for the periods from April 16, 2015, to April 15, 

2016; May 16, 2016 to April 15, 2017; and from May 16, 2017 to 

July 1, 2017. For the periods April 15, 2016, to May 15, 2016 and 

April 15, 2017 to May 15, 2017, a zero net interest rate will apply. 

EFFECTIVE DATE

The provision is effective for interest accrued after December 31, 

2010. 

TITLE III.—UNITED STATES TAX COURT MODERNIZATION 

A. CONSOLIDATE REVIEW OF COLLECTION DUE PROCESS CASES IN

THE TAX COURT

(Sec. 301 of the bill and sec. 6330 of the Code) 

PRESENT LAW

In general, the Internal Revenue Service (‘‘IRS’’) is required to 

notify taxpayers that they have a right to a fair and impartial 

hearing before levy may be made on any property or right to property.37 Similar rules apply with respect to liens.38 The hearing is 

held by an impartial officer from the IRS Office of Appeals, who is 

required to issue a determination with respect to the issues raised 

by the taxpayer at the hearing. The taxpayer is entitled to appeal 

that determination to a court. The appeal must be brought to the 

Tax Court, unless the Tax Court does not have jurisdiction over the 

underlying tax liability. If that is the case, then the appeal must 

be brought in the district court of the United States.39 If a court 

determines that an appeal was not made to the correct court, the 

taxpayer has 30 days after such determination to file with the correct court. 

The Tax Court is established under Article I of the United States 

Constitution 40 and is a court of limited jurisdiction.41 Thus, the 

Tax Court may not have jurisdiction over the underlying tax liability with respect to an appeal of a due process hearing relating to 

a collections matter. As a practical matter, many cases involving 

such appeals (whether within the jurisdiction of the Tax Court or 

a district court) do not involve the underlying tax liability. 

REASONS FOR CHANGE

The Tax Court does not have jurisdiction over all of the tax 

issues underlying collection due process cases (such as issues involving most excise taxes). The judicial appeals structure of present 

law was designed in recognition of these jurisdictional limitations; 

49 

42Sec. 7436. 43Sec. 7436(c). 44Sec. 7443A. 

however, in many cases the underlying taxes are not involved in 

determining the due process issue. The present-law structure can 

lead to confusion over which court is the proper court in which to 

file an appeal. Some believe that this confusion may also be used 

by some taxpayers seeking to delay the collection process. Accordingly, the Committee believes that the Tax Court should have jurisdiction over all appeals of collection due process determinations. 

The simplification provided will both benefit the taxpayers involved 

and the IRS by eliminating confusion over which court is the proper venue for appeal and will reduce the period of time before judicial review. This provision will also eliminate the opportunity to 

use the present-law rules in unintended ways to delay or defeat the 

collection process. 

EXPLANATION OF PROVISION

The provision modifies the jurisdiction of the Tax Court by providing that all appeals of collection due process determinations are 

to be made to the United States Tax Court. 

EFFECTIVE DATE

The provision applies to determinations made by the IRS after 

the date of enactment. 

B. EXTEND AUTHORITY FOR SPECIAL TRIAL JUDGES TO HEAR AND

DECIDE CERTAIN EMPLOYMENT STATUS CASES

(Sec. 302 of the bill and sec. 7443A of the Code) 

PRESENT LAW

In connection with the audit of any person, if there is an actual 

controversy involving a determination by the IRS as part of an examination that (1) one or more individuals performing services for 

that person are employees of that person or (2) that person is not 

entitled to relief under section 530 of the Revenue Act of 1978, the 

Tax Court has jurisdiction to determine whether the IRS is correct 

and the proper amount of employment tax under such determination.42 Any redetermination by the Tax Court has the force and effect of a decision of the Tax Court and is reviewable. 

An election may be made by the taxpayer for small case proce- dures if the amount of the employment taxes in dispute is $50,000 

or less for each calendar quarter involved.43 The decision entered 

under the small case procedure is not reviewable in any other court 

and should not be cited as authority. 

The chief judge of the Tax Court may assign proceedings to special trial judges. The Code enumerates certain types of proceedings 

that may be so assigned and may be decided by a special trial 

judge. In addition, the chief judge may designate any other proceeding to be heard by a special trial judge.44

REASONS FOR CHANGE

The Committee believes that clarifying that special trial judges 

may decide proceedings involving a determination of employment 

50 

45See Stone v. White, 301 U.S. 532 (1937); Bull v. United States, 295 U.S. 247 (1935). 46 153 F.3d 302 (6th Cir.), cert. den., 525 U.S. 1140 (1999). 47 264 F.3d 904 (9th Cir.), cert. den., 2002 U.S. LEXIS 1545 (U.S. Mar. 18, 2002). 

status in which the amount of employment taxes in dispute is 

$50,000 or less for each calendar quarter involved will improve the 

operations and internal functioning of the Tax Court. 

EXPLANATION OF PROVISION

The provision clarifies that the chief judge of the Tax Court may 

assign to special trial judges any employment tax cases that are 

subject to the small case procedure and may authorize special trial 

judges to decide such small tax cases. 

EFFECTIVE DATE

The provision is effective for any action or proceeding in the Tax 

Court with respect to which a decision has not become final as of 

the date of enactment. 

C. CONFIRMATION OF TAX COURT AUTHORITY TO APPLY EQUITABLE

RECOUPMENT

(Sec. 303 of the bill and sec. 6214 of the Code) 

PRESENT LAW

Equitable recoupment is a common-law equitable principle that 

permits the defensive use of an otherwise time-barred claim to reduce or defeat an opponent’s claim if both claims arise from the 

same transaction. U.S. District Courts and the U.S. Court of Federal Claims, the two Federal tax refund forums, may apply equitable recoupment in deciding tax refund cases.45 In Estate of 

Mueller v. Commissioner,46 the Court of Appeals for the Sixth Circuit held that the Tax Court may not apply the doctrine of equitable recoupment. More recently, the Court of Appeals for the 

Ninth Circuit, in Branson v. Commissioner,47 held that the Tax 

Court may apply the doctrine of equitable recoupment. 

REASONS FOR CHANGE

The Committee believes that it is important to resolve the conflict among the circuit courts by eliminating the uncertainty or confusion of differing results in differing circuits. The Committee also 

believes that the provision will provide simplification benefits to 

both taxpayers and the IRS. 

EXPLANATION OF PROVISION

The provision confirms that the Tax Court may apply the principle of equitable recoupment to the same extent that it may be applied in Federal civil tax cases by the U.S. District Courts or the 

U.S. Court of Claims. No implication is intended as to whether the 

Tax Court has the authority to continue to apply other equitable 

principles in deciding matters over which it has jurisdiction. 

51 

48Sec. 7451. 49See Rule 20(a) of the Tax Court Rules of Practice and Procedure. 50Sec. 7441. 51Sec. 7471. 

EFFECTIVE DATE

The provision is effective for any action or proceeding in the Tax 

Court with respect to which a decision has not become final as of 

the date of enactment. 

D. TAX COURT FILING FEE

(Sec. 304 of the bill and sec. 7451 of the Code) 

PRESENT LAW

The Tax Court is authorized to impose a fee of up to $60 for the 

filing of any petition for the redetermination of a deficiency or for 

declaratory judgments relating to the status and classification of 

501(c)(3) organizations, the judicial review of final partnership administrative adjustments, and the judicial review of partnership 

items if an administrative adjustment request is not allowed in 

full.48 The statute does not specifically authorize the Tax Court to 

impose a filing fee for the filing of a petition for review of the IRS’s 

failure to abate interest or for failure to award administrative costs 

and other areas of jurisdiction for which a petition may be filed. 

The practice of the Tax Court is to impose a $60 filing fee in all 

cases commenced by petition.49

REASONS FOR CHANGE

The Committee believes it is appropriate to clarify that the Tax 

Court filing fee applies to any case commenced by the filing of a 

petition. 

EXPLANATION OF PROVISION

The provision provides that the Tax Court is authorized to charge a filing fee of up to $60 in all cases commenced by the filing 

of a petition. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

E. APPOINTMENT OF TAX COURT EMPLOYEES

(Sec. 305 of the bill and sec. 7471(a) of the Code) 

PRESENT LAW

The Tax Court is a legislative court established by the Congress 

pursuant to Article I of the U.S. Constitution (an ‘‘Article I’’ 

court).50 The Tax Court is authorized to appoint employees, subject 

to the rules applicable to employment with the Executive Branch 

of the Federal Government (generally referred to as ‘‘competitive 

service’’), as administered by the Office of Personnel Management.51

Employment with the Federal Executive Branch is governed by 

certain general statutory principles, such as recruitment of qualified individuals, fair and equitable treatment of employees and apVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00051 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
52 

52See, e.g., S. Rep. No. 91–552, at 302 (1969). 

plicants, maintenance of high standards of employee conduct, and 

protection of employees against arbitrary action. The rules for employment in the Federal Executive Branch address various aspects 

of such employment, including: (1) procedures for the appointment 

of employees in the competitive service, including preferences for 

certain individuals (e.g., veterans); (2) compensation, benefits, and 

leave programs for employees; (3) appraisals of employee performance; (4) disciplinary actions; and (5) employee rights, including appeal rights. In addition, employees are protected from certain personnel practices (referred to as ‘‘prohibited personnel practices’’), 

such as discrimination on the basis of race, color, religion, age, sex, 

national origin, political affiliation, marital status, or handicapping 

condition. 

REASONS FOR CHANGE

The Tax Court was established as an Article I court in part because of its need for independence from the Executive Branch and 

its responsibility for reviewing determinations of a Federal Executive Branch agency (i.e., the Internal Revenue Service).52 Accordingly, the Committee believes that the Tax Court should have the 

authority to establish its own personnel system, rather than being 

subject to the rules administered by the Federal Executive Branch. 

Similar authority has previously been provided to other Article I 

courts and to courts established under Article III of the U.S. Constitution. The Committee also believes that a personnel system established by the Tax Court should be consistent with the general 

principles that govern other employment with the Federal Government and should provide certain protections to employees. 

EXPLANATION OF PROVISION

The provision extends to the Tax Court authority to establish its 

own personnel management system. Any personnel management 

system adopted by the Tax Court must: (1) include the merit system principles that govern employment with the Federal Executive 

Branch; (2) prohibit personnel practices that are prohibited in the 

Federal Executive Branch; and (3) in the case of an individual eligible for preference for employment in the Federal Executive Branch, 

provide preference for that individual in a manner and to an extent 

consistent with preference in the Federal Executive Branch. 

The provision requires the Tax Court to prohibit discrimination 

on the basis of race, color, religion, age, sex, national origin, political affiliation, marital status, or handicapping condition. The Tax 

Court is also required to promulgate procedures for resolving complaints of discrimination by employees and applicants for employment. 

The provision allows the Tax Court to appoint a clerk without regard to the Federal Executive Branch rules regarding appointments in the competitive service. Under the provision, the clerk 

serves at the pleasure of the Tax Court. 

The provision also allows the Tax Court to appoint other necessary employees without regard to the Federal Executive Branch 

rules regarding appointments in the competitive service. Under the 

provision, these employees are subject to removal by the Tax Court. 

53 

53Sec. 7475. 

The provision allows judges and special trial judges of the Tax 

Court to appoint law clerks and secretaries, in such numbers as the 

Tax Court may approve, without regard to the Federal Executive 

Branch rules regarding appointments in the competitive service. 

Under the provision, a law clerk or secretary serves at the pleasure 

of the appointing judge. 

The provision exempts law clerks from the sick leave and annual 

leave provisions applicable to employees of the Federal Executive 

Branch. Any unused sick or annual leave to the credit of a law 

clerk as of the effective date of the provision remains credited to 

the individual and is available to the individual upon separation 

from the Federal Government, or upon transfer to a position subject to such sick leave and annual leave provisions. 

The provision allows the Tax Court to fix and adjust the compensation of the clerk and other employees without regard to the 

Federal Executive Branch rules regarding employee classifications 

and pay rates. To the maximum extent feasible, Tax Court employees are to be compensated at rates consistent with those of employees holding comparable positions in the Federal Judicial Branch. 

The Tax Court may also establish programs for employee evaluations, premium pay, and resolution of employee grievances. 

In the case of an individual who is an employee of the Tax Court 

on the day before the effective date of the provision, the provision 

preserves certain rights that the employee is entitled to as of that 

day. The provision preserves the right to: (1) appeal a reduction in 

grade or removal; (2) appeal an adverse action; (3) appeal a prohibited personnel practice; (4) make an allegation of a prohibited personnel practice; or (5) file an employment discrimination appeal. 

These rights are preserved for as long as the individual remains an 

employee of the Tax Court. 

Under the provision, a Tax Court employee who completes at 

least one year of continuous service under a nontemporary appointment with the Tax Court acquires competitive service status for appointment to any position in the Federal Executive Branch competitive service for which the employee possesses the required 

qualifications. 

The provision also allows the Tax Court to procure the services 

of experts and consultants in accordance with Federal Executive 

Branch rules. 

EFFECTIVE DATE

The provision is effective on the date that the Tax Court adopts 

a personnel management system after date of enactment of the provision. 

F. USE OF PRACTITIONER FEE

(Sec. 306 of the bill and sec. 7475 of the Code) 

PRESENT LAW

The Tax Court is authorized to impose on practitioners admitted 

to practice before the Tax Court a fee of up to $30 per year.53

54 

54Sec. 7441. 55Sec. 7443(c). 56Secs. 7447 and 7448. 

These fees are to be used to employ independent counsel to pursue 

disciplinary matters. 

REASONS FOR CHANGE

The Committee understands that many pro se taxpayers are not 

familiar with Tax Court procedures and applicable legal requirements. The Committee believes it is beneficial for Tax Court fees 

imposed on practitioners also to be available to provide services to 

pro se taxpayers. 

EXPLANATION OF PROVISION

The provision provides that Tax Court fees imposed on practitioners also are available to provide services to pro se taxpayers. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

G. TAX COURT PENSION AND COMPENSATION

1. Judges of the Tax Court (secs. 311–317 and 323 of the bill and 

secs. 7443, 7447, 7448, and 7472 of the Code) 

PRESENT LAW

The Tax Court is established by the Congress pursuant to Article 

I of the U.S. Constitution.54 The salary of a Tax Court judge is the 

same salary as received by a United States District Court judge.55

Present law also provides Tax Court judges with some benefits that 

correspond to benefits provided to United States District Court 

judges, including specific retirement and survivor benefit programs 

for Tax Court judges.56

Under the retirement program, a Tax Court judge may elect to 

receive retirement pay from the Tax Court in lieu of benefits under 

another Federal retirement program. A Tax Court judge may also 

elect to participate in a plan providing annuity benefits for the 

judge’s surviving spouse and dependent children (the ‘‘survivors’ 

annuity plan’’). Generally, benefits under the survivors’ annuity 

plan are payable only if the judge has performed at least five years 

of service. Cost-of-living increases in benefits under the survivors’ 

annuity plan are generally based on increases in pay for active 

judges. 

Tax Court judges participate in the Federal Employees Group 

Life Insurance program (the ‘‘FEGLI’’ program). Retired Tax Court 

judges are eligible to participate in the FEGLI program as the result of an administrative determination of their eligibility, rather 

than a specific statutory provision. 

Tax Court judges are not covered by the leave system for Federal 

Executive Branch employees. As a result, an individual who works 

in the Federal Executive Branch before being appointed to the Tax 

Court does not continue to accrue annual leave under the same 

leave program and may not use leave accrued prior to his or her 

appointment to the Tax Court. 

55 

57See, e.g., S. Rep. No. 91–552, at 303 (1969). 58This date relates to changes in the FEGLI program, including changes to premium rates 

to reflect employees’ ages. 

Tax Court judges are not eligible to participate in the Thrift Savings Plan. 

Tax Court judges are subject to limitations on outside earned income under the Ethics in Government Act of 1978. 

REASONS FOR CHANGE

Tax Court judges receive compensation at the same rate as 

United States District Court judges. In addition, the benefit programs for Tax Court judges are intended to accord with similar 

programs applicable to District Court judges.57 However, subsequent legislative changes in the benefits provided to District Court 

judges have not applied to Tax Court judges, thus creating disparities between the treatment of Tax Court judges and the treatment 

of District Court judges. The Committee believes that parity should 

exist between the benefits provided to Tax Court judges and those 

provided to District Court judges. 

EXPLANATION OF PROVISION

Survivor annuities for assassinated judges 

Under the provision, benefits under the survivors’ annuity plan 

are payable if a Tax Court judge is assassinated before the judge 

has performed five years of service. 

Cost-of-living adjustments for survivor annuities 

The provision provides that cost-of-living increases in benefits 

under the survivors’ annuity plan are generally based on cost-of-living increases in benefits paid under the Civil Service Retirement 

System. 

Life insurance coverage 

Under the provision, a judge or retired judge of the Tax Court 

is deemed to be an employee continuing in active employment for 

purposes of participation in the Federal Employees Group Life Insurance program. In addition, in the case of a Tax Court judge age 

65 or over, the Tax Court is authorized to pay on behalf of the 

judge any increase in employee premiums under the FEGLI program that occur after April 24, 1999,58 including expenses generated by such payment, as authorized by the chief judge of the 

Tax Court in a manner consistent with payments authorized by the 

Judicial Conference of the United States (i.e., the body with policymaking authority over the administration of the courts of the Federal Judicial Branch). 

Accrued annual leave 

Under the provision, in the case of a judge who is employed by 

the Federal Executive Branch before appointment to the Tax Court, 

the judge is entitled to receive a lump-sum payment for the balance 

of his or her accrued annual leave on appointment to the Tax 

Court. 

56 

59Sec. 7441. 60Sec. 7443A. 

Thrift Savings Plan participation 

Under the provision, Tax Court judges are permitted to participate in the Thrift Savings Plan. A Tax Court judge is not eligible 

for agency contributions to the Thrift Savings Plan. 

Exemption for teaching compensation from outside earned income 

limitations 

Under the provision, compensation earned by a retired Tax Court 

judge for teaching is not treated as outside earned income for purposes of limitations under the Ethics in Government Act of 1978. 

EFFECTIVE DATE

The provisions are effective on the date of enactment, except 

that: (1) the provision relating to cost-of-living increases in benefits 

under the survivors’ annuity plan applies with respect to increases 

in Civil Service Retirement benefits taking effect after the date of 

enactment; (2) the provision relating to payment of accrued annual 

leave applies to any Tax Court judge with an outstanding leave 

balance as of the date of enactment and to any individual appointed to serve as a Tax Court judge after such date; (3) the provision relating to participation by Tax Court judges in the Thrift Savings Plan applies as of the next open season; and (4) the provision 

relating to teaching compensation of a retired Tax Court judge applies to any individual serving as a retired Tax Court judge on or 

after the date of enactment. 

2. Special trial judges of the Tax Court (secs. 318–323 of the bill 

and sec. 7448 and new secs. 7443A, 7443B, and 7443C of the 

Code) 

PRESENT LAW

The Tax Court is established by the Congress pursuant to Article 

I of the U.S. Constitution.59 The chief judge of the Tax Court may 

appoint special trial judges to handle certain cases.60 Special trial 

judges serve for an indefinite term. Special trial judges receive a 

salary of 90 percent of the salary of a Tax Court judge and are generally covered by the benefit programs that apply to Federal Executive Branch employees, including the Civil Service Retirement System or the Federal Employees’ Retirement System. 

REASONS FOR CHANGE

Special trial judges of the Tax Court perform a role similar to 

that of magistrate judges in courts established under Article III of 

the U.S. Constitution (‘‘Article III’’ courts). However, disparities 

exist between the positions of magistrate judges of Article III 

courts and special trial judges of the Tax Court. For example, magistrate judges of Article III courts are appointed for a specific term, 

are subject to removal only in limited circumstances, and are eligible for coverage under special retirement and survivor benefit programs. The Committee believes that special trial judges of the Tax 

Court and magistrate judges of Article III courts should receive 

57 

comparable treatment as to the status of the position, salary, and 

benefits. 

EXPLANATION OF PROVISION

Magistrate judges of the Tax Court 

Under the provision, the position of special trial judge of the Tax 

Court is renamed as magistrate judge of the Tax Court. Magistrate 

judges are appointed (or reappointed) to serve for eight-year terms 

and are subject to removal in limited circumstances. 

Under the provision, a magistrate judge receives a salary of 92 

percent of the salary of a Tax Court judge. 

The provision exempts magistrate judges from the leave program 

that applies to employees of the Federal Executive Branch and provides rules for individuals who are subject to such leave program 

before becoming exempt. 

Survivors’ annuity plan 

Under the provision, magistrate judges of the Tax Court may 

elect to participate in the survivors’ annuity plan for Tax Court 

judges. An election to participate in the survivors’ annuity plan 

must be filed not later than the latest of six months after: (1) the 

date of enactment of the provision; (2) the date the judge takes office; or (3) the date the judge marries. 

Retirement annuity program for magistrate judges 

The provision establishes a new retirement annuity program for 

magistrate judges of the Tax Court, under which a magistrate 

judge may elect to receive a retirement annuity from the Tax Court 

in lieu of benefits under another Federal retirement program. A 

magistrate judge may elect to be covered by the retirement program within five years of appointment or five years of date of enactment. A magistrate judge who elects to be covered by the retirement program generally receives a refund of contributions (with interest) made to the Civil Service Retirement System or the Federal 

Employees’ Retirement System. 

A magistrate judge may retire at age 65 with 14 years of service 

and receive an annuity equal to his or her salary at the time of retirement. For this purpose, service may include service performed 

as a special trial judge or a magistrate judge, provided the service 

is performed no earlier than 91⁄2 years before the date of enactment 

of the provision. The provision also provides for payment of a reduced annuity in the case a magistrate judge with at least eight 

years of service or in the case of disability or failure to be reappointed. 

A magistrate judge receiving a retirement annuity is entitled to 

cost-of-living increases based on cost-of-living increases in benefits 

paid under the Civil Service Retirement System. However, such an 

increase cannot cause the retirement annuity to exceed the current 

salary of a magistrate judge. 

Contributions of one percent of salary are withheld from the salary of a magistrate judge who elects to participate in the retirement annuity program. Such contributions must be made also with 

respect to prior service for which the magistrate judge elects credit 

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58 

quired after 14 years of service. A lump sum refund of the magistrate judge’s contributions (with interest) is made if no annuity 

is payable, for example, if the magistrate judge dies before retirement. 

A magistrate judge’s right to a retirement annuity is generally 

suspended or reduced in the case of employment outside the Tax 

Court. 

The provision includes rules under which annuity payments may 

be made to a person other than the magistrate judge in certain circumstances, such as divorce or legal separation, under a court decree, a court order, or court-approved property settlement. 

The provision establishes the Tax Court Judicial Officers’ Retirement Fund (the ‘‘Fund’’). Amounts in the Fund are authorized to 

be appropriated for the payment of annuities, refunds, and other 

payments under the retirement annuity program. Contributions 

withheld from a magistrate judge’s salary are deposited in the 

Fund. In addition, the provision authorizes to be appropriated to 

the Fund amounts required to reduce the Fund’s unfunded liability 

to zero. For this purpose, the Fund’s unfunded liability means the 

estimated excess, actuarially determined on an annual basis, of the 

present value of benefits payable from the Fund over the sum of 

(1) the present value of contributions to be withheld from the future salary of the magistrate judges and (2) the balance in the 

Fund as of the date the unfunded liability is determined. 

Under the provision, a magistrate judge who elects to participate 

in the retirement annuity program is also permitted to participate 

in the Thrift Savings Plan. Such a magistrate judge is not eligible 

for agency contributions to the Thrift Savings Plan. 

Retirement annuity rule for incumbent magistrate judges 

The provision provides a transition rule for magistrate judges in 

active service on the date of enactment of the provision. Under the 

transition rule, such a magistrate judge is entitled to an annuity 

under the Civil Service Retirement System or the Federal Employees’ Retirement System based on prior service that is not credited 

under the magistrate judges’ retirement annuity program. If the 

magistrate judge made contributions to the Civil Service Retirement System or the Federal Employees’ Retirement System with 

respect to service that is credited under the magistrate judges’ retirement annuity program, such contributions are refunded (with 

interest). 

A magistrate judge who elects the transition rule is also entitled 

to the annuity payable under the magistrate judges’ retirement 

program in the case of retirement with at least eight years of service or on failure to be reappointed. This annuity is based on service 

as a magistrate judge or special trial judge of the Tax Court that 

is performed no earlier than 91⁄2 years before the date of enactment 

of the provision and for which the magistrate judge makes contributions of one percent of salary. 

Recall of retired magistrate judges 

The provision provides rules under which a retired magistrate 

judge may be recalled to perform services for a limited period. 

59 

61Sec. 7611. 

EFFECTIVE DATE

The provisions are effective on date of enactment. 

TITLE IV.—CONFIDENTIALITY AND DISCLOSURE 

A. CLARIFICATION OF DEFINITION OF CHURCH TAX INQUIRY

(Sec. 401 of the bill and sec. 7611 of the Code) 

PRESENT LAW

Under present law, the IRS may begin a church tax inquiry only 

if an appropriate high-level Treasury official reasonably believes, 

on the basis of the facts and circumstances recorded in writing, 

that an organization (1) may not qualify for tax exemption as a 

church, (2) may be carrying on an unrelated trade or business, or 

(3) otherwise may be engaged in taxable activities.61 A church tax 

inquiry is defined as any inquiry to a church (other than an examination) that serves as a basis for determining whether the organization qualified for tax exemption as a church or whether it is carrying on an unrelated trade or business or otherwise is engaged in 

taxable activities. An inquiry is considered to commence when the 

IRS requests information or materials from a church of a type contained in church records, other than routine requests for information or inquiries regarding matters that do not primarily concern 

the tax status or liability of the church itself. 

REASONS FOR CHANGE

The Committee believes that the present-law church tax inquiry 

procedures provide important safeguards against the IRS engaging 

in unnecessary and intrusive examinations of churches. However, 

the church tax inquiry procedures also have the effect of hampering 

IRS efforts to educate churches with respect to actions that are not 

permissible under section 501(c)(3). The Committee believes that a 

clarification of the scope of the church tax inquiry procedures to 

make it clear that the IRS may undertake educational outreach efforts with respect to specific churches (e.g., initiating meetings with 

representatives of a particular church to discuss the rules that 

apply to such church) will improve compliance with the law by 

churches. 

DESCRIPTION OF PROVISION

The provision clarifies that the church tax inquiry procedures do 

not apply to contacts made by the IRS for the purpose of educating 

churches with respect to the federal income tax law governing taxexempt organizations. For example, the IRS does not violate the 

church tax inquiry procedures when written materials are provided 

to a church or churches for the purpose of educating such church 

or churches with respect to the types of activities that are not permissible under section 501(c)(3). 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

60 

62 ‘‘The IRS does not routinely disclose collection information to a former spouse that relates 

to tax liabilities attributable to a joint return that was filed when married.’’ Joint Committee 

on Taxation, General Explanation of Taxation Legislation Enacted in the 104th Congress (JCS– 

12–96), December 18, 1996 at 29. 63Sec. 6103(e)(8). 64Sec. 7803(d)(1)(B). 

B. COLLECTION ACTIVITIES WITH RESPECT TO A JOINT RETURN

DISCLOSABLE TO EITHER SPOUSE BASED ON ORAL REQUEST

(Sec. 402 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Section 6103(e) concerns disclosures to persons with a material 

interest. section 6103(e)(1)(B) requires, upon written request, the 

IRS to allow the inspection or disclosure of a joint return to either 

of the individuals with respect to whom the return is filed. Section 

6103(e)(7) permits the IRS to disclose return information to the 

same persons who may have access to a return under the other 

provisions of section 6103(e). Requests for information pursuant to 

section 6103(e)(7) do not have to be in writing. Pursuant to section 

6103(e)(7) and section 6103(e)(1)(B), either spouse may obtain return information regarding a joint return, including collection information without making a written request. 

In response to concerns that former spouses were not able to obtain information regarding collection activities relating to a joint 

return, the Taxpayer Bill of Rights 2 added section 6103(e)(8).62

When a deficiency is assessed with respect to a joint return and the 

individuals are no longer married or no longer reside in the same 

household, upon request in writing by either of such individuals, 

the IRS is required to disclose: (1) whether the IRS has attempted 

to collect such deficiency from the other individual; (2) the general 

nature of such collection activities; and (3) the amount collected.63

The Treasury Inspector General for Tax Administration conducts 

semiannual reports involving a review and certification of whether 

the Secretary is complying with the requirements of disclosing information to an individual filing a joint return on collection activity 

involving the other individual filing the return.64

REASONS FOR CHANGE

The Committee believes that former spouses should be able to receive collection information with respect to a joint return in the 

same manner as if they were current spouses. Thus, a former 

spouse should not be required to make a written request because 

if the spouses were still married, a written request would not be 

required. 

EXPLANATION OF PROVISION

The provision eliminates the requirement for former spouses to 

make a written request for disclosure of collection activities with 

respect to a joint return. The provision also eliminates the Treasury Inspector General for Tax Administration’s reporting requirement associated with the disclosure of collection activities with respect to a joint return. 

61 

65 Internal Revenue Service, IRS Legal Memorandum ILM 199941038 (August 19, 1999). 66The Integrated Data Retrieval System (commonly referred to as ‘‘IDRS’’) is the IRS’s primary computer database for return information. 

EFFECTIVE DATE

The provision is effective for requests and reports made after the 

date of enactment. 

C. TAXPAYER REPRESENTATIVES NOT SUBJECT TO EXAMINATION ON

SOLE BASIS OF REPRESENTATION OF TAXPAYERS

(Sec. 403 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Under section 6103(h)(1), returns and return information are, 

without written request, open to inspection by or disclosure to officers and employees of the Department of the Treasury, including 

IRS employees, whose official duties require such inspection or disclosure for tax administration purposes. The Office of Chief Counsel issued an opinion stating that it was appropriate for a local IRS 

employee to examine tax records to determine whether taxpayer 

representatives who submit Form 2848 (Power of Attorney) are current in their tax obligations.65 The opinion concluded that section 

6103(h)(1) permits local IRS employees to access the Integrated 

Data Retrieval System 66 to determine whether a taxpayer’s representative is current in his or her tax obligations. 

REASONS FOR CHANGE

The Committee believes that the official duties of the IRS employee examining a taxpayer concern the tax affairs of the taxpayer, not the taxpayer’s representative. The taxpayer is under 

audit, not the taxpayer’s representative. Whether the representative has filed his or her returns ordinarily has no bearing on the 

IRS’s determination of the liability of the taxpayer. An IRS employee should make a referral to the Director of Practice, if the employee has reason to believe the taxpayer’s representative has engaged in inappropriate behavior. 

EXPLANATION OF PROVISION

The provision clarifies that an IRS employee conducting an examination of a taxpayer is not authorized to inspect a taxpayer representative’s return or return information solely on the basis of the 

representative’s relationship to the taxpayer. Under the provision, 

the supervisor of an IRS employee is required to approve such inspection after making a determination that other grounds justify 

such an inspection. The provision does not affect the ability of employees of the IRS Director of Practice, or other employees whose 

assigned duties concern the regulation of practice before the IRS, 

to access returns and return information of a representative. 

EFFECTIVE DATE

The provision is effective after the date of enactment. 

62 

67Sec. 6103(k)(l). 68Treas. Reg. sec. 601.702(d)(8). 

D. PROHIBITION OF DISCLOSURE OF TAXPAYER IDENTIFICATION INFORMATION WITH RESPECT TO DISCLOSURE OF ACCEPTED OFFERSIN-COMPROMISE

(Sec. 404 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Section 6103 permits the IRS to disclose return information to 

members of the general public to permit inspection of accepted offers in compromise.67 For one year after the date of execution, a 

copy of the Form 7249, ‘‘Offer Acceptance Report,’’ for each accepted offer in compromise with respect to any liability for a tax imposed by Title 26 is made available for inspection and copying in 

the location designated by the Compliance Area Director or Compliance Services Field Director within the Small Business and SelfEmployed Division of the taxpayer’s geographic area of residence.68

Currently, this form contains the taxpayer identification number of 

the taxpayer, e.g., the social security number in the case of an individual taxpayer, along with the taxpayer’s name and full address. 

REASONS FOR CHANGE

The IRS’s determination to accept an offer-in-compromise is 

based on decisions relating to analysis of the individual taxpayer’s 

facts and circumstances and financial situation. Summaries of accepted offers-in-compromise, Form 7249—Offer Acceptance Report, 

are available for public inspection in the IRS district offices. Currently, this form contains the taxpayer identification number of the 

taxpayer, e.g., the social security number in the case of an individual taxpayer, along with the taxpayer’s name and full address. 

The Committee believes that if disclosure is warranted, such disclosure should be limited to the least amount of information necessary. The Committee believes that the disclosure of a taxpayer’s 

taxpayer identification number is unnecessary and an unwarranted 

invasion of privacy. In addition, the Committee believes such disclosure provides an opportunity for identity fraud and abuse. 

EXPLANATION OF PROVISION

The provision prohibits the disclosure of the taxpayer’s taxpayer 

identification number as part of the publicly available summaries 

of accepted offers-in-compromise. 

EFFECTIVE DATE

The provision applies to disclosures made after the date of enactment. 

63 

69Sec. 6103(p)(4)(D). 70Sec. 6103(p)(4)(E). 71Sec. 6103(p)(4) (flush language) and (7); Treas. Reg. sec. 301.6103(p)(7)–1. 72Sec. 6103(n) and Treas. Reg. sec. 301.6103(n)–1(a). ‘‘Tax administration’’ includes ‘‘the administration, management, conduct, direction, and supervision of the execution and application 

of internal revenue laws or related statutes (or equivalent laws and statutes of a State) * * *’’ 

Sec. 6103(b)(4). 73Treas. Reg. sec. 301.6013(n)–1(a). Such services include the processing, storage, transmission or reproduction of such returns or return information, the programming, maintenance, 

repair, or testing of equipment or other property, or the providing of other services for purposes 

of tax administration. 74Treas. Reg. sec. 301.6103(n)–1(a) and (b). A disclosure is necessary if such procurement or 

the performance of such services cannot otherwise be reasonably, properly, or economically accomplished without such disclosure. Treas. Reg. sec. 301.6103(n)–1(b). The regulations limit the 

quantity of information to that needed to perform the contract. 75Treas. Reg. sec. 301.6103(n)–1(a). 76Treas. Reg. sec. 301.6103(n)–1(d). 77Treas. Reg. sec. 301.6103(n)–1(d)(1). 

E. COMPLIANCE BY CONTRACTORS WITH CONFIDENTIALITY

SAFEGUARDS

(Sec. 405 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Section 6103 permits the disclosure of returns and return information to State agencies, as well as to other Federal agencies for 

specified purposes. Section 6103(p)(4) requires, as conditions of receiving returns and return information, that State agencies (and 

others) provide safeguards as prescribed by the Secretary of the 

Treasury by regulation to be necessary or appropriate to protect 

the confidentiality of returns or return information.69 It also requires that a report be furnished to the Secretary at such time and 

containing such information as prescribed by the Secretary regarding the procedures established and utilized for ensuring the confidentiality of returns and return information.70 After an administrative review, the Secretary may take such actions as are necessary to ensure these requirements are met, including the refusal 

to disclose returns and return information.71

Under present law, employees of a State tax agency may disclose 

returns and return information to contractors for tax administration purposes.72 These disclosures can be made only to the extent 

necessary to procure contractually equipment, other property, or 

the providing of services, related to tax administration.73

The contractors can make redisclosures of returns and return information to their employees as necessary to accomplish the tax administration purposes of the contract, but only to contractor personnel whose duties require disclosure.74 Treasury regulations prohibit redisclosure to anyone other than contractor personnel without the written approval of the IRS.75

By regulation, all contracts must provide that the contractor will 

comply with all applicable restrictions and conditions for protecting 

confidentiality prescribed by regulation, published rules or procedures, or written communication to the contractor.76 Failure to 

comply with such restrictions or conditions may cause the IRS to 

terminate or suspend the duties under the contract or the disclosures of returns and return information to the contractor.77 In addition, the IRS can suspend disclosures to the State tax agency 

until the IRS determines that the conditions are or will be satisVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00063 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
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78Treas. Reg. sec. 301.6103(n)–1(d)(2). 79Treas. Reg. sec. 301.6103(n)–1(d). 

fied.78 The IRS may take such other actions as deemed necessary 

to ensure that such conditions or requirements are or will be satisfied.79

REASONS FOR CHANGE

The Committee notes the increasing use of contractors by government agencies to perform the work of the government. In the Committee’s view, the IRS has insufficient resources to monitor the 

compliance of every contractor in addition to its other duties. Further, the Committee finds that it is appropriate to require that 

Federal, State and local agency recipients of tax information monitor and certify that their contractors and other agents have in 

place adequate safeguards to protect this information. 

EXPLANATION OF PROVISION

The provision requires that a State, local, or Federal agency conduct on-site reviews every three years of all of its contractors or 

other agents receiving Federal returns and return information. If 

the duration of the contract or agreement is less than one year, a 

review is required at the mid-point of the contract. The purpose of 

the review is to assess the contractor’s efforts to safeguard Federal 

returns and return information. This review is intended to cover 

secure storage, restricting access, computer security, and other 

safeguards deemed appropriate by the Secretary. Under the provision, the State, local or Federal agency is required to submit a report of its findings to the IRS and certify annually that such contractors and other agents are in compliance with the requirements 

to safeguard the confidentiality of Federal returns and return information. The certification is required to include the name and address of each contractor or other agent with the agency, the duration of the contract, and a description of the contract or agreement 

with the State, local, or Federal agency. 

The provision does not apply to contracts for purposes of Federal 

tax administration. 

This provision does not alter or affect in any way the right of the 

IRS to conduct safeguard reviews of State, local, or Federal agency 

contractors or other agents. It also does not affect the right of the 

IRS to initially approve the safeguard language in the contract or 

agreement and the safeguards in place prior to any disclosures 

made in connection with such contracts or agreements. 

EFFECTIVE DATE

The provision is effective for disclosures made after the date of 

enactment. The first certification is required to be made with respect to the portion of calendar year 2004 following the date of enactment. 

65 

80Sec. 6103(a). 81Treas. Reg. sec. 301.6103(c)–1. 

F. HIGHER STANDARDS FOR REQUESTS FOR AND CONSENTS TO

DISCLOSURE

(Sec. 406 of the bill and sec. 6103 of the Code) 

PRESENT LAW

In general 

As a general rule, returns and return information are confidential and cannot be disclosed unless authorized by Title 26.80 Under 

section 6103(c), a taxpayer may designate in a request or consent 

to the disclosure by the IRS of his or her return or return information to a third party. Treasury regulations set forth the requirements for such consent.81 The request or consent may be written 

or nonwritten form. The Treasury regulations require that the taxpayer sign and date a written consent. At the time the consent is 

signed and dated by the taxpayer, the written document must indicate (1) the taxpayer’s taxpayer identity information; (2) the identity of the person to whom disclosure is to be made; (3) the type 

of return (or specified portion of the return) or return information 

(and the particular data) that is to be disclosed; and (4) the taxable 

year covered by the return or return information. The regulations 

also require that the consent be submitted within 60 days of the 

date signed and dated, however, at the time of submission, the IRS 

generally is unaware of whether a consent form was completed or 

dated after the taxpayer signs it. Present law does not require that 

a recipient receiving returns or return information by consent 

maintain the confidentiality of the information received. Under 

present law, the recipient is also free to use the information for 

purposes other than for which the information was solicited from 

the taxpayer. 

Section 6103(c) consents are often used in connection with mortgage loan applications. Mortgage originators qualify loan applicants 

as meeting or not meeting the requirements for loan approval. This 

process involves the verification and investigation of information 

and conditions. If the loan is granted, the mortgage originator may 

use its own money to fund the loan. Alternatively, another entity, 

an ‘‘investor,’’ may buy the loan and provide the money. Investors 

typically perform a re-investigation of loans received for funding. 

Such re-investigations may include verification through the IRS of 

the tax return provided by the taxpayer to the mortgage originator. 

Usually the mortgage originator does not know which investor 

will ultimately fund the loan. Thus, at the time of application, the 

originator asks the borrower/taxpayer to sign a consent (Form 

4506) designating the originator as the third party to receive the 

taxpayer’s returns. Subsequently, at closing, the investor may request that the originator obtain another Form 4506 naming the investor as the third party to receive the taxpayer’s return. 

Ostensibly to avoid confusion over why the taxpayer would be 

authorizing a party other than the originator to receive his tax return, the taxpayer may be asked to sign a blank Form 4506 at closing. In some cases, mortgage originators ask taxpayers not to date 

the Form 4506. This allows the form to be submitted to the IRS 

66 

82Sec. 7206(1). 

at a later date, often months or years later, for purposes of mortgage resale. 

Criminal penalties 

Under section 7206, it is a felony to willfully make and subscribe 

any document that contains or is verified by a written declaration 

that it is made under penalties of perjury and which such person 

does not believe to be true and correct as to every material matter.82 Upon conviction, such person may be fined up to $100,000 

($500,000 in the case of a corporation) or imprisoned up to 3 years, 

or both, together with the costs of prosecution. 

Under section 7213, criminal penalties apply to: (1) willful unauthorized disclosures of returns and return information by Federal 

and State employees and other persons; (2) the offering of any item 

of material value in exchange for a return or return information 

and the receipt of such information pursuant to such an offer; and 

(3) the unauthorized disclosure of return information received by 

certain shareholders under the material interest provision of section 6103. Under section 7213, a court can impose a fine up to 

$5,000, up to five years imprisonment, or both, together with the 

costs of prosecution. If the offense is committed by a Federal employee or officer, the employee or officer will be discharged from office upon conviction. 

The willful and unauthorized inspection of returns and return information can subject Federal and State employees and others to 

a maximum fine of $1,000, up to a year in prison, or both, in addition to the costs of prosecution. If the offense is committed by a 

Federal employee or officer, the employee or officer will be discharged from office upon conviction. 

Civil damage remedies for unauthorized disclosure or inspection 

If a Federal employee makes an unauthorized disclosure or inspection, a taxpayer can bring suit against the United States in 

Federal district court. If a person other than a Federal employee 

makes an unauthorized disclosure or inspection, suit may be 

brought directly against such person. No liability results from a 

disclosure based on a good faith, but erroneous, interpretation of 

section 6103. A disclosure or inspection made at the request of the 

taxpayer will also relieve liability. 

Upon a finding of liability, a taxpayer can recover the greater of 

$1,000 per act of unauthorized disclosure (or inspection), or the 

sum of actual damages plus, in the case of an inspection or disclosure that was willful or the result of gross negligence, punitive 

damages. The taxpayer may also recover the costs of the action 

and, if found to be a prevailing party, reasonable attorney fees. 

The taxpayer has two years from the date of the discovery of the 

unauthorized inspection or disclosure to bring suit. The IRS is required to notify a taxpayer of an unauthorized inspection or disclosure as soon as practicable after any person is criminally charged 

by indictment or information for unlawful inspection or disclosure. 

67 

REASONS FOR CHANGE

The Committee does not believe that the practice of asking taxpayers to sign blank or undated consent forms is appropriate. 

While recognizing that investors may want to minimize their risks 

in buying a loan, the Committee finds that these practices can 

abuse the taxpayer consent process. It is doubtful that a taxpayer 

is aware that by not dating the form, it could be used months or 

years after the date it is executed. Taxpayers may be unaware that 

a blank consent form which does not designate a recipient can be 

used for purposes other than those related to the transaction under 

which the request for consent arose. 

In addition, the IRS does not have the resources to verify that 

the return information was used solely for the stated purpose. The 

IRS estimates that it receives annually more than 800,000 requests 

from taxpayers directing that their returns or return information 

be sent to a third party. Examples of third party entities to which 

the IRS provides information include financial institutions (including the mortgage banking industry), colleges and universities, and 

Federal, State, and local governmental entities. 

The Committee believes that to preserve the integrity of the consent process, a penalty must be placed on the third party soliciting 

a taxpayer to sign an undated or otherwise incomplete consent. 

Consistent with a taxpayer’s reasonable expectation of privacy, the 

Committee believes that limitations should be placed on the use of 

returns and return information obtained by consent. 

EXPLANATION OF PROVISION

The provision requires the consent form prescribed by the IRS to 

contain a warning, prominently displayed, informing the taxpayer 

that he or she should not sign the form unless it is complete. The 

provision requires the consent form to state that if the taxpayer believes there is an attempt to coerce him to sign an incomplete or 

blank form, the taxpayer should report the matter to the Treasury 

Inspector General for Tax Administration. The telephone number 

and address for the Treasury Inspector General for Tax Administration must be included on the form. The returns and return information of any taxpayer disclosed to a designee of the taxpayer for 

a purpose specified in writing, electronically, or orally may be disclosed or used by such persons only for the purpose of, and to the 

extent necessary in, accomplishing the purpose for the disclosure 

specified and cannot not be disclosed or used for any other purpose. 

The provision makes a violation of these requirements, or use or 

disclosure of information obtained by consent for purposes not permitted by section 6103, punishable by a civil penalty. 

The Secretary of Treasury is required to submit a report to Congress on compliance with the designation and certification requirements no later than 18 months after the date of enactment. Such 

report must evaluate (on the basis of random sampling) whether 

the provision is achieving its purpose, whether requesters and submitters are continuing to evade the purpose of the provision, 

whether the sanctions are adequate, and such recommendations as 

considered necessary or appropriate to better achieve the purposes 

of the provision. 

68 

Any request for or consent to disclose any return or return information under section 6103(c) made before the date of enactment of 

the provision remains in effect until the earlier of the date such request or consent is otherwise terminated or the date three years 

after the date of enactment. 

EFFECTIVE DATE

The provision applies to requests and consents made after three 

months after the date of enactment. 

G. CIVIL DAMAGE REMEDIES FOR UNAUTHORIZED DISCLOSURE OR

INSPECTION

(Sec. 407 of the bill and sec. 7431 of the Code) 

PRESENT LAW

If a Federal employee makes an unauthorized disclosure or inspection, a taxpayer can bring suit against the United States in 

Federal district court. If a person other than a Federal employee 

makes an unauthorized disclosure or inspection, suit may be 

brought directly against such person. No liability results from a 

disclosure based on a good faith, but erroneous, interpretation of 

section 6103. A disclosure or inspection made at the request of the 

taxpayer will also relieve liability. 

Upon a finding of liability, a taxpayer can recover the greater of 

$1,000 per act of unauthorized disclosure (or inspection), or the 

sum of actual damages plus, in the case of an inspection or disclosure that was willful or the result of gross negligence, punitive 

damages. The taxpayer may also recover the costs of the action 

and, if found to be a prevailing party, reasonable attorney fees. 

The taxpayer has two years from the date of the discovery of the 

unauthorized inspection or disclosure to bring suit. The IRS is required to notify a taxpayer of an unauthorized inspection or disclosure as soon as practicable after any person is criminally charged 

by indictment or information for unlawful inspection or disclosure. 

REASONS FOR CHANGE

Currently, the IRS is not required to notify a taxpayer that an 

unlawful disclosure or inspection of the taxpayer’s return or return 

information has occurred until the offender has been charged by 

criminal indictment or information. Accordingly, the Committee believes that the IRS should provide notice to taxpayers if an administrative determination is made as to any disciplinary or adverse 

action against an IRS employee when returns or return information have been unlawfully accessed or disclosed. The Committee 

also believes that it is important that such notice include the date 

of inspection or disclosure and the rights of the affected taxpayer. 

The Committee believes that a taxpayer should exhaust all administrative remedies within the IRS prior to receiving an award 

of damages. 

The Committee believes that the Secretary of Treasury should 

report annually to the Committee on Finance of the Senate and the 

Committee on Ways and Means of the House of Representatives 

when damage claim payments are made from the United States 

Judgment Fund. 

69 

The Committee also believes that the IRS should provide as part 

of its public annual report information on unauthorized disclosures 

or inspections of return and return information. The Committee believes such information will allow review of the enforcement efforts 

in this area and the extent to which taxpayer privacy is being protected. 

EXPLANATION OF PROVISION

The provision requires the Secretary to notify a taxpayer if the 

IRS or, upon notice to the Secretary by a Federal or State agency, 

if such Federal or State agency, proposes an administrative determination as to disciplinary or adverse action against an employee 

arising from the employee’s unauthorized inspection or disclosure 

of the taxpayer’s return or return information. The provision requires the notice to include the date of the inspection or disclosure 

and the rights of the taxpayer as a result of such administrative 

determination. 

Under the provision, in action for civil damages for unauthorized 

disclosure or inspection, any person who made the inspection or 

disclosure bears the burden of proving the existence of a good faith 

interpretation of section 6103 to avoid liability. 

The provision adds a new exhaustion of administrative remedies 

requirement. A judgment for damages will not be awarded unless 

the court determines that the plaintiff has exhausted the administrative remedies available. The provision also clarifies that unauthorized disclosure or inspection damage claims are payable out of 

funds appropriated under section 1304 of title 31 of the United 

States Code (relating to the United States Judgment Fund). Both 

administrative settlements and settlements of judicial proceedings 

are paid out of this fund. The Secretary of the Treasury will report 

annually to the Committee on Finance of the Senate and the Committee on Ways and Means of the House of Representatives regarding damage claim payments made from the United States Judgment Fund. 

As part of its public report on disclosures, the provision requires 

the Secretary to furnish information regarding the willful unauthorized disclosure and inspection of returns and return information. Such information includes the number, status, and results of: 

(1) administrative investigations, (2) civil lawsuits brought under 

section 7431 (including the amounts for which such lawsuits were 

settled and the amounts of damages awarded), and (3) criminal 

prosecutions. 

EFFECTIVE DATE

The provision is effective: (1) for determinations made after 180 

days after the date of enactment with respect to the taxpayer notice requirement; (2) for inspections and disclosures occurring on 

and after 180 days after the date of enactment with respect to the 

provisions relating to the exhaustion of administrative remedies 

and burden of proof; (3) 180 days after the date of enactment with 

respect to the payment authority; and (4) for calendar years ending 

after 180 days after the date of enactment with respect to the reporting requirements. 

70 

83Sec. 6103(m)(1). This section provides: 

The Secretary may disclose taxpayer identity information to the press or other media for purposes of notifying persons entitled to tax refunds when the Secretary, after reasonable effort and 

lapse of time, has been unable to locate such persons. 84Sec. 6103(m)(1), and (b)(6) (definition of ‘‘taxpayer identity’’). 

H. EXPANDED DISCLOSURE IN EMERGENCY CIRCUMSTANCES

(Sec. 408 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Section 6103(i)(3)(B) permits the IRS to disclose return information to the extent necessary to apprise Federal or State law enforcement officials of circumstances involving an imminent danger 

of death or physical injury to an individual. Recipients of such information are required to adhere to certain recordkeeping, reporting, and safeguard requirements as a condition of receiving such 

information (sec. 6103(p)(4)). Upon completion of use of such information, the Code requires the recipient to return the information 

to the IRS or make the information undisclosable and furnish a report to the IRS as to the manner in which the information was 

made undisclosable (‘‘destruction requirements’’) (sec. 

6103(p)(4)(F)(i)). 

REASONS FOR CHANGE

Local law enforcement officials need to receive information regarding exigent circumstances in the same manner that Federal 

and State law enforcement officials receive such information. The 

Committee believes that expanding this provision to permit disclosure to local law enforcement authorities will permit more rapid response to these situations. 

EXPLANATION OF PROVISION

The provision expands present law to permit disclosure of return 

information to local law enforcement authorities to apprise them of 

circumstances involving imminent danger of death or physical injury to an individual. The provision eliminates the recordkeeping, 

safeguard and destruction requirements for all such disclosures to 

Federal, State or local law enforcement officials. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

I. DISCLOSURE OF TAXPAYER IDENTITY FOR TAX REFUND PURPOSES

(Sec. 409 of the bill and sec. 6103 of the Code) 

PRESENT LAW

When the IRS is unable to find a taxpayer due a refund, present 

law provides that the IRS may use ‘‘the press or other media’’ to 

notify the taxpayer of the refund.83 Section 6103(m) allows the IRS 

to give the press taxpayer identity information for this purpose.84

Taxpayer identity includes name, mailing address, taxpayer identification number or combination thereof. 

The IRS believes that the current statutory framework of ‘‘press 

and other media’’ does not permit disclosures via the Internet. The 

71 

85 Internal Revenue Service, Information Release IR–2002–121 (November 13, 2002). 86 Id. 87The applicable taxes include the termination tax on private foundations; taxes on public 

charities for certain excess lobbying expenses; taxes on a private foundation’s net investment 

income, self-dealing activities, undistributed income, excess business holdings, investments that 

jeopardize charitable purposes, and taxable expenditures (some of these taxes also apply to certain non-exempt trusts); taxes on the political expenditures and excess benefit transactions of 

section 501(c)(3) organizations; and certain taxes on black lung benefit trusts and foreign organizations. 

legislative history of the present-law provision does not address the 

meaning of ‘‘press and other media.’’ At the time of the statute’s 

enactment in 1976, the press (newspapers and periodicals) and 

other traditional media were the only means available for the IRS 

to distribute undelivered refund information to the public. Thus, 

the IRS interprets the term ‘‘other media’’ to exclude the Internet. 

REASONS FOR CHANGE

In November 2002, the IRS announced that the U.S. Postal Service returned more than 96,792 refund checks as undeliverable.85

These checks totaled over $80 million.86 It is the understanding of 

the Committee that the current method of notification, by newspaper, is ineffective. The Committee believes that the IRS should 

be able to use any method of mass communication, including the 

Internet, to reach a taxpayer who is due a refund. 

EXPLANATION OF PROVISION

The provision allows the IRS to use any means of ‘‘mass communication,’’ including the Internet, to notify the taxpayer of an undelivered refund. It limits the amount of return information that may 

be disclosed to a taxpayer’s name, and the city, State, and zip code 

of the taxpayer’s mailing address. 

EFFECTIVE DATE

The provision is effective upon date of enactment. 

J. DISCLOSURE TO STATE OFFICIALS OF PROPOSED ACTIONS RELATED

TO SECTION 501(C) ORGANIZATIONS

(Sec. 410 of the bill and sec. 6104 of the Code) 

PRESENT LAW

In the case of organizations that are described in section 

501(c)(3) and exempt from tax under section 501(a) or that have 

applied for exemption as an organization so described, present law 

(sec. 6104(c)) requires the Secretary to notify the appropriate State 

officer of (1) a refusal to recognize such organization as an organization described in section 501(c)(3), (2) a revocation of a section 

501(c)(3) organization’s tax-exempt status, and (3) the mailing of a 

notice of deficiency for any tax imposed under section 507, chapter 

41, or chapter 42.87 In addition, at the request of such appropriate 

State officer, the Secretary is required to make available for inspection and copying, such returns, filed statements, records, reports, 

and other information relating to the above-described disclosures, 

as are relevant to any State law determination. An appropriate 

State officer is the State attorney general, State tax officer, or any 

72 

88Sec. 6103(a). 89Sec. 6103(p)(3). 90Sec. 6103(p)(4). 91Secs. 7213 and 7213A. 92Sec. 7431. 93The staff of the Joint Committee on Taxation recommended the adoption of a similar provision. Joint Committee on Taxation, Study of Present-Law Taxpayer Confidentiality and Disclosure Provisions as Required by Section 3802 of the Internal Revenue Service Restructuring and 

Reform Act of 1998, Volume II: Study of Disclosure Provisions Relating to Tax-Exempt Organizations (JCS–1–00), January 28, 2000 at 101–105. 

State official charged with overseeing organizations of the type described in section 501(c)(3). 

In general, return and return information (as such terms are defined in sec. 6103(b)) is confidential and may not be disclosed or inspected unless expressly provided by law.88 Present law requires 

the Secretary to keep records of disclosures and requests for inspection 89 and requires that persons authorized to receive return and 

return information maintain various safeguards to protect such information against unauthorized disclosure.90 Willful unauthorized 

disclosure or inspection of return or return information is subject 

to a fine and/or imprisonment.91 The knowing or negligent unauthorized inspection or disclosure of returns or return information 

gives the taxpayer a right to bring a civil suit.92 Such present-law 

protections against unauthorized disclosure or inspection of return 

and return information do not apply to the disclosures or inspections, described above, that are authorized by section 6104(c). 

REASONS FOR CHANGE

The Committee believes that State officials that are charged with 

oversight of certain organizations described in section 501(c) have 

an important and legitimate interest in receiving certain information about such organizations’ tax-exempt status and tax filings, in 

some cases before the IRS has made a final determination with respect to an organization’s tax-exempt status or liability for tax. By 

providing appropriate State officials with earlier access to information about the activities of certain section 501(c) organizations, 

State officials will be able to monitor such organizations more effectively and better protect the public’s interest in assuring that organizations that have been given the benefit of tax-exemption operate 

consistently with their exempt purposes.93

The Committee stresses the importance of maintaining the confidentiality of taxpayer return and return information and believes 

it is important to extend existing protections against unauthorized 

disclosure or inspection of return and return information to disclosures made or inspections allowed by the Secretary of return and 

return information regarding such section 501(c) organizations. 

EXPLANATION OF PROVISION

The provision provides that upon written request by an appropriate State officer, the Secretary may disclose: (1) a notice of proposed refusal to recognize an organization as a section 501(c)(3) organization; (2) a notice of proposed revocation of tax-exemption of 

a section 501(c)(3) organization; (3) the issuance of a proposed deficiency of tax imposed under section 507, chapter 41, or chapter 42; 

(4) the names, addresses, and taxpayer identification numbers of 

organizations that have applied for recognition as section 501(c)(3) 

73 

94Such returns and return information also may be open to inspection by an appropriate State 

officer. 

organizations; and (5) returns and return information of organizations with respect to which information has been disclosed under 

(1) through (4) above.94 Disclosure or inspection is permitted for 

the purpose of, and only to the extent necessary in, the administration of State laws regulating section 501(c)(3) organizations, such 

as laws regulating tax-exempt status, charitable trusts, charitable 

solicitation, and fraud. Disclosure or inspection may be made only 

to or by designated representatives of the appropriate State officer, 

which does not include any contractor or agent. The Secretary also 

is permitted to disclose or open to inspection the return and return 

information of an organization that is recognized as tax-exempt 

under section 501(c)(3), or that has applied for such recognition, to 

an appropriate State officer if the Secretary determines that disclosure or inspection may facilitate the resolution of Federal or State 

issues relating to the tax-exempt status of the organization. For 

this purpose, appropriate State officer means the State attorney 

general or any other State official charged with overseeing organizations of the type described in section 501(c)(3). 

In addition, the provision provides that upon the written request 

by an appropriate State officer, the Secretary may make available 

for inspection or disclosure returns and return information of an 

organization described in section 501(c)(2) (certain title holding 

companies), 501(c)(4) (certain social welfare organizations), 

501(c)(6) (certain business leagues and similar organizations), 

501(c)(7) (certain recreational clubs), 501(c)(8) (certain fraternal organizations), 501(c)(10) (certain domestic fraternal organizations 

operating under the lodge system), and 501(c)(13) (certain cemetery 

companies). Such return and return information is available for inspection or disclosure only for the purpose of, and to the extent necessary in, the administration of State laws regulating the solicitation or administration of the charitable funds or charitable assets 

of such organizations. Disclosure or inspection may be made only 

to or by designated representatives of the appropriate State officer, 

which does not include any contractor or agent. For this purpose, 

appropriate State officer means the State attorney general and the 

head of an agency designated by the State attorney general as having primary responsibility for overseeing the solicitation of funds 

for charitable purposes of such organizations. 

In addition, the provision provides that any return and return information disclosed under section 6104(c) may be disclosed in civil 

administrative and civil judicial proceedings pertaining to the enforcement of State laws regulating the applicable tax-exempt organization in a manner prescribed by the Secretary. Returns and return information are not to be disclosed under section 6104(c), or 

in such an administrative or judicial proceeding, to the extent that 

the Secretary determines that such disclosure would seriously impair Federal tax administration. The provision makes disclosures of 

returns and return information under section 6104(c) subject to the 

disclosure, recordkeeping, and safeguard provisions of section 6103, 

including the requirements that such information remain confidential (sec. 6103(a)(2)), that the Secretary maintain a permanent system of records of requests for disclosure (sec. 6103(p)(3)), and that 

74 

95Sec. 6103(a). 96Sec. 7431. 97See, e.g., sec. 7461 regarding the publicity of U.S. Tax Court proceedings. 98See sec. 6323(f) regarding where to file notices of Federal tax lien. 

the appropriate State officer maintain various safeguards that protect against unauthorized disclosure (sec. 6103(p)(4)). The provision 

provides that the willful unauthorized disclosure of returns or return information described in section 6104(c) is a felony subject to 

a fine of up to $5,000 and/or imprisonment of up to five years (sec. 

7213(a)(2)), the willful unauthorized inspection of returns or return 

information described in section 6104(c) is subject to a fine of up 

to $1,000 and/or imprisonment of up to one year (sec. 7213A), and 

provides the taxpayer the right to bring a civil action for damages 

in the case of knowing or negligent unauthorized disclosure or inspection of such information (sec. 7431(a)(2)). 

EFFECTIVE DATE

The provision is effective on the date of enactment but does not 

apply to requests made before such date. 

K. TREATMENT OF PUBLIC RECORDS

(Sec. 411 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Section 6103 provides that ‘‘returns and return information shall 

be confidential and except as authorized by this title * * * [none 

of the identified persons] shall disclose any return or return information obtained by him * * *’’ 95 A taxpayer can sue the United 

States government for the unauthorized disclosure and/or inspection of returns and return information.96 Section 6103 does not expressly address the disclosure of returns and return information 

made a part of the public record. 

Returns and return information become part of the public record 

in many ways. For example, returns and return information introduced in judicial proceedings constitutes publicly available court 

records.97 As another example, notices of Federal tax lien filed with 

the county recorder alert the public of the IRS’s interest in a taxpayer’s property.98

The courts are divided on whether section 6103 applies to publicly disclosed returns and return information. Some courts have 

strictly interpreted section 6103, applying it despite the information’s public availability. Other courts have found that returns and 

return information found in the public record loses its confidential 

status so that a person disclosing it does not violate section 6103. 

Still other courts have looked to the source of the information being 

disclosed. These courts find that section 6103 does not protect returns and return information taken directly from a public source, 

while information taken directly from IRS records remains protected. 

REASONS FOR CHANGE

The Committee believes that Congress sought to prohibit only 

the disclosure of confidential tax return information. Once tax return information is made a part of the public domain, the taxpayer 

75 

99Sec. 6103(k)(6). 100See, e.g., Comyns v. United States, 155 F. Supp. 2d 1344 (S.D. Fla. 2001), aff’d, 287 F.3d 

1034 (11th Cir. 2002); Payne v. United States, 91 F. Supp. 2d 1014 (S.D. Tex. 1999), rev’d, 289 

F.3d 377 (5th Cir. 2002); Gandy v. United States, 99–1 U.S. Tax Cas. (CCH) 50,237 (E.D. Tex. 

1999), aff’d, 234 F.3d 281 (5th Cir. 2000); Rhodes v. United States, 903 F. Supp. 819 (M.D. Pa. 

1995); Diamond v. United States, 944 F.2d 431 (8th Cir. 1991). 101 243 F.3d 281 (2000). 

may no longer claim a right of privacy in that information. The 

Committee believes that, in general, it is inappropriate to treat information that has properly been made part of the public record as 

continuing to be subject to the general rules of confidentiality contained in the Code. 

EXPLANATION OF PROVISION

Under the provision, the general confidentiality restrictions do 

not apply to returns and return information disclosed: (1) in the 

course of any judicial or administrative proceeding or pursuant to 

tax administration activities, and (2) properly made part of the 

public record. In a situation in which a third-party is seeking to 

have the IRS divulge information that would otherwise be protected by section 6103, the Committee expects the third party to 

initially point to specific information in the public record that appears to duplicate that being withheld. For example, if a third 

party makes a Freedom of Information Act request for a record 

that is contained both in a publicly available court file and also in 

an IRS administrative file, the requester would need to provide to 

the IRS evidence that the information sought from the IRS is also 

in the court file. 

EFFECTIVE DATE

The provision is effective before, on, and after the date of enactment. 

L. EMPLOYEE IDENTITY DISCLOSURES

(Sec. 412 of the bill and sec. 6103 of the Code) 

PRESENT LAW

In such manner as prescribed by regulation, IRS and Treasury 

Inspector General for Tax Administration personnel may disclose 

return information in connection with their official duties relating 

to any audit, collection activity, or civil or criminal tax investigation, or any offense under the internal revenue laws.99 Such disclosure may only be made to the extent necessary in obtaining information not otherwise reasonably available with respect to the correct determination of tax, liability for tax, or the amount collected 

or with respect to the enforcement of any other provision of the 

Code. 

IRS special agents are investigating agents of the IRS Criminal 

Investigation (‘‘CI’’). These agents investigate tax crimes. In unauthorized disclosure litigation, taxpayers have asserted that CI special agents, by various means, wrongfully disclosed the criminal nature of the investigation of the taxpayers in the course of conducting third party witness interviews or inquiries.100 For example, 

in Gandy v. United States,101 the court held that a special agent 

made an unauthorized disclosure of return information when the 

76 

102Treas. Reg. sec. 301.6103(k)(6)–1T(a)(3). It is not clear whether the regulations permit an 

IRS employee to disclose their organizational affiliation orally, for example, as part of a telephone conversation. 103Sec. 6103(k)(6). 

agent identified himself as such during interviews of third parties. 

The court found that the agent by identifying himself disclosed the 

fact of a criminal investigation. The fact of a criminal investigation 

is return information protected by section 6103 and the court found 

that such disclosure was not necessary to obtain information from 

the third parties. 

On July 10, 2003, the Department of Treasury issued temporary 

regulations, effective on that date, which allow internal revenue 

employees to identify themselves and their organizational affiliation, and the nature of their investigation when making contact 

with a third party witness: 

(3) Internal revenue and [Treasury Inspector General for 

Tax Administration (‘‘TIGTA’’)] employees may identify 

themselves, their organizational affiliation with the Internal Revenue Service (IRS) (e.g., Criminal Investigation 

(CI)) or TIGTA (e.g., Office of Investigations (OI)), and the 

nature of their investigation, when making an oral, written, or electronic contact with a third party witness 

through the use and presentation of any identification 

media (including, but not limited to, an IRS or TIGTA 

badge, credential, or business card) or through the use of 

an information document request, summons, or correspondence on IRS or TIGTA letterhead or which bears a 

return address or signature block that reveals affiliation 

with the IRS or TIGTA.102

REASONS FOR CHANGE

Department of Treasury agents are specifically authorized 103 to 

disclose return information to the extent necessary to gather data 

that may be relevant to an investigation. Situations in which special agents may have to make such disclosures in order to perform 

their duties arise on a daily basis. For example, this occurs whenever they contact third parties believed to have information pertinent to a tax investigation. The Committee believes that it is appropriate to permit Department of Treasury agents (in connection 

with their official duties) to disclose return information to the extent necessary to obtain information relating to such official duties 

or to properly accomplish any activity connected with such official 

duties. 

EXPLANATION OF PROVISION

The provision amends section 6103 to provide that nothing in 

section 6103 may be construed to prohibit agents of the Department of Treasury from identifying themselves, their organizational 

affiliation, and the nature of an investigation when contacting third 

parties in writing or in person. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

77 

104Sec. 6109(a)(1). 105Sec. 6109(a)(3). 106Sec. 3406. 

M. TAXPAYER IDENTIFICATION NUMBER MATCHING

(Sec. 413 of the bill and sec. 6103 of the Code) 

PRESENT LAW

A taxpayer identification number (TIN) is an identification number used by the IRS for purposes of tax administration. A TIN 

must be furnished on all returns, statements, or other tax related 

documents.104 The Code imposes information reporting requirements upon payors of income. The Code provides that a person (the 

payor) required to make a return with respect to another person 

(the payee) must ask the payee for the identifying number prescribed for securing the proper identification of the payee and include that number in the return.105 Typically, if there is an error 

with the name/TIN combination furnished by the payee, the disclosure of such error to the payor is permitted when the reportable 

payment is already subject to backup withholding.106

REASONS FOR CHANGE

The Committee is concerned with the number of information returns that the IRS receives each year containing missing or incorrect name and TIN information. Therefore, the Committee believes 

that compliance will be greatly enhanced if payors have the ability 

to verify with the IRS payee TINs prior to filing information returns for reportable payments on behalf of such payees. 

EXPLANATION OF PROVISION

The provision permits the IRS to disclose to any person required 

to provide a taxpayer identifying number to the IRS whether such 

information matches records maintained by the IRS. This will 

allow a payor to verify the TIN furnished by a payee prior to filing 

information returns for reportable payments on behalf of the payee. 

Under the provision, the IRS informs the payor whether there is 

an error with the name/TIN combination furnished by the payee. 

The verification is limited to whether the information provided by 

the payor matches the records of the IRS. The IRS will not disclose 

correct TINs if an error arises, as it will be the responsibility of the 

payor to obtain the correct TIN from the payee. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

N. FORM 8300 DISCLOSURES

(Sec. 414 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Under the Code, any person engaged in a trade or business who 

receives more than $10,000 in cash in one transaction (or in two 

or more related transactions) is required to report the receipt of 

cash to the IRS and the Financial Crimes Enforcement Network 

(FinCEN) on Form 8300 (Report of Cash Payments Over $10,000 

78 

107Sec. 6050I and 31 U.S.C. sec. 5331. 108 31 U.S.C. sec. 5313. 109Sec. 6103(p)(4). 110Sec. 6103(b)(2)(A). 

Received in a Trade or Business).107 Any Federal agency, State or 

local government agency, or foreign government agency may have 

access, upon written request, to the information contained in returns filed under section 6050I. The Code provides that disclosures 

of information from Form 8300 be made on the same basis and subject to the same conditions as apply to disclosures of information 

filed on Currency Transaction Reports under the Bank Secrecy 

Act.108 This provision however, cannot be used to obtain disclosures 

for tax administration purposes. The general safeguard requirements of the Code apply to such disclosures.109 For example, as a 

condition of disclosure, requesting agencies must file with the IRS 

a report describing the procedures established and utilized by the 

agency for ensuring the confidentiality of return information. 

REASONS FOR CHANGE

Form 8300 is similar to a Currency Transaction Report, which is 

required to be filed by financial institutions in connection with currency transactions of more than $10,000. Both Form 8300 and Currency Transaction Reports are filed with the IRS; however, Title 31 

governs Currency Transaction Reports. The USA Patriot Act (Pub. 

L. No. 107–56) imposed a duplicate reporting requirement for Form 

8300 information under Title 31 of the U.S. Code, in part to facilitate law enforcement’s access to such information. The Code’s safeguard requirements for return information were perceived to be 

cumbersome in comparison to the disclosure rules imposed on similar information governed by Title 31, such as Currency Transaction 

Reports. Because the Code envisions that Form 8300 information 

will be disclosed on the same basis and subject to the same conditions as Currency Transaction Reports, and a duplicate report of 

the same information is required under Title 31, the Committee believes it is appropriate to conform treatment and remove the specific Title 26 safeguards with respect to these information reports. 

EXPLANATION OF PROVISION

The provision repeals the safeguard requirements applicable to 

the disclosure of returns filed reflecting cash receipts of more than 

$10,000 received in a trade or business. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

O. DISCLOSURE TO LAW ENFORCEMENT AGENCIES REGARDING

TERRORIST ACTIVITIES

(Sec. 415 of the bill and sec. 6103 of the Code) 

PRESENT LAW

Return information includes a taxpayer’s identity.110 The IRS 

may disclose return information, other than taxpayer return information, to officers and employees of Federal law enforcement upon 

a written request. The request must be made by the head of the 

79 

111Sec. 6103(i)(7)(A). 112Sec. 6103(i)(7)(A)(ii). 

Federal law enforcement agency (or his delegate) involved in the 

response to or investigation of terrorist incidents, threats, or activities, and set forth the specific reason or reasons why such disclosure may be relevant to a terrorist incident, threat, or activity. The 

information is to be disclosed to officers and employees of the Federal law enforcement agency who would be personally and directly 

involved in the response to or investigation of terrorist incidents, 

threats, or activities. The information is to be used by such officers 

and employees solely for such response or investigation.111

The Federal law enforcement agency may redisclose the information to officers and employees of State and local law enforcement 

personally and directly engaged in the response to or investigation 

of the terrorist incident, threat, or activity. The State or local law 

enforcement agency must be part of an investigative or response 

team with the Federal law enforcement agency for these disclosures to be made.112 No disclosures may be made under this provision after December 31, 2003. 

If a taxpayer’s identity is taken from a return or other information filed with or furnished to the IRS by or on behalf of the taxpayer, it is taxpayer return information. Since taxpayer return information is not covered by this disclosure authorization, taxpayer 

identity so obtained cannot be disclosed and thus associated with 

the other information being provided. 

REASONS FOR CHANGE

The Committee understands the importance of law enforcement 

efforts investigating terrorist activities. Therefore, the Committee 

believes that it is appropriate for the IRS to disclose to officers and 

employees of a Federal law enforcement agency a taxpayer’s identity to the extent necessary to assist in the investigation of terrorist incidents, threats, or activities. 

EXPLANATION OF PROVISION

The provision makes a technical change to clarify that a taxpayer’s identity is not treated as taxpayer return information for 

purposes of disclosures to law enforcement agencies regarding terrorist activities. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

TITLE V.—SIMPLIFICATION 

A. ESTABLISH UNIFORM DEFINITION OF A QUALIFYING CHILD

(Secs. 501 through 508 of the bill and secs. 2, 21, 24, 32, 151, and 

152 of the Code) 

PRESENT LAW

In general 

Present law contains five commonly used provisions that provide 

benefits to taxpayers with children: (1) the dependency exemption; 

80 

113Secs. 151 and 152. Under the statutory structure, section 151 provides for the deduction 

for personal exemptions with respect to ‘‘dependents.’’ The term ‘‘dependent’’ is defined in section 152. Most of the requirements regarding dependents are contained in section 152; section 

151 contains additional requirements that must be satisfied in order to obtain a dependency exemption with respect to a dependent (as so defined). In particular, section 151 contains the gross 

income test, the rules relating to married dependents filing a joint return, and the requirement 

for a taxpayer identification number. The other rules discussed here are contained in section 

151. 114Sec. 151(d)(3). 115 A legally adopted child who does not satisfy the residency or citizenship requirement may 

nevertheless qualify as a dependent (provided other applicable requirements are met) if (1) the 

child’s principal place of abode is the taxpayer’s home and (2) the taxpayer is a citizen or national of the United States. Sec. 152(b)(3). 116This restriction does not apply if the return was filed solely to obtain a refund and no tax 

liability would exist for either spouse if they filed separate returns. Rev. Rul. 54–567, 1954– 

2 C.B. 108. 

(2) the child credit; (3) the earned income credit; (4) the dependent 

care credit; and (5) head of household filing status. Each provision 

has separate criteria for determining whether the taxpayer qualifies for the applicable tax benefit with respect to a particular child. 

The separate criteria include factors such as the relationship (if 

any) the child must bear to the taxpayer, the age of the child, and 

whether the child must live with the taxpayer. Thus, a taxpayer is 

required to apply different definitions to the same individual when 

determining eligibility for these provisions, and an individual who 

qualifies a taxpayer for one provision does not automatically qualify the taxpayer for another provision. 

Dependency exemption 113

In general 

Taxpayers are entitled to a personal exemption deduction for the 

taxpayer, his or her spouse, and each dependent. For 2003, the 

amount deductible for each personal exemption is $3,050. The deduction for personal exemptions is phased out for taxpayers with 

incomes above certain thresholds.114

In general, a taxpayer is entitled to a dependency exemption for 

an individual if the individual: (1) satisfies a relationship test or 

is a member of the taxpayer’s household for the entire taxable year; 

(2) satisfies a support test; (3) satisfies a gross income test or is a 

child of the taxpayer under a certain age; (4) is a citizen or resident 

of the U.S. or resident of Canada or Mexico; 115 and (5) did not file 

a joint return with his or her spouse for the year.116 In addition, 

the taxpayer identification number of the individual must be included on the taxpayer’s return. 

Relationship or member of household test 

Relationship test.—The relationship test is satisfied if an individual is the taxpayer’s (1) son or daughter or a descendant of either (e.g., grandchild or great-grandchild); (2) stepson or stepdaughter; (3) brother or sister (including half brother, half sister, 

stepbrother, or stepsister); (4) parent, grandparent, or other direct 

ancestor (but not foster parent); (5) stepfather or stepmother; (6) 

brother or sister of the taxpayer’s father or mother; (7) son or 

daughter of the taxpayer’s brother or sister; or (8) the taxpayer’s 

father-in-law, mother-in-law, son-in-law, daughter-in-law, brotherin-law, or sister-in-law. 

An adopted child (or a child who is a member of the taxpayer’s 

household and who has been placed with the taxpayer for adoption) 

81 

117Treas. Reg. sec. 1.152–1(b). 118 Id. 119 Id. 120 Rev. Rul. 66–28, 1966–1 C.B. 31. 121 In the case of a son, daughter, stepson, or stepdaughter of the taxpayer who is a full-time 

student, scholarships are not taken into account for purpose of the support test. Sec. 152(d). 

is treated as a child of the taxpayer. A foster child is treated as 

a child of the taxpayer if the foster child is a member of the taxpayer’s household for the entire taxable year. 

Member of household test.—If the relationship test is not satisfied, then the individual may be considered the dependent of the 

taxpayer if the individual is a member of the taxpayer’s household 

for the entire year. Thus, a taxpayer may be eligible to claim a dependency exemption with respect to an unrelated child who lives 

with the taxpayer for the entire year. 

For the member of household test to be satisfied, the taxpayer 

must both maintain the household and occupy the household with 

the individual.117 A taxpayer or other individual does not fail to be 

considered a member of a household because of ‘‘temporary’’ absences due to special circumstances, including absences due to illness, education, business, vacation, and military service.118 Similarly, an individual does not fail to be considered a member of the 

taxpayer’s household due to a custody agreement under which the 

individual is absent for less than six months.119 Indefinite absences 

that last for more than the taxable year may be considered ‘‘temporary.’’ For example, the IRS has ruled that an elderly woman 

who was indefinitely confined to a nursing home was temporarily 

absent from a taxpayer’s household. Under the facts of the ruling, 

the woman had been an occupant of the household before being 

confined to a nursing home, the confinement had extended for several years, and it was possible that the woman would die before becoming well enough to return to the taxpayer’s household. There 

was no intent on the part of the taxpayer or the woman to change 

her principal place of abode.120

Support test 

In general.—The support test is satisfied if the taxpayer provides 

over one half of the support of the individual for the taxable year. 

To determine whether a taxpayer has provided more than one half 

of an individual’s support, the amount the taxpayer contributed to 

the individual’s support is compared with the entire amount of support the individual received from all sources, including the individual’s own funds.121 Governmental payments and subsidies (e.g., 

Temporary Assistance to Needy Families, food stamps, and housing) generally are treated as support provided by a third party. Expenses that are not directly related to any one member of a household, such as the cost of food for the household, must be divided 

among the members of the household. If any person furnishes support in kind (e.g., in the form of housing), then the fair market 

value of that support must be determined. 

Multiple support agreements.—In some cases, no one taxpayer 

provides more than one half of the support of a individual. Instead, 

two or more taxpayers, each of whom would be able to claim a dependency exemption but for the support test, together provide more 

than one half of the individual’s support. If this occurs, the taxpayers may agree to designate that one of the taxpayers who indiVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00081 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
82 

122For purposes of this rule, a ‘‘child’’ means a son, daughter, stepson, or stepdaughter (including an adopted child or foster child, or child placed with the taxpayer for adoption). Sec. 

152(e)(1)(A). 123Special support rules also apply in the case of certain pre-1985 agreements between divorced or legally separated parents. Sec. 152(e)(4). 124 Certain income from sheltered workshops is not taken into account in determining the 

gross income of permanently and totally disabled individuals. Sec. 151(c)(5). 125Sec. 151(c). 126Sec. 32. 127 A child who is legally adopted or placed with the taxpayer for adoption by an authorized 

adoption agency is treated as the taxpayer’s own child. Sec. 32(c)(3)(B)(iv). 

vidually provides more than 10 percent of the individual’s support 

can claim a dependency exemption for the child. Each of the others 

must sign a written statement agreeing not to claim the exemption 

for that year. The statements must be filed with the income tax return of the taxpayer who claims the exemption. 

Special rules for divorced or legally separated parents.—Special 

rules apply in the case of a child of divorced or legally separated 

parents (or parents who live apart at all times during the last six 

months of the year) who provide over one half the child’s support 

during the calendar year.122 If such a child is in the custody of one 

or both of the parents for more than one half of the year, then the 

parent having custody for the greater portion of the year is deemed 

to satisfy the support test; however, the custodial parent may release the dependency exemption to the noncustodial parent by filing a written declaration with the IRS.123

Gross income test 

In general, an individual may not be claimed as a dependent of 

a taxpayer if the individual has gross income that is at least equal 

to the personal exemption amount for the taxable year.124 If the individual is the child of the taxpayer and under age 19 (or under 

age 24, if a full-time student), the gross income test does not 

apply.125 For purposes of this rule, a ‘‘child’’ means a son, daughter, stepson, or stepdaughter (including an adopted child of the taxpayer, a foster child who resides with the taxpayer for the entire 

year, or a child placed with the taxpayer for adoption by an authorized adoption agency). 

Earned income credit 126

In general 

In general, the earned income credit is a refundable credit for 

low-income workers. The amount of the credit depends on the 

earned income of the taxpayer and whether the taxpayer has one, 

more than one, or no ‘‘qualifying children.’’ In order to be a qualifying child for the earned income credit, an individual must satisfy 

a relationship test, a residency test, and an age test. In addition, 

the name, age, and taxpayer identification number of the qualifying 

child must be included on the return. 

Relationship test 

An individual satisfies the relationship test under the earned income credit if the individual is the taxpayer’s: (1) son, daughter, 

stepson, or stepdaughter, or a descendant of any such individual; 127 (2) brother, sister, stepbrother, or stepsister, or a descendant of any such individual, who the taxpayer cares for as the 

taxpayer’s own child; or (3) eligible foster child. An eligible foster 

83 

128Sec. 32(c)(3)(B)(ii). 129The principal place of abode of a member of the Armed Services is treated as in the United 

States during any period during which the individual is stationed outside the United States on 

active duty. Sec. 32(c)(4). 130 IRS Publication 596, Earned Income Credit (EIC), at 13. H. Rep. 101–964 (October 27, 

1990), at 1037. 131Sec. 24. 132 Economic Growth and Tax Relief Reconciliation Act of 2001 (‘‘EGTRRA’’), Pub. L. No. 107– 

16, sec. 901(a) (2001) (making, by way of the EGTRRA sunset provision, the increase in the child 

credit inapplicable to taxable years beginning after December 31, 2010). 

child is an individual (1) who is placed with the taxpayer by an authorized placement agency, and (2) who the taxpayer cares for as 

her or his own child. A married child of the taxpayer is not treated 

as meeting the relationship test unless the taxpayer is entitled to 

a dependency exemption with respect to the married child (e.g., the 

support test is satisfied) or would be entitled to the exemption if 

the taxpayer had not waived the exemption to the noncustodial 

parent.128

Residency test 

The residency test is satisfied if the individual has the same 

principal place of abode as the taxpayer for more than one half of 

the taxable year. The residence must be in the United States.129

As under the dependency exemption (and head of household filing 

status), temporary absences due to special circumstances, including 

absences due to illness, education, business, vacation, and military 

service are not treated as absences for purposes of determining 

whether the residency test is satisfied.130 Under the earned income 

credit, there is no requirement that the taxpayer maintain the 

household in which the taxpayer and the qualifying individual reside. 

Age test 

In general, the age test is satisfied if the individual has not attained age 19 as of the close of the calendar year. In the case of 

a full-time student, the age test is satisfied if the individual has 

not attained age 24 as of the close of the calendar year. In the case 

of an individual who is permanently and totally disabled, no age 

limit applies. 

Child credit 131

Taxpayers with incomes below certain amounts are eligible for a 

child credit for each qualifying child of the taxpayer. The amount 

of the child credit is up to $600, in the case of taxable years beginning in 2003 or 2004. The child credit increases to $700 for taxable 

years beginning in 2005 through 2008, $800 for taxable years beginning in 2009, and $1,000 for taxable years beginning in 2010. 

The credit declines to $500 in taxable year 2011.132 For purposes 

of this credit, a qualifying child is an individual: (1) with respect 

to whom the taxpayer is entitled to a dependency exemption for the 

year; (2) who satisfies the same relationship test applicable to the 

earned income credit; and (3) who has not attained age 17 as of the 

close of the calendar year. In addition, the child must be a citizen 

84 

133The child credit does not apply with respect to a child who is a resident of Canada or Mexico and is not a U.S. citizen, even if a dependency exemption is available with respect to the 

child. Sec. 24(c)(2). The child credit is, however, available with respect to a child dependent who 

is not a resident or citizen of the United States if: (1) the child has been legally adopted by 

the taxpayer; (2) the child’s principal place of abode is the taxpayer’s home; and (3) the taxpayer 

is a U.S. citizen or national. See sec. 24(c)(2) and sec. 152(b)(3). 134Sec. 24(d). 135Sec. 21. 136 Although such an individual must be a dependent of the taxpayer as defined in section 

152, it is not required that the taxpayer be entitled to a dependency exemption with respect 

to the individual under section 151. Thus, such an individual may be a qualifying individual 

for purposes of the dependent care credit, even though the taxpayer is not entitled to a dependency exemption because the individual does not meet the gross income test. 137Sec. 21(e)(5). 138Sec. 2(b). 

or resident of the United States.133 A portion of the child credit is 

refundable under certain circumstances.134

Dependent care credit 135

The dependent care credit may be claimed by a taxpayer who 

maintains a household that includes one or more qualifying individuals and who has employment-related expenses. A qualifying individual means (1) a dependent of the taxpayer under age 13 for 

whom the taxpayer is entitled to a dependency exemption, (2) a dependent of the taxpayer who is physically or mentally incapable of 

caring for himself or herself,136 or (3) the spouse of the taxpayer, 

if the spouse is physically or mentally incapable of caring for himself or herself. In addition, a taxpayer identification number for the 

qualifying individual must be included on the return. 

A taxpayer is considered to maintain a household for a period if 

over one half the cost of maintaining the household for the period 

is furnished by the taxpayer (or, if married, the taxpayer and his 

or her spouse). Costs of maintaining the household include expenses such as rent, mortgage interest (but not principal), real estate taxes, insurance on the home, repairs (but not home improvements), utilities, and food eaten in the home. 

A special rule applies in the case of a child who is under age 13 

or is physically or mentally incapable of caring for himself or herself if the custodial parent has waived his or her dependency exemption to the noncustodial parent.137 For the dependent care 

credit, the child is treated as a qualifying individual with respect 

to the custodial parent, not the parent entitled to claim the dependency exemption. 

Head of household filing status 138

A taxpayer may claim head of household filing status if the taxpayer is unmarried (and not a surviving spouse) and pays more 

than one half of the cost of maintaining as his or her home a 

household which is the principal place of abode for more than one 

half of the year of (1) an unmarried son, daughter, stepson or stepdaughter of the taxpayer or an unmarried descendant of the taxpayer’s son or daughter, (2) an individual described in (1) who is 

married, if the taxpayer may claim a dependency exemption with 

respect to the individual (or could claim the exemption if the taxpayer had not waived the exemption to the noncustodial parent), 

or (3) a relative with respect to whom the taxpayer may claim a 

85 

139Sec. 2(b)(1)(A)(ii), as qualified by sec. 2(b)(3)(B). An individual for whom the taxpayer is 

entitled to claim a dependency exemption by reason of a multiple support agreement does not 

qualify the taxpayer for head of household filing status. 

dependency exemption.139 If certain other requirements are satisfied, head of household filing status also may be claimed if the taxpayer is entitled to a dependency exemption with respect to one of 

the taxpayer’s parents. 

REASONS FOR CHANGE

Present law contains five commonly used provisions that provide 

benefits to taxpayers with children: (1) the dependency exemption; 

(2) the child credit; (3) the earned income credit; (4) the dependent 

care credit; and (5) head of household filing status. Each provision 

has separate criteria for determining whether the taxpayer qualifies for the applicable tax benefit with respect to a particular child. 

The separate criteria include factors such as the relationship (if 

any) the child must bear to the taxpayer, the age of the child, and 

whether the child must live with the taxpayer. Thus, a taxpayer is 

required to apply different definitions to the same individual when 

determining eligibility for these provisions, and an individual who 

qualifies a taxpayer for one provision does not automatically qualify the taxpayer for another provision. The use of different tests to 

determine whether a taxpayer may claim one or more of these tax 

benefits with respect to a child causes complexity for taxpayers and 

the IRS. The different tests relating to qualifying children are a 

source of errors for taxpayers both because the rules for each provision are different and because of the complexity of particular rules. 

The variety of rules cause taxpayers inadvertently to claim tax 

benefits for which they do not qualify, as well as to fail to claim 

tax benefits for which they do qualify. Adopting a uniform definition of qualifying child for five commonly used provisions (the dependency exemption, the child credit, the earned income credit, the 

dependent care credit, and head of household filing status) would 

achieve simplification by making it easier for taxpayers to determine whether they qualify for the various tax benefits relating to 

children, would reduce inadvertent taxpayer errors arising from 

confusion due to differing rules, and would make the applicable 

provisions easier for the IRS to administer. 

EXPLANATION OF PROVISION

General description of provision 

In general 

The provision establishes a uniform definition of qualifying child 

for purposes of the dependency exemption, the child credit, the 

earned income credit, the dependent care credit, and head of household filing status. A taxpayer generally may claim an individual 

who does not meet the uniform definition of qualifying child (with 

respect to any taxpayer) as a dependent if the present-law dependency requirements are satisfied. The provision generally does not 

modify other parameters of each tax benefit (e.g., the earned income requirements of the earned income credit) or the rules for determining whether individuals other than children qualify for each 

tax benefit. 

86 

140The provision eliminates the present-law rule requiring that if a child is the taxpayer’s sibling or stepsibling or a descendant of any such individual, the taxpayer must care for the child 

as if the child were his or her own child. 141The provision retains the present-law definition of full-time student set forth in section 

151(c)(4). 

Under the uniform definition, in general, a child is a qualifying 

child of a taxpayer if the child satisfies each of three tests: (1) the 

child has the same principal place of abode as the taxpayer for 

more than one half the taxable year; (2) the child has a specified 

relationship to the taxpayer; and (3) the child has not yet attained 

a specified age. A tie-breaking rule applies if more than one taxpayer claims a child as a qualifying child. 

Under the provision, the present-law support and gross income 

tests for determining whether an individual is a dependent generally do not apply to a child who meets the requirements of the 

uniform definition of qualifying child. 

Residency test 

Under the uniform definition’s residency test, a child must have 

the same principal place of abode as the taxpayer for more than 

one half of the taxable year. It is intended that, as is the case 

under present law, temporary absences due to special circumstances, including absences due to illness, education, business, 

vacation, or military service, would not be treated as absences. 

Relationship test 

In order to be a qualifying child under the provision, the child 

must be the taxpayer’s son, daughter, stepson, stepdaughter, brother, sister, stepbrother, stepsister, or a descendant of any such individual. A legally adopted individual of the taxpayer, or an individual who is lawfully placed with the taxpayer for legal adoption 

by the taxpayer, is treated as a child of such taxpayer by blood. A 

foster child who is placed with the taxpayer by an authorized placement agency or by judgment, decree, or other order of any court of 

competent jurisdiction is treated as the taxpayer’s child.140

Age test 

Under the provision, the age test varies depending upon the tax 

benefit involved. In general, a child must be under age 19 (or under 

age 24 in the case of a full-time student) in order to be a qualifying 

child.141 In general, no age limit applies with respect to individuals 

who are totally and permanently disabled within the meaning of 

section 22(e)(3) at any time during the calendar year. The provision 

retains the present-law requirements that a child must be under 

age 13 (if he or she is not disabled) for purposes of the dependent 

care credit, and under age 17 (whether or not disabled) for purposes of the child credit. 

Children who support themselves 

Under the provision, a child who provides over one half of his or 

her own support generally is not considered a qualifying child of 

another taxpayer. The provision retains the present-law rule, however, that a child who provides over one half of his or her own support may constitute a qualifying child of another taxpayer for purposes of the earned income credit. 

87 

142 Individuals who satisfy the present-law dependency tests and who are not qualifying children are referred to as ‘‘qualifying relatives’’ under the provision. 

Tie-breaking rules 

If a child would be a qualifying child with respect to more than 

one individual (e.g., a child lives with his or her mother and grandmother in the same residence) and more than one person claims a 

benefit with respect to that child, then the following ‘‘tie-breaking’’ 

rules apply. First, if only one of the individuals claiming the child 

as a qualifying child is the child’s parent, the child is deemed the 

qualifying child of the parent. Second, if both parents claim the 

child and the parents do not file a joint return, then the child is 

deemed a qualifying child first with respect to the parent with 

whom the child resides for the longest period of time, and second 

with respect to the parent with the highest adjusted gross income. 

Third, if the child’s parents do not claim the child, then the child 

is deemed a qualifying child with respect to the claimant with the 

highest adjusted gross income. 

Interaction with present-law rules 

Taxpayers generally may claim an individual who does not meet 

the uniform definition of qualifying child with respect to any taxpayer as a dependent if the present-law dependency requirements 

(including the gross income and support tests) are satisfied.142

Thus, for example, a taxpayer may claim a parent as a dependent 

if the taxpayer provides more than one half of the support of the 

parent and the parent’s gross income is less than the exemption 

amount. 

Children who are U.S. citizens living abroad or non-U.S. citizens 

living in Canada or Mexico may qualify as a qualifying child, as is 

the case under the present-law dependency tests. A legally adopted 

child who does not satisfy the residency or citizenship requirement 

may nevertheless qualify as a qualifying child (provided other applicable requirements are met) if (1) the child’s principal place of 

abode is the taxpayer’s home and (2) the taxpayer is a citizen or 

national of the United States. 

Children of divorced or legally separated parents 

The provision generally retains the present-law rule that allows 

a custodial parent to release the claim to a dependency exemption 

and the child credit to a noncustodial parent. Thus, the provision 

generally grandfathers those custodial waivers that are in place 

and effective on the date of enactment, and generally retains the 

custodial waiver rule for purposes of the dependency exemption 

and the child credit for decrees of divorce or separate maintenance 

or written separation agreements that become effective after the 

date of enactment. Under the provision, the custodial waiver rules 

do not affect eligibility with respect to children of divorced or legally separated parents for purposes of the earned income credit, 

the dependent care credit, and head of household filing status. 

Other provisions 

The provision retains the applicable present-law requirements 

that a taxpayer identification number for a child be provided on the 

taxpayer’s return. For purposes of the earned income credit, a 

88 

qualifying child is required to have a social security number that 

is valid for employment in the United States (that is, the child 

must be a U.S. citizen, permanent resident, or have a certain type 

of temporary visa). 

Effect of provision on particular tax benefits 

Dependency exemption 

For purposes of the dependency exemption, the provision defines 

a dependent as a qualifying child or a qualifying relative. The 

qualifying child test eliminates the support test (other than in the 

case of a child who provides more than one half of his or her own 

support), and replaces it with the residency requirement described 

above. Further, the present-law gross income test does not apply to 

a qualifying child. The rules relating to multiple support agreements do not apply with respect to qualifying children because the 

support test does not apply to them. Special tie-breaking rules (described above) apply if more than one taxpayer claims a qualifying 

child under the provision. These tie-breaking rules do not apply if 

a child constitutes a qualifying child with respect to multiple taxpayers, but only one eligible taxpayer actually claims the qualifying 

child. 

The provision generally permits taxpayers to continue to apply 

the present-law dependency exemption rules to claim a dependency 

exemption for a qualifying relative who does not satisfy the qualifying child definition. In such cases, the present-law gross income 

and support tests, including the special rules for multiple support 

agreements, the special rules relating to income of handicapped dependents, and the special support test in case of students, continue 

to apply for purposes of the dependency exemption. 

As is the case under present law, a child who provides over half 

of his or her own support is not considered a dependent of another 

taxpayer under the provision. Further, an individual shall not be 

treated as a dependent of any taxpayer if such individual has filed 

a joint return with the individual’s spouse for the taxable year. 

Earned income credit 

In general, the provision adopts a definition of qualifying child 

that is similar to the present-law definition under the earned income credit. The present-law requirement that a foster child and 

certain other children be cared for as the taxpayer’s own child is 

eliminated. The present-law tie-breaker rule applicable to the 

earned income credit is used for purposes of the uniform definition 

of qualifying child. The provision retains the present-law requirement that the taxpayer’s principal place of abode must be in the 

United States. 

Child credit 

The present-law child credit generally uses the same relationships to define an eligible child as the uniform definition. The 

present-law requirement that a foster child and certain other children be cared for as the taxpayer’s own child is eliminated. The age 

limitation under the provision retains the present-law requirement 

that the child must be under age 17, regardless of whether the 

child is disabled. 

89 

Dependent care credit 

The present-law requirement that a taxpayer maintain a household in order to claim the dependent care credit is eliminated. 

Thus, if other applicable requirements are satisfied, a taxpayer 

may claim the dependent care credit with respect to a child who 

lives with the taxpayer for more than one half the year, even if the 

taxpayer does not provide more than one half of the cost of maintaining the household. 

The rules for determining eligibility for the credit with respect to 

an individual who is physically or mentally incapable of caring for 

himself or herself are amended to include a requirement that the 

taxpayer and the dependent have the same principal place of abode 

for more than one half the taxable year. 

Head of household filing status 

Under the provision, a taxpayer qualifies for head of household 

filing status with respect to a child who is a qualifying child as defined under the provision. An individual who is not a qualifying 

child will qualify the taxpayer for head of household status only if, 

as is the case under present law, the individual is a dependent of 

the taxpayer and the taxpayer is entitled to a dependency exemption for such individual, or the individual is the taxpayer’s father 

or mother and certain other requirements are satisfied. Thus, 

under the provision a taxpayer is eligible for head of household filing status only with respect to a qualifying child or an individual 

for whom the taxpayer is entitled to a dependency exemption. 

The provision retains the present-law requirement that the taxpayer provide over one half the cost of maintaining the household. 

EFFECTIVE DATE

The provision is effective for taxable years beginning after December 31, 2004. 

B. SIMPLIFICATION THROUGH ELIMINATION OF INOPERATIVE

PROVISIONS

(Sec. 511 of the bill) 

PRESENT LAW

The Internal Revenue Code of 1986 contains provisions that are 

no longer used in computing current taxes or are little used or of 

minor importance. These provisions are popularly referred to as 

‘‘deadwood’’. 

REASONS FOR CHANGE

The provision simplifies the Code by deleting ‘‘deadwood’’ without 

making substantive changes in the tax law. 

EXPLANATION OF PROVISION

The provision contains numerous amendments to the Code repealing obsolete provisions to the Internal Revenue Code of 1986. 

No substantive changes are intended by the amendments. 

90 

143On February 27, 2003, the Treasury Department and the IRS released final regulations 

regarding the disclosure of reportable transactions. In general, the regulations are effective for 

transactions entered into on or after February 28, 2003. 

The discussion of present law refers to the new regulations. The rules that apply with respect 

to transactions entered into on or before February 28, 2003, are contained in Treas. Reg. sec. 

1.6011–4T in effect on the date the transaction was entered into. 144The regulations clarify that the term ‘‘substantially similar’’ includes any transaction that 

is expected to obtain the same or similar types of tax consequences and that is either factually 

similar or based on the same or similar tax strategy. Further, the term must be broadly construed in favor of disclosure. Treas. Reg. sec. 1–6011–4(c)(4). 145Treas. Reg. sec. 1.6011–4(b)(2). 146Treas. Reg. sec. 1.6011–4(b)(3). 147Treas. Reg. sec. 1.6011–4(b)(4). 148Treas. Reg. sec. 1.6011–4(b)(5). IRS Rev. Proc. 2003–24, 2003–11 I.R.B. 599, exempts certain types of losses from this reportable transaction category. 

EFFECTIVE DATE

The provision takes effect on the date of enactment. 

TITLE VI.—REVENUE RAISERS 

A. PROVISIONS DESIGNED TO CURTAIL TAX SHELTERS

1. Penalty for failing to disclose reportable transaction (Sec. 601 of 

the bill and sec. 6707A of the Code) 

PRESENT LAW

Regulations under section 6011 require a taxpayer to disclose 

with its tax return certain information with respect to each ‘‘reportable transaction’’ in which the taxpayer participates.143

There are six categories of reportable transactions. The first category is any transaction that is the same as (or substantially similar to) 144 a transaction that is specified by the Treasury Department as a tax avoidance transaction whose tax benefits are subject 

to disallowance under present law (referred to as a ‘‘listed transaction’’).145

The second category is any transaction that is offered under conditions of confidentiality. In general, a transaction is considered to 

be offered to a taxpayer under conditions of confidentiality if the 

advisor who is paid a minimum fee places a limitation on disclosure by the taxpayer of the tax treatment or tax structure of the 

transaction and the limitation on disclosure protects the confidentiality of that advisor’s tax strategies (irrespective if such terms are 

legally binding).146

The third category of reportable transactions is any transaction 

for which (1) the taxpayer has the right to a full or partial refund 

of fees if the intended tax consequences from the transaction are 

not sustained or, (2) the fees are contingent on the intended tax 

consequences from the transaction being sustained.147

The fourth category of reportable transactions relates to any 

transaction resulting in a taxpayer claiming a loss (under section 

165) of at least (1) $10 million in any single year or $20 million 

in any combination of years by a corporate taxpayer or a partnership with only corporate partners; (2) $2 million in any single year 

or $4 million in any combination of years by all other partnerships, 

S corporations, trusts, and individuals; or (3) $50,000 in any single 

year for individuals or trusts if the loss arises with respect to foreign currency translation losses.148

91 

149The significant book-tax category applies only to taxpayers that are reporting companies under the Securities Exchange Act of 1934 or business entities that have $250 million or more 

in gross assets. 150Treas. Reg. sec. 1.6011–4(b)(6). IRS Rev. Proc. 2003–25, 2003–11 I.R.B. 601, exempts certain types of transactions from this reportable transaction category. 151Treas. Reg. sec. 1.6011–4(b)(7). 152Section 6664(c) provides that a taxpayer can avoid the imposition of a section 6662 accuracy-related penalty in cases where the taxpayer can demonstrate that there was reasonable 

cause for the underpayment and that the taxpayer acted in good faith. Regulations under sections 6662 and 6664 provide that a taxpayer’s failure to disclose a reportable transaction is a 

strong indication that the taxpayer failed to act in good faith, which would bar relief under section 6664(c). 153 In this regard, the Committee has concerns with the outcomes and rationales used by 

courts in some recent decisions involving tax-motivated transactions. For a more detailed discussion of recent court decisions and other developments regarding tax shelters, see Joint Committee on Taxation, Background and Present Law Relating to Tax Shelters (JCX 19–02), March 

19, 2002. 

The fifth category of reportable transactions refers to any transaction done by certain taxpayers 149 in which the tax treatment of 

the transaction differs (or is expected to differ) by more than $10 

million from its treatment for book purposes (using generally accepted accounting principles) in any year.150

The final category of reportable transactions is any transaction that results in a tax credit exceeding $250,000 (including a foreign 

tax credit) if the taxpayer holds the underlying asset for less than 

45 days.151

Under present law, there is no specific penalty for failing to disclose a reportable transaction; however, such a failure can jeopardize a taxpayer’s ability to claim that any income tax understatement attributable to such undisclosed transaction is due to reasonable cause, and that the taxpayer acted in good faith.152

REASONS FOR CHANGE

The Committee is aware that individuals and corporations are 

increasingly using sophisticated transactions to avoid or evade Federal income tax.153 Such a phenomenon could pose a serious threat 

to the efficacy of the tax system because of both the potential loss 

of revenue and the potential threat to the integrity of the self-assessment system. 

The Committee over three years ago began working on legislation to address this significant compliance problem. In addition, the 

Treasury Department, using the tools available, issued regulations 

requiring disclosure of certain transactions and requiring organizers and promoters of tax-engineered transactions to maintain 

customer lists and make these lists available to the IRS. Nevertheless, the Committee believes that additional legislation is needed to 

provide the Treasury Department with additional tools to assist its 

efforts to curtail abusive transactions. Moreover, the Committee believes that a penalty for failing to make the required disclosures, 

when the imposition of such penalty is not dependent on the tax 

treatment of the underlying transaction ultimately being sustained, 

will provide an additional incentive for taxpayers to satisfy their 

reporting obligations under the new disclosure provisions. 

EXPLANATION OF PROVISION

In general 

The provision creates a new penalty for any person who fails to 

include with any return or statement any required information 

92 

154The provision states that, except as provided in regulations, a listed transaction means a 

reportable transaction, which is the same as, or substantially similar to, a transaction specifically identified by the Secretary as a tax avoidance transaction for purposes of section 6011. For 

this purpose, it is expected that the definition of ‘‘substantially similar’’ will be the definition 

used in Treas. Reg. sec. 1.6011–4(c)(4). However, the Secretary may modify this definition (as 

well as the definitions of ‘‘listed transaction’’ and ‘‘reportable transactions’’) as appropriate. 155 A reportable avoidance transaction is a reportable transaction with a significant tax avoidance purpose. 

with respect to a reportable transaction. The new penalty applies 

without regard to whether the transaction ultimately results in an 

understatement of tax, and applies in addition to any accuracy-related penalty that may be imposed. 

Transactions to be disclosed 

The provision does not define the terms ‘‘listed transaction’’ 154 or 

‘‘reportable transaction,’’ nor does the provision explain the type of 

information that must be disclosed in order to avoid the imposition 

of a penalty. Rather, the provision authorizes the Treasury Department to define a ‘‘listed transaction’’ and a ‘‘reportable transaction’’ 

under section 6011. 

Penalty rate 

The penalty for failing to disclose a reportable transaction is $50,000. The amount is increased to $100,000 if the failure is with 

respect to a listed transaction. For large entities and high net 

worth individuals, the penalty amount is doubled (i.e., $100,000 for 

a reportable transaction and $200,000 for a listed transaction). The 

penalty cannot be waived with respect to a listed transaction. As 

to reportable transactions, the penalty can be rescinded (or abated) 

only if: (1) the taxpayer on whom the penalty is imposed has a history of complying with the Federal tax laws, (2) it is shown that 

the violation is due to an unintentional mistake of fact, (3) imposing the penalty would be against equity and good conscience, and 

(4) rescinding the penalty would promote compliance with the tax 

laws and effective tax administration. The authority to rescind the 

penalty can only be exercised by the IRS Commissioner personally 

or the head of the Office of Tax Shelter Analysis. Thus, the penalty 

cannot be rescinded by a revenue agent, an Appeals officer, or any 

other IRS personnel. The decision to rescind a penalty must be accompanied by a record describing the facts and reasons for the action and the amount rescinded. There will be no taxpayer right to 

appeal a refusal to rescind a penalty. The IRS also is required to 

submit an annual report to Congress summarizing the application 

of the disclosure penalties and providing a description of each penalty rescinded under this provision and the reasons for the rescission. 

A ‘‘large entity’’ is defined as any entity with gross receipts in excess of $10 million in the year of the transaction or in the preceding year. A ‘‘high net worth individual’’ is defined as any individual whose net worth exceeds $2 million, based on the fair market value of the individual’s assets and liabilities immediately before entering into the transaction. 

A public entity that is required to pay a penalty for failing to disclose a listed transaction (or is subject to an understatement penalty attributable to a non-disclosed listed transaction or a non-disclosed reportable avoidance transaction) 155 must disclose the impoVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00092 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
93 

156Sec. 6662. 157Sec. 6662(d)(2)(B). 158Sec. 6662(d)(2)(C). 159Sec. 6664(c). 

sition of the penalty in reports to the Securities and Exchange 

Commission for such period as the Secretary shall specify. The provision applies without regard to whether the taxpayer determines 

the amount of the penalty to be material to the reports in which 

the penalty must appear, and treats any failure to disclose a transaction in such reports as a failure to disclose a listed transaction. 

A taxpayer must disclose a penalty in reports to the Securities and 

Exchange Commission once the taxpayer has exhausted its administrative and judicial remedies with respect to the penalty (or if 

earlier, when paid). 

EFFECTIVE DATE

The provision is effective for returns and statements the due date 

for which is after the date of enactment. 

2. Accuracy-related penalty for listed transactions and other reportable transactions having a significant tax avoidance purpose 

(Sec. 602 of the bill and sec. 6662A of the Code) 

PRESENT LAW

The accuracy-related penalty applies to the portion of any underpayment that is attributable to (1) negligence, (2) any substantial 

understatement of income tax, (3) any substantial valuation 

misstatement, (4) any substantial overstatement of pension liabilities, or (5) any substantial estate or gift tax valuation understatement. If the correct income tax liability exceeds that reported by 

the taxpayer by the greater of 10 percent of the correct tax or 

$5,000 ($10,000 in the case of corporations), then a substantial understatement exists and a penalty may be imposed equal to 20 percent of the underpayment of tax attributable to the understatement.156 The amount of any understatement generally is reduced 

by any portion attributable to an item if (1) the treatment of the 

item is or was supported by substantial authority, or (2) facts relevant to the tax treatment of the item were adequately disclosed 

and there was a reasonable basis for its tax treatment.157

Special rules apply with respect to tax shelters.158 For understatements by non-corporate taxpayers attributable to tax shelters, 

the penalty may be avoided only if the taxpayer establishes that, 

in addition to having substantial authority for the position, the taxpayer reasonably believed that the treatment claimed was more 

likely than not the proper treatment of the item. This reduction in 

the penalty is unavailable to corporate tax shelters. 

The understatement penalty generally is abated (even with respect to tax shelters) in cases in which the taxpayer can demonstrate that there was ‘‘reasonable cause’’ for the underpayment 

and that the taxpayer acted in good faith.159 The relevant regulations provide that reasonable cause exists where the taxpayer ‘‘reasonably relies in good faith on an opinion based on a professional 

tax advisor’s analysis of the pertinent facts and authorities [that] 

* * * unambiguously concludes that there is a greater than 50-perVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00093 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
94 

160Treas. Reg. sec. 1.6662–4(g)(4)(i)(B); Treas. Reg. sec. 1.6664–4(c). 161The terms ‘‘reportable transaction’’ and ‘‘listed transaction’’ have the same meanings as 

used for purposes of the penalty for failing to disclose reportable transactions. 

cent likelihood that the tax treatment of the item will be upheld 

if challenged’’ by the IRS.160

REASONS FOR CHANGE

Because the Treasury shelter initiative emphasizes combating 

abusive tax avoidance transactions by requiring increased disclosure of such transactions by all parties involved, the Committee believes that taxpayers should be subject to a strict liability penalty 

on an understatement of tax that is attributable to non-disclosed 

listed transactions or non-disclosed reportable transactions that 

have a significant purpose of tax avoidance. Furthermore, in order 

to deter taxpayers from entering into tax avoidance transactions, 

the Committee believes that a more meaningful (but less stringent) 

accuracy-related penalty should apply to such transactions even 

when disclosed. 

EXPLANATION OF PROVISION

In general 

The provision modifies the present-law accuracy related penalty 

by replacing the rules applicable to tax shelters with a new accuracy-related penalty that applies to listed transactions and reportable transactions with a significant tax avoidance purpose (hereinafter referred to as a ‘‘reportable avoidance transaction’’).161 The 

penalty rate and defenses available to avoid the penalty vary depending on whether the transaction was adequately disclosed. 

Disclosed transactions 

In general, a 20-percent accuracy-related penalty is imposed on 

any understatement attributable to an adequately disclosed listed 

transaction or reportable avoidance transaction. The only exception 

to the penalty is if the taxpayer satisfies a more stringent reasonable cause and good faith exception (hereinafter referred to as the 

‘‘strengthened reasonable cause exception’’), which is described 

below. The strengthened reasonable cause exception is available 

only if the relevant facts affecting the tax treatment are adequately 

disclosed, there is or was substantial authority for the claimed tax 

treatment, and the taxpayer reasonably believed that the claimed 

tax treatment was more likely than not the proper treatment. 

Undisclosed transactions 

If the taxpayer does not adequately disclose the transaction, the 

strengthened reasonable cause exception is not available (i.e., a 

strict-liability penalty applies), and the taxpayer is subject to an increased penalty rate equal to 30 percent of the understatement. 

In addition, a public entity that is required to pay the 30-percent 

penalty must disclose the imposition of the penalty in reports to 

the SEC for such periods as the Secretary shall specify. The disclosure to the SEC applies without regard to whether the taxpayer determines the amount of the penalty to be material to the reports 

in which the penalty must appear, and any failure to disclose such 

penalty in the reports is treated as a failure to disclose a listed 

95 

162For this purpose, any reduction in the excess of deductions allowed for the taxable year 

over gross income for such year, and any reduction in the amount of capital losses which would 

(without regard to section 1211) be allowed for such year, shall be treated as an increase in 

taxable income. 163See the previous discussion regarding the penalty for failing to disclose a reportable transaction. 

transaction. A taxpayer must disclose a penalty in reports to the 

SEC once the taxpayer has exhausted its administrative and judicial remedies with respect to the penalty (or if earlier, when paid). 

Once the 30-percent penalty has been included in the Revenue 

Agent Report, the penalty cannot be compromised for purposes of 

a settlement without approval of the Commissioner personally or 

the head of the Office of Tax Shelter Analysis. Furthermore, the 

IRS is required to submit an annual report to Congress summarizing the application of this penalty and providing a description of 

each penalty compromised under this provision and the reasons for 

the compromise. 

Determination of the understatement amount 

The penalty is applied to the amount of any understatement attributable to the listed or reportable avoidance transaction without 

regard to other items on the tax return. For purposes of this provision, the amount of the understatement is determined as the sum 

of (1) the product of the highest corporate or individual tax rate (as 

appropriate) and the increase in taxable income resulting from the 

difference between the taxpayer’s treatment of the item and the 

proper treatment of the item (without regard to other items on the 

tax return) 162, and (2) the amount of any decrease in the aggregate 

amount of credits which results from a difference between the taxpayer’s treatment of an item and the proper tax treatment of such 

item. 

Except as provided in regulations, a taxpayer’s treatment of an 

item shall not take into account any amendment or supplement to 

a return if the amendment or supplement is filed after the earlier 

of when the taxpayer is first contacted regarding an examination 

of the return or such other date as specified by the Secretary. 

Strengthened reasonable cause exception 

A penalty is not imposed under the provision with respect to any 

portion of an understatement if it is shown that there was reasonable cause for such portion and the taxpayer acted in good faith. 

Such a showing requires (1) adequate disclosure of the facts affecting the transaction in accordance with the regulations under section 6011,163 (2) that there is or was substantial authority for such 

treatment, and (3) that the taxpayer reasonably believed that such 

treatment was more likely than not the proper treatment. For this 

purpose, a taxpayer will be treated as having a reasonable belief 

with respect to the tax treatment of an item only if such belief (1) 

is based on the facts and law that exist at the time the tax return 

that includes the item is filed, and (2) relates solely to the taxpayer’s chances of success on the merits and does not take into account the possibility that (a) a return will not be audited, (b) the 

treatment will not be raised on audit, or (c) the treatment will be 

resolved through settlement if raised. 

A taxpayer may (but is not required to) rely on an opinion of a 

tax advisor in establishing its reasonable belief with respect to the 

96 

164The term ‘‘material advisor’’ (defined below in connection with the new information filing 

requirements for material advisors) means any person who provides any material aid, assistance, or advice with respect to organizing, promoting, selling, implementing, or carrying out any 

reportable transaction, and who derives gross income in excess of $50,000 in the case of a reportable transaction substantially all of the tax benefits from which are provided to natural persons ($250,000 in any other case). 165This situation could arise, for example, when an advisor has an arrangement or understanding (oral or written) with an organizer, manager, or promoter of a reportable transaction 

that such party will recommend or refer potential participants to the advisor for an opinion regarding the tax treatment of the transaction. 166 An advisor should not be treated as participating in the organization of a transaction if 

the advisor’s only involvement with respect to the organization of the transaction is the rendering of an opinion regarding the tax consequences of such transaction. However, such an advisor may be a ‘‘disqualified tax advisor’’ with respect to the transaction if the advisor participates 

in the management, promotion or sale of the transaction (or if the advisor is compensated by 

a material advisor, has a fee arrangement that is contingent on the tax benefits of the transaction, or as determined by the Secretary, has a continuing financial interest with respect to 

the transaction). 

tax treatment of the item. However, a taxpayer may not rely on an 

opinion of a tax advisor for this purpose if the opinion (1) is provided by a ‘‘disqualified tax advisor,’’ or (2) is a ‘‘disqualified opinion.’’ 

Disqualified tax advisor 

A disqualified tax advisor is any advisor who (1) is a material advisor 164 and who participates in the organization, management, 

promotion or sale of the transaction or is related (within the meaning of section 267(b) or 707(b)(1)) to any person who so participates, 

(2) is compensated directly or indirectly 165 by a material advisor 

with respect to the transaction, (3) has a fee arrangement with respect to the transaction that is contingent on all or part of the intended tax benefits from the transaction being sustained, or (4) as 

determined under regulations prescribed by the Secretary, has a 

disqualifying financial interest with respect to the transaction. 

A material advisor is considered as participating in the ‘‘organization’’ of a transaction if the advisor performs acts relating to the 

development of the transaction. This may include, for example, preparing documents (1) establishing a structure used in connection 

with the transaction (such as a partnership agreement), (2) describing the transaction (such as an offering memorandum or other 

statement describing the transaction), or (3) relating to the registration of the transaction with any federal, state or local government body.166 Participation in the ‘‘management’’ of a transaction 

means involvement in the decision-making process regarding any 

business activity with respect to the transaction. Participation in 

the ‘‘promotion or sale’’ of a transaction means involvement in the 

marketing or solicitation of the transaction to others. Thus, an advisor who provides information about the transaction to a potential 

participant is involved in the promotion or sale of a transaction, as 

is any advisor who recommends the transaction to a potential participant. 

Disqualified opinion 

An opinion may not be relied upon if the opinion (1) is based on 

unreasonable factual or legal assumptions (including assumptions 

as to future events), (2) unreasonably relies upon representations, 

statements, finding or agreements of the taxpayer or any other person, (3) does not identify and consider all relevant facts, or (4) fails 

to meet any other requirement prescribed by the Secretary. 

97 

167Sec. 6662(a) and (d)(1)(A). 168Sec. 6662(d)(2)(B). 169Sec. 6662(d)(2)(D). 

Coordination with other penalties 

Any understatement upon which a penalty is imposed under this 

provision is not subject to the accuracy-related penalty under section 6662. However, such understatement is included for purposes 

of determining whether any understatement (as defined in sec. 

6662(d)(2)) is a substantial understatement as defined under section 6662(d)(1). 

The penalty imposed under this provision shall not apply to any 

portion of an understatement to which a fraud penalty is applied 

under section 6663. 

EFFECTIVE DATE

The provision is effective for taxable years ending after the date 

of enactment. 

3. Modifications of substantial understatement penalty for nonreportable transactions (Sec. 603 of the bill and sec. 6662 of 

the Code) 

PRESENT LAW

Definition of substantial understatement 

An accuracy-related penalty equal to 20 percent applies to any 

substantial understatement of tax. A ‘‘substantial understatement’’ 

exists if the correct income tax liability for a taxable year exceeds 

that reported by the taxpayer by the greater of 10 percent of the 

correct tax or $5,000 ($10,000 in the case of most corporations).167

Reduction of understatement for certain positions 

For purposes of determining whether a substantial understatement penalty applies, the amount of any understatement generally 

is reduced by any portion attributable to an item if (1) the treatment of the item is supported by substantial authority, or (2) facts 

relevant to the tax treatment of the item were adequately disclosed 

and there was a reasonable basis for its tax treatment.168

The Secretary is required to publish annually in the Federal Register a list of positions for which the Secretary believes there is not 

substantial authority and which affect a significant number of taxpayers.169

REASONS FOR CHANGE

The Committee believes that the present-law definition of substantial understatement allows large corporate taxpayers to avoid 

the accuracy-related penalty on questionable transactions of a significant size. The Committee believes that an understatement of 

more than $10 million is substantial in and of itself, regardless of 

the proportion it represents of the taxpayer’s total tax liability. 

The Committee believes that a higher compliance standard 

should be imposed on any taxpayer in order to reduce the amount 

of an understatement resulting from a transaction that the taxpayer did not adequately disclose. The Committee further believes 

that a taxpayer should not take a position on a tax return that 

98 

could give rise to a substantial understatement penalty that the 

taxpayer does not believe is more likely than not the correct tax 

treatment unless this information is disclosed to the IRS. 

EXPLANATION OF PROVISION

Definition of substantial understatement 

The provision modifies the definition of ‘‘substantial’’ for corporate taxpayers. Under the provision, a corporate taxpayer has a 

substantial understatement if the amount of the understatement 

for the taxable year exceeds the lesser of (1) 10 percent of the tax 

required to be shown on the return for the taxable year (or, if 

greater, $10,000), or (2) $10 million. 

Reduction of understatement for certain positions 

The provision elevates the standard that a taxpayer must satisfy 

in order to reduce the amount of an understatement for undisclosed 

items. With respect to the treatment of an item whose facts are not 

adequately disclosed, a resulting understatement is reduced only if 

the taxpayer had a reasonable belief that the tax treatment was 

more likely than not the proper treatment. The provision also authorizes (but does not require) the Secretary to publish a list of positions for which it believes there is not substantial authority or 

there is no reasonable belief that the tax treatment is more likely 

than not the proper treatment (without regard to whether such positions affect a significant number of taxpayers). The list shall be 

published in the Federal Register or the Internal Revenue Bulletin. 

EFFECTIVE DATE

The provision is effective for taxable years beginning after date 

of enactment. 

4. Tax shelter exception to confidentiality privileges relating to taxpayer communications (Sec. 604 of the bill and sec. 7525 of the 

Code) 

PRESENT LAW

In general, a common law privilege of confidentiality exists for 

communications between an attorney and client with respect to the 

legal advice the attorney gives the client. The Code provides that, 

with respect to tax advice, the same common law protections of 

confidentiality that apply to a communication between a taxpayer 

and an attorney also apply to a communication between a taxpayer 

and a federally authorized tax practitioner to the extent the communication would be considered a privileged communication if it 

were between a taxpayer and an attorney. This rule is inapplicable 

to communications regarding corporate tax shelters. 

REASONS FOR CHANGE

The Committee believes that the rule currently applicable to corporate tax shelters should be applied to all tax shelters, regardless 

of whether or not the participant is a corporation. 

99 

170Sec. 6111(a). 171The tax shelter ratio is, with respect to any year, the ratio that the aggregate amount of 

the deductions and 350 percent of the credits, which are represented to be potentially allowable 

to any investor, bears to the investment base (money plus basis of assets contributed) as of the 

close of the tax year. 172Sec. 6111(c). 173Sec. 6111(d). 174Treas. Reg. sec. 301.6111–2(b)(2). 175Treas. Reg. sec. 301.6111–2(b)(3). 176Treas. Reg. sec. 301.6111–2(b)(4). 

EXPLANATION OF PROVISION

The provision modifies the rule relating to corporate tax shelters 

by making it applicable to all tax shelters, whether entered into by 

corporations, individuals, partnerships, tax-exempt entities, or any 

other entity. Accordingly, communications with respect to tax shelters are not subject to the confidentiality provision of the Code that 

otherwise applies to a communication between a taxpayer and a 

federally authorized tax practitioner. 

EFFECTIVE DATE

The provision is effective with respect to communications made 

on or after the date of enactment. 

5. Disclosure of reportable transactions (Sec. 605 of the bill and 

secs. 6111 and 6707 of the Code) 

PRESENT LAW

Registration of tax shelter arrangements 

An organizer of a tax shelter is required to register the shelter 

with the Secretary not later than the day on which the shelter is 

first offered for sale.170 A ‘‘tax shelter’’ means any investment with 

respect to which the tax shelter ratio 171 for any investor as of the 

close of any of the first five years ending after the investment is 

offered for sale may be greater than two to one and which is: (1) 

required to be registered under Federal or State securities laws, (2) 

sold pursuant to an exemption from registration requiring the filing of a notice with a Federal or State securities agency, or (3) a 

substantial investment (greater than $250,000 and involving at 

least five investors).172

Other promoted arrangements are treated as tax shelters for 

purposes of the registration requirement if: (1) a significant purpose of the arrangement is the avoidance or evasion of Federal income tax by a corporate participant; (2) the arrangement is offered 

under conditions of confidentiality; and (3) the promoter may receive fees in excess of $100,000 in the aggregate.173

In general, a transaction has a ‘‘significant purpose of avoiding 

or evading Federal income tax’’ if the transaction: (1) is the same 

as or substantially similar to a ‘‘listed transaction,’’ 174 or (2) is 

structured to produce tax benefits that constitute an important 

part of the intended results of the arrangement and the promoter 

reasonably expects to present the arrangement to more than one 

taxpayer.175 Certain exceptions are provided with respect to the 

second category of transactions.176

An arrangement is offered under conditions of confidentiality if: 

(1) an offeree has an understanding or agreement to limit the disclosure of the transaction or any significant tax features of the 

100 

177The regulations provide that the determination of whether an arrangement is offered 

under conditions of confidentiality is based on all the facts and circumstances surrounding the 

offer. If an offeree’s disclosure of the structure or tax aspects of the transaction are limited in 

any way by an express or implied understanding or agreement with or for the benefit of a tax 

shelter promoter, an offer is considered made under conditions of confidentiality, whether or not 

such understanding or agreement is legally binding. Treas. Reg. sec. 301.6111–2(c)(1). 178Sec. 6707. 179The terms ‘‘reportable transaction’’ and ‘‘listed transaction’’ have the same meaning as previously described in connection with the taxpayer-related provisions. 

transaction; or (2) the promoter knows, or has reason to know, that 

the offeree’s use or disclosure of information relating to the transaction is limited in any other manner.177

Failure to register tax shelter 

The penalty for failing to timely register a tax shelter (or for filing false or incomplete information with respect to the tax shelter 

registration) generally is the greater of one percent of the aggregate amount invested in the shelter or $500.178 However, if the tax 

shelter involves an arrangement offered to a corporation under conditions of confidentiality, the penalty is the greater of $10,000 or 

50 percent of the fees payable to any promoter with respect to offerings prior to the date of late registration. Intentional disregard 

of the requirement to register increases the penalty to 75 percent 

of the applicable fees. Section 6707 also imposes (1) a $100 penalty on the promoter for 

each failure to furnish the investor with the required tax shelter 

identification number, and (2) a $250 penalty on the investor for 

each failure to include the tax shelter identification number on a 

return. 

REASONS FOR CHANGE

The Committee has been advised that the current promoter registration rules have not proven particularly helpful, because the 

rules are not appropriate for the kinds of abusive transactions now 

prevalent, and because the limitations regarding confidential corporate arrangements have proven easy to circumvent. 

The Committee believes that providing a single, clear definition 

regarding the types of transactions that must be disclosed by taxpayers and material advisors, coupled with more meaningful penalties for failing to disclose such transactions, are necessary tools 

if the effort to curb the use of abusive tax avoidance transactions 

is to be effective. 

EXPLANATION OF PROVISION

Disclosure of reportable transactions by material advisors 

The provision repeals the present law rules with respect to registration of tax shelters. Instead, the provision requires each material advisor with respect to any reportable transaction (including 

any listed transaction) 179 to timely file an information return with 

the Secretary (in such form and manner as the Secretary may prescribe). The return must be filed on such date as specified by the 

Secretary. 

The information return will include (1) information identifying 

and describing the transaction, (2) information describing any potential tax benefits expected to result from the transaction, and (3) 

such other information as the Secretary may prescribe. It is exVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00100 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
101 

180See the previous discussion regarding the disclosure requirements under new section 

6707A. 181The terms ‘‘reportable transaction’’ and ‘‘listed transaction’’ have the same meaning as previously described in connection with the taxpayer-related provisions. 182The Secretary’s present-law authority to postpone certain tax-related deadlines because of 

Presidentially-declared disasters (sec. 7508A) will also encompass the authority to postpone the 

reporting deadlines established by the provision. 

pected that the Secretary may seek from the material advisor the 

same type of information that the Secretary may request from a 

taxpayer in connection with a reportable transaction.180

A ‘‘material advisor’’ means any person (1) who provides material 

aid, assistance, or advice with respect to organizing, promoting, 

selling, implementing, or carrying out any reportable transaction, 

and (2) who directly or indirectly derives gross income in excess of 

$250,000 ($50,000 in the case of a reportable transaction substantially all of the tax benefits from which are provided to natural persons) for such advice or assistance. 

The Secretary may prescribe regulations which provide (1) that 

only one material advisor has to file an information return in cases 

in which two or more material advisors would otherwise be required to file information returns with respect to a particular reportable transaction, (2) exemptions from the requirements of this 

section, and (3) other rules as may be necessary or appropriate to 

carry out the purposes of this section (including, for example, rules 

regarding the aggregation of fees in appropriate circumstances). 

Penalty for failing to furnish information regarding reportable 

transactions 

The provision repeals the present law penalty for failure to register tax shelters. Instead, the provision imposes a penalty on any 

material advisor who fails to file an information return, or who 

files a false or incomplete information return, with respect to a reportable transaction (including a listed transaction).181 The amount 

of the penalty is $50,000. If the penalty is with respect to a listed 

transaction, the amount of the penalty is increased to the greater 

of (1) $200,000, or (2) 50 percent of the gross income of such person 

with respect to aid, assistance, or advice which is provided with respect to the transaction before the date the information return that 

includes the transaction is filed. Intentional disregard by a material advisor of the requirement to disclose a listed transaction increases the penalty to 75 percent of the gross income. 

The penalty cannot be waived with respect to a listed transaction. As to reportable transactions, the penalty can be rescinded 

(or abated) only in exceptional circumstances.182 All or part of the 

penalty may be rescinded only if: (1) the material advisor on whom 

the penalty is imposed has a history of complying with the Federal 

tax laws, (2) it is shown that the violation is due to an unintentional mistake of fact, (3) imposing the penalty would be against 

equity and good conscience, and (4) rescinding the penalty would 

promote compliance with the tax laws and effective tax administration. The authority to rescind the penalty can only be exercised by 

the Commissioner personally or the head of the Office of Tax Shelter Analysis; this authority to rescind cannot otherwise be delegated by the Commissioner. Thus, a revenue agent, an Appeals officer, or other IRS personnel cannot rescind the penalty. The decision to rescind a penalty must be accompanied by a record describVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00101 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
102 

183Sec. 6112. 184Treas. Reg. sec. 301–6112–1. 185 A special rule applies the list maintenance requirements to transactions entered into after 

February 28, 2000 if the transaction becomes a listed transaction (as defined in Treas. Reg. 

1.6011–4) after February 28, 2003. 186Treas. Reg. sec. 301.6112–1(c)(1). 187Treas. Reg. sec. 301.6112–1(c)(2) and (3). 188Treas. Reg. sec. 301.6112–1(b). 

ing the facts and reasons for the action and the amount rescinded. 

There will be no right to appeal a refusal to rescind a penalty. The 

IRS also is required to submit an annual report to Congress summarizing the application of the disclosure penalties and providing 

a description of each penalty rescinded under this provision and 

the reasons for the rescission. 

EFFECTIVE DATE

The provision requiring disclosure of reportable transactions by 

material advisors applies to transactions with respect to which material aid, assistance or advice is provided after the date of enactment. 

The provision imposing a penalty for failing to disclose reportable 

transactions applies to returns the due date for which is after the 

date of enactment. 

6. Modification of penalties for failure to register tax shelters or 

maintain lists of investors (Secs. 606 and 607 of the bill and 

secs. 6707 and 6708 of the Code) 

PRESENT LAW

Investor lists 

Any organizer or seller of a potentially abusive tax shelter must 

maintain a list identifying each person who was sold an interest in 

any such tax shelter with respect to which registration was required under section 6111 (even though the particular party may 

not have been subject to confidentiality restrictions).183 Recently 

issued regulations under section 6112 contain rules regarding the 

list maintenance requirements.184 In general, the regulations apply 

to transactions that are potentially abusive tax shelters entered 

into, or acquired after, February 28, 2003.185

The regulations provide that a person is an organizer or seller 

of a potentially abusive tax shelter if the person is a material advisor with respect to that transaction.186 A material advisor is defined any person who is required to register the transaction under 

section 6111, or expects to receive a minimum fee of (1) $250,000 

for a transaction that is a potentially abusive tax shelter if all participants are corporations, or (2) $50,000 for any other transaction 

that is a potentially abusive tax shelter.187 For listed transactions 

(as defined in the regulations under section 6011), the minimum 

fees are reduced to $25,000 and $10,000, respectively. 

A potentially abusive tax shelter is any transaction that (1) is required to be registered under section 6111, (2) is a listed transaction (as defined under the regulations under section 6011), or (3) 

any transaction that a potential material advisor, at the time the 

transaction is entered into, knows is or reasonably expects will become a reportable transaction (as defined under the new regulations under section 6011).188

103 

189Sec. 6112(c)(2). 190The term ‘‘material advisor’’ has the same meaning as when used in connection with the 

requirement to file an information return under section 6111. 191The terms ‘‘reportable transaction’’ and ‘‘listed transaction’’ have the same meaning as previously described in connection with the taxpayer-related provisions. 192 In no event will failure to maintain a list be considered reasonable cause for failing to 

make a list available to the Secretary. 

The Secretary is required to prescribe regulations which provide 

that, in cases in which two or more persons are required to maintain the same list, only one person would be required to maintain 

the list.189

Penalty for failing to maintain investor lists 

Under section 6708, the penalty for failing to maintain the list 

required under section 6112 is $50 for each name omitted from the 

list (with a maximum penalty of $100,000 per year). 

REASONS FOR CHANGE

The Committee has been advised that the present-law penalties 

for failure to maintain customer lists are not meaningful and that 

promoters often have refused to provide requested information to 

the IRS. The Committee believes that requiring material advisors 

to maintain a list of advisees with respect to each reportable transaction, coupled with more meaningful penalties for failing to maintain an investor list, are important tools in the ongoing efforts to 

curb the use of abusive tax avoidance transactions. 

EXPLANATION OF PROVISION

Investor lists 

Each material advisor190 with respect to a reportable transaction 

(including a listed transaction)191 is required to maintain a list 

that (1) identifies each person with respect to whom the advisor 

acted as a material advisor with respect to the reportable transaction, and (2) contains other information as may be required by 

the Secretary. In addition, the provision authorizes (but does not 

require) the Secretary to prescribe regulations which provide that, 

in cases in which 2 or more persons are required to maintain the 

same list, only one person would be required to maintain the list. 

The provision also clarifies that, for purposes of section 6112, the 

identity of any person is not privileged under the common law attorney-client privilege (or, consequently, the section 7525 federally 

authorized tax practitioner confidentiality provision). 

Penalty for failing to maintain investor lists 

The provision modifies the penalty for failing to maintain the required list by making it a time-sensitive penalty. Thus, a material 

advisor who is required to maintain an investor list and who fails 

to make the list available upon written request by the Secretary 

within 20 business days after the request will be subject to a 

$10,000 per day penalty. The penalty applies to a person who fails 

to maintain a list, maintains an incomplete list, or has in fact 

maintained a list but does not make the list available to the Secretary. The penalty can be waived if the failure to make the list 

available is due to reasonable cause.192

104 

193Sec. 7408. 194Sec. 6707, as amended by other provisions of this bill. 195Sec. 6708, as amended by other provisions of this bill. 

EFFECTIVE DATE

The provision requiring a material advisor to maintain an investor list applies to transactions with respect to which material aid, 

assistance or advice is provided after the date of enactment. 

The provision imposing a penalty for failing to maintain investor 

lists applies to requests made after the date of enactment. 

The provision clarifying that the identity of any person is not 

privileged for purposes of section 6112 is effective as if included in 

the amendments made by section 142 of the Deficit Reduction Act 

of 1984. 

7. Modification of actions to enjoin certain conduct related to tax 

shelters and reportable transactions (Sec. 608 of the bill and 

sec. 7408 of the Code) 

PRESENT LAW

The Code authorizes civil actions to enjoin any person from promoting abusive tax shelters or aiding or abetting the understatement of tax liability.193

REASONS FOR CHANGE

The Committee understands that some promoters are blatantly 

ignoring the rules regarding registration and list maintenance regardless of the penalties. An injunction would place these promoters in a public proceeding under court order. Thus, the Committee believes that the types of tax shelter activities with respect 

to which an injunction may be sought should be expanded. 

EXPLANATION OF PROVISION

The provision expands this rule so that injunctions may also be 

sought with respect to the requirements relating to the reporting 

of reportable transactions 194 and the keeping of lists of investors 

by material advisors.195 Thus, under the provision, an injunction 

may be sought against a material advisor to enjoin the advisor 

from (1) failing to file an information return with respect to a reportable transaction, or (2) failing to maintain, or to timely furnish 

upon written request by the Secretary, a list of investors with respect to each reportable transaction. 

EFFECTIVE DATE

The provision is effective on the day after the date of enactment. 

8. Understatement of taxpayer’s liability by income tax return preparer (Sec. 609 of the bill and sec. 6694 of the Code) 

PRESENT LAW

An income tax return preparer who prepares a return with respect to which there is an understatement of tax that is due to a 

position for which there was not a realistic possibility of being sustained on its merits and the position was not disclosed (or was frivolous) is liable for a penalty of $250, provided that the preparer 

105 

196 31 U.S.C. 330. 

knew or reasonably should have known of the position. An income 

tax return preparer who prepares a return and engages in specified 

willful or reckless conduct with respect to preparing such a return 

is liable for a penalty of $1,000. 

REASONS FOR CHANGE

The Committee believes that the standards of conduct applicable 

to income tax return preparers should be the same as the standards applicable to taxpayers. Accordingly, the minimum standard 

for each undisclosed position on a tax return would be that the preparer must reasonably believe that the tax treatment is more likely 

than not the proper tax treatment. The Committee believes that 

this standard is appropriate because the tax return is signed under 

penalties of perjury, which implies a high standard of diligence in 

determining the facts and substantial accuracy in determining and 

applying the rules that govern those facts. The Committee believes 

that it is both appropriate and vital to the tax system that both 

taxpayers and their return preparers file tax returns that they reasonably believe are more likely than not correct. In addition, conforming the standards of conduct applicable to income tax return 

preparers to the standards applicable to taxpayers will simplify the 

law by reducing confusion inherent in different standards applying 

to the same behavior. 

EXPLANATION OF PROVISION

The provision alters the standards of conduct that must be met 

to avoid imposition of the first penalty. The provision replaces the 

realistic possibility standard with a requirement that there be a 

reasonable belief that the tax treatment of the position was more 

likely than not the proper treatment. The provision also replaces 

the not frivolous standard with the requirement that there be a 

reasonable basis for the tax treatment of the position. 

In addition, the provision increases the amount of these penalties. The penalty relating to not having a reasonable belief that 

the tax treatment was more likely than not the proper tax treatment is increased from $250 to $1,000. The penalty relating to willful or reckless conduct is increased from $1,000 to $5,000. 

EFFECTIVE DATE

The provision is effective for documents prepared after the date 

of enactment. 

9. Regulation of individuals practicing before the Department of 

Treasury (Sec. 610 of the bill and sec. 330 of Title 31, United 

States Code) 

PRESENT LAW

The Secretary of the Treasury is authorized to regulate the practice of representatives of persons before the Department of the 

Treasury.196 The Secretary is also authorized to suspend or disbar 

from practice before the Department a representative who is incompetent, who is disreputable, who violates the rules regulating practice before the Department, or who (with intent to defraud) willVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00105 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
106 

197Sec. 6700. 

fully and knowingly misleads or threatens the person being represented (or a person who may be represented). The rules promulgated by the Secretary pursuant to this provision are contained in 

Circular 230. 

REASONS FOR CHANGE

The Committee believes that it is critical that the Secretary have 

the authority to censure tax advisors as well as to impose monetary 

sanctions against tax advisors because of the important role of tax 

advisors in our tax system. Use of these sanctions is expected to 

curb the participation of tax advisors in both tax shelter activity 

and any other activity that is contrary to Circular 230 standards. 

EXPLANATION OF PROVISION

The provision makes two modifications to expand the sanctions 

that the Secretary may impose pursuant to these statutory provisions. First, the provision expressly permits censure as a sanction. 

Second, the provision permits the imposition of a monetary penalty 

as a sanction. If the representative is acting on behalf of an employer or other entity, the Secretary may impose a monetary penalty on the employer or other entity if it knew, or reasonably 

should have known, of the conduct. This monetary penalty on the 

employer or other entity may be imposed in addition to any monetary penalty imposed directly on the representative. These monetary penalties are not to exceed the gross income derived (or to be 

derived) from the conduct giving rise to the penalty. These monetary penalties may be in addition to, or in lieu of, any suspension, 

disbarment, or censure. 

The provision also confirms the present-law authority of the Secretary to impose standards applicable to written advice with respect to an entity, plan, or arrangement that is of a type that the 

Secretary determines as having a potential for tax avoidance or 

evasion. 

EFFECTIVE DATE

The modifications to expand the sanctions that the Secretary 

may impose are effective for actions taken after the date of enactment. 

10. Penalty on promoters of tax shelters (Sec. 611 of the bill and 

sec. 6700 of the Code) 

PRESENT LAW

A penalty is imposed on any person who organizes, assists in the 

organization of, or participates in the sale of any interest in, a 

partnership or other entity, any investment plan or arrangement, 

or any other plan or arrangement, if in connection with such activity the person makes or furnishes a qualifying false or fraudulent 

statement or a gross valuation overstatement.197 A qualified false 

or fraudulent statement is any statement with respect to the allowability of any deduction or credit, the excludability of any income, 

or the securing of any other tax benefit by reason of holding an interest in the entity or participating in the plan or arrangement 

107 

198Sec. 6501(a). 199For this purpose, a return that is filed before the date on which it is due is considered 

to be filed on the required due date (sec. 6501(b)(1)). 200Sec. 6501(e). 201Sec. 6501(c). 

which the person knows or has reason to know is false or fraudulent as to any material matter. A ‘‘gross valuation overstatement’’ 

means any statement as to the value of any property or services 

if the stated value exceeds 200 percent of the correct valuation, and 

the value is directly related to the amount of any allowable income 

tax deduction or credit. 

The amount of the penalty is $1,000 (or, if the person establishes 

that it is less, 100 percent of the gross income derived or to be derived by the person from such activity). A penalty attributable to 

a gross valuation misstatement can be waived on a showing that 

there was a reasonable basis for the valuation and it was made in 

good faith. 

REASONS FOR CHANGE

The Committee believes that the present-law penalty rate is insufficient to deter the type of conduct that gives rise to the penalty. 

EXPLANATION OF PROVISION

The provision modifies the penalty amount to equal 50 percent 

of the gross income derived by the person from the activity for 

which the penalty is imposed. The new penalty rate applies to any 

activity that involves a statement regarding the tax benefits of participating in a plan or arrangement if the person knows or has reason to know that such statement is false or fraudulent as to any 

material matter. The enhanced penalty does not apply to a gross 

valuation overstatement. 

EFFECTIVE DATE

The provision is effective for activities after the date of enactment. 

11. Statute of limitations for taxable years for which required listed 

transactions not disclosed (Sec. 612 of the bill and sec. 6501 of 

the Code) 

PRESENT LAW

In general, the Code requires that taxes be assessed within three 

years 198 after the date a return is filed.199 If there has been a substantial omission of items of gross income that totals more than 25 

percent of the amount of gross income shown on the return, the period during which an assessment must be made is extended to six 

years.200 If an assessment is not made within the required time periods, the tax generally cannot be assessed or collected at any future time. Tax may be assessed at any time if the taxpayer files 

a false or fraudulent return with the intent to evade tax or if the 

taxpayer does not file a tax return at all.201

REASONS FOR CHANGE

The Committee believes that extending the statute of limitations 

if a taxpayer required to disclose a listed transaction fails to do so 

108 

202The term ‘‘listed transaction’’ has the same meaning as described in a previous provision 

regarding the penalty for failure to disclose reportable transactions. 203 If the Treasury Department lists a transaction in a year subsequent to the year in which 

a taxpayer entered into such transaction and the taxpayer’s tax return for the year the transaction was entered into is closed by the statute of limitations prior to the date the transaction 

became a listed transaction, this provision does not re-open the statute of limitations with respect to such transaction for such year. However, if the purported tax benefits of the transaction 

are recognized over multiple tax years, the provision’s extension of the statute of limitations 

shall apply to such tax benefits in any subsequent tax year in which the statute of limitations 

had not closed prior to the date the transaction became a listed transaction. 204Sec. 163(a). 

will encourage taxpayers to provide the required disclosure and 

will afford the IRS additional time to discover the transaction if the 

taxpayer does not disclose it. 

EXPLANATION OF PROVISION

The provision extends the statute of limitations with respect to 

a listed transaction if a taxpayer fails to include on any return or 

statement for any taxable year any information with respect to a 

listed transaction 202 which is required to be included (under section 

6011) with such return or statement. The statute of limitations 

with respect to such a transaction will not expire before the date 

which is one year after the earlier of (1) the date on which the Secretary is furnished the information so required, or (2) the date that 

a material advisor (as defined in 6111) satisfies the list maintenance requirements (as defined by section 6112) with respect to a 

request by the Secretary. For example, if a taxpayer engaged in a 

transaction in 2005 that becomes a listed transaction in 2007 and 

the taxpayer fails to disclose such transaction in the manner required by Treasury regulations, then the transaction is subject to 

the extended statute of limitations.203

EFFECTIVE DATE

The provision is effective for taxable years with respect to which 

the period for assessing a deficiency did not expire before the date 

of enactment. 

12. Denial of deduction for interest on underpayments attributable 

to tax-motivated transactions (Sec. 613 of the bill and sec. 163 

of the Code) 

PRESENT LAW

In general, corporations may deduct interest paid or accrued 

within a taxable year on indebtedness.204 Interest on indebtedness 

to the Federal government attributable to an underpayment of tax 

generally may be deducted pursuant to this provision. 

REASONS FOR CHANGE

The Committee believes that it is inappropriate for corporations 

to deduct interest paid to the Government with respect to certain 

tax shelter transactions. 

EXPLANATION OF PROVISION

The provision disallows any deduction for interest paid or accrued within a taxable year on any portion of an underpayment of 

tax that is attributable to an understatement arising from (1) an 

109 

205The definitions of these transactions are the same as those previously described in connection with the proposal to modify the accuracy-related penalty for listed and certain reportable 

transactions. 206Sec. 1501. 

undisclosed reportable avoidance transaction, or (2) an undisclosed 

listed transaction.205

EFFECTIVE DATE

The provision is effective for underpayments attributable to 

transactions entered into in taxable years beginning after the date 

of enactment. 

13. Authorization of appropriations for tax law enforcement (Sec. 

614 of the bill) 

PRESENT LAW

There is no explicit authorization of appropriations to the Internal Revenue Service to be used to combat abusive tax avoidance 

transactions. 

REASONS FOR CHANGE

The Committee believes that authorizing an additional $300 million to the Internal Revenue Service to be used to combat abusive 

tax avoidance transactions will aid in the implementation of the 

tax shelter measures the Committee is simultaneously approving. 

EXPLANTION OF PROVISION

The provision includes an authorization of an additional $300 

million to the Internal Revenue Service to be used to combat abusive tax avoidance transactions. 

EFFECTIVE DATE

The provision is effective on the date of enactment. 

B. OTHER CORPORATE GOVERNANCE PROVISIONS

1. Affirmation of consolidated return regulation authority (Sec. 621 

of the bill and sec. 1502 of the Code) 

PRESENT LAW

An affiliated group of corporations may elect to file a consolidated return in lieu of separate returns. A condition of electing to 

file a consolidated return is that all corporations that are members 

of the consolidated group must consent to all the consolidated return regulations prescribed under section 1502 prior to the last day 

prescribed by law for filing such return.206

Section 1502 states: 

The Secretary shall prescribe such regulations as he 

may deem necessary in order that the tax liability of any 

affiliated group of corporations making a consolidated return and of each corporation in the group, both during and 

after the period of affiliation, may be returned, determined, computed, assessed, collected, and adjusted, in such 

manner as clearly to reflect the income-tax liability and 

110 

207Sec. 1502. 208 Regulations issued under the authority of section 1502 are considered to be ‘‘legislative’’ 

regulations rather than ‘‘interpretative’’ regulations, and as such are usually given greater deference by courts in case of a taxpayer challenge to such a regulation. See, S. Rep. No. 960, 70th 

Cong., 1st Sess. at 15 (1928), describing the consolidated return regulations as ‘‘legislative in 

character’’. The Supreme Court has stated that ‘‘. . . legislative regulations are given controlling 

weight unless they are arbitrary, capricious, or manifestly contrary to the statute.’’ Chevron, 

U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837, 844 (1984) (involving an 

environmental protection regulation). For examples involving consolidated return regulations, 

see, e.g., Wolter Construction Company v. Commissioner, 634 F.2d 1029 (6th Cir. 1980); Garvey, 

Inc. v. United States, 1 Ct. Cl. 108 (1983), aff’d 726 F.2d 1569 (Fed. Cir. 1984), cert. denied, 

469 U.S. 823 (1984). Compare, e.g., Audrey J. Walton v. Commissioner, 115 T.C. 589 (2000), describing different standards of review. The case did not involve a consolidated return regulation. 209 255 F.3d 1357 (Fed. Cir. 2001), reh’g denied, 2001 U.S. App. LEXIS 23207 (Fed. Cir. Oct. 

3, 2001). 210Prior to this decision, there had been a few instances involving prior laws in which certain 

consolidated return regulations were held to be invalid. See, e.g., American Standard, Inc. v. United States, 602 F.2d 256 (Ct. Cl. 1979), discussed in the text infra. see also Union Carbide 

Corp. v. United States, 612 F.2d 558 (Ct. Cl. 1979), and Allied Corporation v. United States, 

685 F. 2d 396 (Ct. Cl. 1982), all three cases involving the allocation of income and loss within 

a consolidated group for purposes of computation of a deduction allowed under prior law by the 

Code for Western Hemisphere Trading Corporations. See also Joseph Weidenhoff v. Commissioner, 32 T.C. 1222, 1242–1244 (1959), involving the application of certain regulations to the 

excess profits tax credit allowed under prior law, and concluding that the Commissioner had 

applied a particular regulation in an arbitrary manner inconsistent with the wording of the regulation and inconsistent with even a consolidated group computation. Cf. Kanawha Gas & Utilities Co. v. Commissioner, 214 F.2d 685 (1954), concluding that the substance of a transaction 

was an acquisition of assets rather than stock. Thus, a regulation governing basis of the assets 

of consolidated subsidiaries did not apply to the case. See also General Machinery Corporation 

v. Commissioner, 33 B.T.A. 1215 (1936); Lefcourt Realty Corporation, 31 B.T.A. 978 (1935); 

Helvering v. Morgans, Inc., 293 U.S. 121 (1934), interpreting the term ‘‘taxable year.’’ 211Treas. Reg. Sec. 1.1502–20(c)(1)(iii). 212Treasury Regulation section 1.1502–20, generally imposing certain ‘‘loss disallowance’’ rules 

on the disposition of subsidiary stock, contained other limitations besides the ‘‘duplicated loss’’ 

rule that could limit the loss available to the group on a disposition of a subsidiary’s stock. 

Treasury Regulation section 1.1502–20 as a whole was promulgated in connection with regulations issued under section 337(d), principally in connection with the so-called General Utilities 

repeal of 1986 (referring to the case of General Utilities & Operating Company v. Helvering, 296 

U.S. 200 (1935)). Such repeal generally required a liquidating corporation, or a corporation acquired in a stock acquisition treated as a sale of assets, to pay corporate level tax on the excess 

of the value of its assets over the basis. Treasury regulation section 1.1502–20 principally reflected an attempt to prevent corporations filing consolidated returns from offsetting income 

with a loss on the sale of subsidiary stock. Such a loss could result from the unique upward 

adjustment of a subsidiary’s stock basis required under the consolidated return regulations for 

subsidiary income earned in consolidation, an adjustment intended to prevent taxation of both 

the subsidiary and the parent on the same income or gain. As one example, absent a denial 

of certain losses on a sale of subsidiary stock, a consolidated group could obtain a loss deduction 

with respect to subsidiary stock, the basis of which originally reflected the subsidiary’s value 

at the time of the purchase of the stock, and that had then been adjusted upward on recognition 

of any built-in income or gain of the subsidiary reflected in that value. The regulations also contained the duplicated loss factor addressed by the court in Rite Aid. The preamble to the regulations stated: ‘‘it is not administratively feasible to differentiate between loss attributable to 

built-in gain and duplicated loss.’’ T.D. 8364, 1991–2 C.B. 43, 46 (Sept. 13, 1991). The government also argued in the Rite Aid case that duplicated loss was a separate concern of the regulations. 255 F.3d at 1360. 

the various factors necessary for the determination of such 

liability, and in order to prevent the avoidance of such tax 

liability.207

Under this authority, the Treasury Department has issued extensive consolidated return regulations.208

In the recent case of Rite Aid Corp. v. United States,209 the Federal Circuit Court of Appeals addressed the application of a particular provision of certain consolidated return loss disallowance 

regulations, and concluded that the provision was invalid.210 The 

particular provision, known as the ‘‘duplicated loss’’ provision,211

would have denied a loss on the sale of stock of a subsidiary by a 

parent corporation that had filed a consolidated return with the 

subsidiary, to the extent the subsidiary corporation had assets that 

had a built-in loss, or had a net operating loss, that could be recognized or used later.212

111 

213For example, the court stated: ‘‘The duplicated loss factor * * * addresses a situation that 

arises from the sale of stock regardless of whether corporations file separate or consolidated returns. With I.R.C. secs. 382 and 383, Congress has addressed this situation by limiting the subsidiary’s potential future deduction, not the parent’s loss on the sale of stock under I.R.C. sec. 

165.’’ 255 F.3d 1357, 1360 (Fed. Cir. 2001). 214S. Rep. No. 960, 70th Cong., 1st Sess. 15 (1928). Though not quoted by the court in Rite 

Aid, the same Senate report also indicated that one purpose of the consolidated return authority 

was to permit treatment of the separate corporations as if they were a single unit, stating ‘‘The 

mere fact that by legal fiction several corporations owned by the same shareholders are separate 

entities should not obscure the fact that they are in reality one and the same business owned 

by the same individuals and operated as a unit.’’ S. Rep. No. 960, 70th Cong., 1st Sess. 29 

(1928). 215 American Standard, Inc. v. United States, 602 F.2d 256, 261 (Ct. Cl. 1979). That case did 

not involve the question of separate returns as compared to a single return approach. It involved 

the computation of a Western Hemisphere Trade Corporation (‘‘WHTC’’) deduction under prior 

law (which deduction would have been computed as a percentage of each WHTC’s taxable income if the corporations had filed separate returns), in a case where a consolidated group included several WHTCs as well as other corporations. The question was how to apportion income 

and losses of the admittedly consolidated WHTCs and how to combine that computation with 

the rest of the group’s consolidated income or losses. The court noted that the new, changed 

regulations approach varied from the approach taken to a similar problem involving public utilities within a group and previously allowed for WHTCs. The court objected that the allocation 

method adopted by the regulation allowed non-WHTC losses to reduce WHTC income. However, 

the court did not disallow a method that would net WHTC income of one WHTC with losses 

of another WHTC, a result that would not have occurred under separate returns. Nor did the 

court expressly disallow a different fractional method that would net both income and losses of 

the WHTCs with those of other corporations in the consolidated group. The court also found that 

the regulation had been adopted without proper notice. 

The Federal Circuit Court opinion contained language discussing 

the fact that the regulation produced a result different than the result that would have been obtained if the corporations had filed 

separate returns rather than consolidated returns.213

The Federal Circuit Court opinion cited a 1928 Senate Finance 

Committee Report to legislation that authorized consolidated return regulations, which stated that ‘‘many difficult and complicated 

problems, * * * have arisen in the administration of the provisions 

permitting the filing of consolidated returns’’ and that the committee ‘‘found it necessary to delegate power to the commissioner 

to prescribe regulations legislative in character covering them.’’ 214

The Court’s opinion also cited a previous decision of the Court of 

Claims for the proposition, interpreting this legislative history, that 

section 1502 grants the Secretary ‘‘the power to conform the applicable income tax law of the Code to the special, myriad problems 

resulting from the filing of consolidated income tax returns;’’ but 

that section 1502 ‘‘does not authorize the Secretary to choose a 

method that imposes a tax on income that would not otherwise be 

taxed.’’ 215

The Federal Circuit Court construed these authorities and applied them to invalidate Treas. Reg. Sec. 1.1502–20(c)(1)(iii), stating that: 

The loss realized on the sale of a former subsidiary’s assets after the consolidated group sells the subsidiary’s 

stock is not a problem resulting from the filing of consolidated income tax returns. The scenario also arises where 

a corporate shareholder sells the stock of a non-consolidated subsidiary. The corporate shareholder could realize 

a loss under I.R.C. sec. 1001, and deduct the loss under 

I.R.C. sec. 165. The subsidiary could then deduct any 

losses from a later sale of assets. The duplicated loss factor, therefore, addresses a situation that arises from the 

sale of stock regardless of whether corporations file separate or consolidated returns. With I.R.C. secs. 382 and 383, 

112 

216 Rite Aid, 255 F.3d at 1360. 217See Temp. Reg. Sec. 1.1502–20T(i)(2), Temp. Reg. Sec. 1.337(d)-2T, and Temp. Reg. Sec. 

1.1502–35T. The Treasury Department has also indicated its intention to continue to study all 

the issues that the original loss disallowance regulations addressed (including issues of furthering single entity principles) and possibly issue different regulations (not including the particular approach of Treas. Reg. Sec. 1.1502–20(c)(1)(iii)) on the issues in the future. See Notice 

2002–11, 2002–7 I.R.B. 526 (Feb. 19, 2002); T.D. 8984, 67 F.R. 11034 (March 12, 2002); REG– 

102740–02, 67 F.R. 11070 (March 12, 2002); see also Notice 2002–18, 2002–12 I.R.B. 644 (March 

25, 2002); REG–131478–02, 67 F.R. 65060 (October 18, 2002) T.D. 9048, 68 F.R. 12287 (March 

14, 2003); and T.D. 9118, REG–153172–03 (March 17, 2004). 

Congress has addressed this situation by limiting the subsidiary’s potential future deduction, not the parent’s loss 

on the sale of stock under I.R.C. sec. 165.216

The Treasury Department has announced that it will not continue to litigate the validity of the duplicated loss provision of the 

regulations, and has issued interim regulations that permit taxpayers for all years to elect a different treatment, though they may 

apply the provision for the past if they wish.217

REASONS FOR CHANGE

The Committee is concerned that Treasury Department resources 

might be unnecessarily devoted to defending challenges to consolidated return regulations on the mere assertion by a taxpayer that 

the result under the consolidated return regulations is different 

than the result for separate taxpayers. The consolidated return regulations offer many benefits that are not available to separate taxpayers, including generally rules that tax income received by the 

group once and attempt to avoid a second tax on that same income 

when stock of a subsidiary is sold. 

The existing statute authorizes adjustments to clearly reflect the 

income of the group and of the separate members of the group, during and after the period of affiliation. The Committee believes that 

this standard, which is stated in the present-law statute, should be 

reiterated. 

EXPLANATION OF PROVISION

The provision confirms that, in exercising its authority under 

section 1502 to issue consolidated return regulations, the Treasury 

Department may provide rules treating corporations filing consolidated returns differently from corporations filing separate returns. 

Thus, under the statutory authority of section 1502, the Treasury 

Department is authorized to issue consolidated return regulations 

utilizing either a single taxpayer or separate taxpayer approach or 

a combination of the two approaches, as Treasury deems necessary 

in order that the tax liability of any affiliated group of corporations 

making a consolidated return, and of each corporation in the group, 

both during and after the period of affiliation, may be determined 

and adjusted in such manner as clearly to reflect the income-tax 

liability and the various factors necessary for the determination of 

such liability, and in order to prevent avoidance of such liability. 

Rite Aid is thus overruled to the extent it suggests that the Secretary is required to identify a problem created from the filing of 

consolidated returns in order to issue regulations that change the 

application of a Code provision. The Secretary may promulgate consolidated return regulations to change the application of a tax code 

provision to members of a consolidated group, provided that such 

113 

218Treas. Reg. Sec. 1.1502–20(c)(1)(iii). 219The provision is not intended to overrule the current Tresury Department regulations, 

which allow taxpayers in certain circumstances for the past to follow Treasury Regulations Section 1.1502–20(c)(1)(iii), if they choose to do so. Temp. Reg. Sec. 1.1502–20T(i)(2). 220See, e.g., Notice 2002–11, 2002–7 I.R.B. 526 (Feb. 19, 2002); Temp. Reg. Sec. 1.337(d)-2T, 

(T.D. 8984, 67 F.R. 11034 (March 12, 2002) and T.D. 8998, 67 F.R. 37998 (May 31, 2002)); REG– 

102740–02, 67 F.R. 11070 (March 12, 2002); see also Notice 2002–18, 2002–12 I.R.B. 644 (March 

25, 2002); REG–131478–02, 67 F.R. 65060 (October 18, 2002); Temp. Reg. Sec. 1.1502–35T (T.D. 

9048, 68 F.R. 12287 (March 14, 2003)); and T.D. 9118, REG–153172–03 (March 17, 2004). In 

exercising its authority under section 1502, the Secretary is also authorized to prescribe rules 

that protect the purpose of General Utilities repeal using presumptions and other simplifying 

conventions. 221Sec. 6062. 222Sec. 7206. 223Pursuant to 18 U.S.C. 3571, the maximum fine for an individual convicted of a felony is 

$250,000. 

regulations are necessary to clearly reflect the income tax liability 

of the group and each corporation in the group, both during and 

after the period of affiliation. 

The provision nevertheless allows the result of the Rite Aid case 

to stand with respect to the type of factual situation presented in 

the case. That is, the legislation provides for the override of the 

regulatory provision that took the approach of denying a loss on a 

deconsolidating disposition of stock of a consolidated subsidiary 218

to the extent the subsidiary had net operating losses or built in 

losses that could be used later outside the group.219

Retaining the result in the Rite Aid case with respect to the particular regulation section 1.1502–20(c)(1)(iii) as applied to the factual situation of the case does not in any way prevent or invalidate 

the various approaches Treasury has announced it will apply or 

that it intends to consider in lieu of the approach of that regulation, including, for example, the denial of a loss on a stock sale if 

inside losses of a subsidiary may also be used by the consolidated 

group, and the possible requirement that inside attributes be adjusted when a subsidiary leaves a group.220

EFFECTIVE DATE

The provision is effective for all years, whether beginning before, 

on, or after the date of enactment of the provision. No inference is 

intended that the results following from this provision are not the 

same as the results under present law. 

2. Chief Executive Officer required to sign declaration with respect 

to corporate income tax returns (Sec. 622 of the bill) 

PRESENT LAW

The Code requires 221 that the income tax return of a corporation 

must be signed by either the president, the vice-president, the 

treasurer, the assistant treasurer, the chief accounting officer, or 

any other officer of the corporation authorized by the corporation 

to sign the return. 

The Code also imposes 222 a criminal penalty on any person who 

willfully signs any tax return under penalties of perjury that that 

person does not believe to be true and correct with respect to every 

material matter at the time of filing. If convicted, the person is 

guilty of a felony; the Code imposes a fine of not more than 

$100,000 223 ($500,000 in the case of a corporation) or imprisonVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00113 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
114 

224Sec. 6011(a). 

ment of not more than three years, or both, together with the costs 

of prosecution. 

REASONS FOR CHANGE

The Committee believes that the filing of accurate tax returns is 

essential to the proper functioning of the tax system. The Committee believes that requiring that the chief executive officer of a 

corporation sign a declaration that its corporate income tax return 

complies with the Internal Revenue Code will elevate both the level 

of care given to the preparation of those returns and the level of 

compliance with the Code’s requirements, which will in turn help 

ensure that the proper amount of tax is being paid. 

EXPLANATION OF PROVISION

The provision requires that the chief executive officer of a corporation sign a declaration under penalties of perjury that the chief 

executive officer has put in place processes and procedures to ensure that the corporation’s Federal income tax return complies with 

the Internal Revenue Code and that the CEO was provided reasonable assurance of the accuracy of all material aspects of the return. 

This declaration is part of the income tax return. The provision is 

in addition to the requirement of present law as to the signing of 

the income tax return itself. Because a CEO’s duties generally do 

not require a detailed or technical understanding of the corporation’s tax return, it is anticipated that this declaration of the CEO 

will be more limited in scope than the declaration of the officer required to sign the return itself. 

The Secretary of the Treasury shall prescribe the matters to 

which the declaration of the CEO applies. It is intended that the 

declaration help insure that the preparation and completion of the 

corporation’s tax return be given an appropriate level of care. For 

example, it is anticipated that the CEO would declare that processes and procedures have been implemented to ensure that the return complies with the Internal Revenue Code and applicable regulations and rules promulgated thereunder. Although appropriate 

processes and procedures can vary for each taxpayer depending on 

the size and nature of the taxpayer’s business, in every case the 

CEO should be briefed on all material aspects of the corporation’s 

tax return by the corporation’s officer signing the return. 

It is also anticipated that, as part of the declaration, the CEO 

would certify that, to the best of the CEO’s knowledge and belief: 

(1) the processes and procedures for ensuring that the corporation 

files a tax return that complies with the requirements of the Code 

are operating effectively; (2) the return is true, accurate, and complete; (3) the officer signing the return did so under no compulsion 

to adopt any tax position with which that person did not agree; (4) 

the CEO was briefed on all listed transactions as well as all reportable tax avoidance transactions otherwise required to be disclosed 

on the tax return; and (5) all required disclosures have been filed 

with the return. The Secretary may by regulations prescribe additional requirements for this declaration.224

If the corporation does not have a chief executive officer, the IRS 

may designate another officer of the corporation; otherwise, no 

115 

225With respect to foreign corporations, it is intended that the rules for signing this declaration generally parallel the present-law rules for signing the return. See Treas. Reg. sec. 1.6062– 

1(a)(3). 226The provision does, however, apply to the income tax returns of mutal fund management 

companies and advisors. 227S. Rep. 91–552, 91st Cong., 1st Sess. 273–74 (1969), referring to Tank Truck Rentals, Inc. 

v. Commissioner, 356 U.S. 30 (1958). 

other person is permitted to sign the declaration. It is intended 

that the IRS issue general guidance, such as a revenue procedure, 

to: (1) address situations when a corporation does not have a chief 

executive officer; and (2) define who the chief executive officer is, 

in situations (for example) when the primary official bears a different title, when a corporation has multiple chief executive officers, or when the corporation is a foreign corporation and the CEO 

is not a U.S. resident.225 It is intended that, in every instance, the 

highest ranking corporate officer (regardless of title) sign this declaration. 

The provision does not apply to the income tax returns of mutual 

funds; 226 they are required to be signed as under present law. 

EFFECTIVE DATE

The provision is effective for returns filed after the date of enactment. 

3. Denial of deduction for certain fines, penalties, and other 

amounts (Sec. 623 of the bill and sec. 162 of the Code) 

PRESENT LAW

Under present law, no deduction is allowed as a trade or business expense under section 162(a) for the payment of a fine or similar penalty to a government for the violation of any law (sec. 

162(f)). The enactment of section 162(f) in 1969 codified existing 

case law that denied the deductibility of fines as ordinary and necessary business expenses on the grounds that ‘‘allowance of the deduction would frustrate sharply defined national or State policies 

proscribing the particular types of conduct evidenced by some governmental declaration thereof.’’ 227

Treasury regulation section 1.162–21(b)(1) provides that a fine or 

similar penalty includes an amount: (1) paid pursuant to conviction 

or a plea of guilty or nolo contendere for a crime (felony or misdemeanor) in a criminal proceeding; (2) paid as a civil penalty imposed by Federal, State, or local law, including additions to tax and 

additional amounts and assessable penalties imposed by chapter 68 

of the Code; (3) paid in settlement of the taxpayer’s actual or potential liability for a fine or penalty (civil or criminal); or (4) forfeited 

as collateral posted in connection with a proceeding which could result in imposition of such a fine or penalty. Treasury regulation 

section 1.162–21(b)(2) provides, among other things, that compensatory damages (including damages under section 4A of the Clayton Act (15 U.S.C. 15a), as amended) paid to a government do not 

constitute a fine or penalty. 

REASONS FOR CHANGE

The Committee is concerned that there is a lack of clarity and 

consistency under present law regarding when taxpayers may deduct payments made in settlement of government investigations of 

116 

228The provision does not affect amounts paid or incurred in performing routine audits or reviews such as annual audits that are required of all organizations or individuals in a similar 

business sector, or profession, as a requirement for being allowed to conduct business. However, 

if the government or regulator raises an issue of compliance and a payment is required in settlement of such issue, the provision would affect such payment. In such cases, the restitution exception could permit otherwise allowable deductions of amounts paid with respect to specific 

property or persons to avoid noncompliance or to bring the taxpayer into compliance with the 

required standards (for example, to bring a machine up to required emissions or other standards). 229The provision provides that such amounts are nondeductible under chapter 1 of the Internal Revenue Code. 230The provision does not affect the treatment of antitrust payments made under section 4 

of the Clayton Act, which will continue to be governed by the provisions of section 162(g). 231Thus, for example, the provision would not apply to payments made by one private party 

to another in a lawsuit between private parties, merely because a judge or jury acting in the 

capacity as a court directs the payment to be made. The mere fact that a court enters a judgment or directs a result in a private dispute does not cause a payment to be made ‘‘at the direction of a government’’ for purposes of the provision. 232Similarly, a payment to a charitable organization benefitting a substantially broader class 

than the persons or property actually harmed, or to be paid out without a substantial quantitative relationship to the harm caused, would not qualify as restitution. Under the provision, 

such a payment not deductible under section 162 would also not be deductible under section 

170. 

potential wrongdoing, as well as in situations where there has been 

a final determination of wrongdoing. If a taxpayer deducts payments made in settlement of an investigation of potential wrongdoing or as a result of a finding of wrongdoing, the publicly announced amount of the settlement payment does not reflect the 

true after-tax penalty on the taxpayer. The Committee also is concerned that allowing a deduction for such payments in effect shifts 

a portion of the penalty to the Federal government and to the public. 

EXPLANATION OF PROVISION

The provision modifies the rules regarding the determination 

whether payments are nondeductible payments of fines or penalties 

under section 162(f). In particular, the provision generally provides 

that amounts paid or incurred (whether by suit, agreement, or otherwise) to, or at the direction of, a government in relation to the 

violation of any law or the governmental investigation or inquiry 

into the potential violation of any law 228 are nondeductible under 

any provision of the income tax provisions.229 The provision applies 

to deny a deduction for any such payments, including those where 

there is no admission of guilt or liability and those made for the 

purpose of avoiding further investigation or litigation. An exception 

applies to payments that the taxpayer establishes are restitution 

(including remediation of property).230 There is also an exception 

for any amount paid or incurred as taxes due. 

The provision applies only where a government (or other entity 

treated in a manner similar to a government under the bill) is a 

complainant or investigator with respect to the violation or potential violation of any law.231

It is intended that a payment will be treated as restitution only 

if substantially all of the payment is required to be paid to the specific persons, or in relation to the specific property, actually harmed 

(or, in the case of property, not in compliance with the required 

standards) by the conduct of the taxpayer that resulted in the payment. Thus, a payment to or with respect to a class substantially 

broader than the specific persons or property that were actually 

harmed (e.g., to a class including similarly situated persons or 

property) does not qualify as restitution.232 Restitution is limited 

117 

233Sec. 162(a). 234Sec. 162(c). 235Sec. 162(f). 

to the amount that bears a substantial quantitative relationship to 

the harm (or, in the case of property, to the correction of noncompliance) caused by the past conduct or actions of the taxpayer 

that resulted in the payment in question. If the party harmed is 

a government or other entity, then restitution includes payment to 

such harmed government or entity, provided the payment bears a 

substantial quantitative relationship to the harm. However, restitution does not include reimbursement of government investigative or litigation costs, or payments to whistleblowers. 

Amounts paid or incurred (whether by suit, agreement, or otherwise) to, or at the direction of, any self-regulatory entity that regulates a financial market or other market that is a qualified board 

or exchange under section 1256(g)(7), and that is authorized to impose sanctions (e.g., the National Association of Securities Dealers) 

are likewise subject to the provision if paid in relation to a violation, or investigation or inquiry into a potential violation, of any 

law (or any rule or other requirement of such entity). To the extent 

provided in regulations, amounts paid or incurred to, or at the direction of, any other nongovernmental entity that exercises selfregulatory powers as part of performing an essential governmental 

function are similarly subject to the provision. The exceptions (e.g., 

for payments that the taxpayer establishes are restitution) likewise 

apply in these cases. 

No inference is intended as to the treatment of payments as nondeductible fines or penalties under present law. In particular, the 

bill is not intended to limit the scope of present-law section 162(f) 

or the regulations thereunder. 

EFFECTIVE DATE

The provision is effective for amounts paid or incurred on or after 

April 28, 2003; however the provision does not apply to amounts 

paid or incurred under any binding order or agreement entered 

into before such date. Any order or agreement requiring court approval is not a binding order or agreement for this purpose unless 

such approval was obtained on or before April 27, 2003. 

4. Denial of deduction for punitive damages (Sec. 624 of the bill 

and sec. 162 of the Code) 

PRESENT LAW

In general, a deduction is allowed for all ordinary and necessary 

expenses that are paid or incurred by the taxpayer during the taxable year in carrying on any trade or business.233 However, no deduction is allowed for any payment that is made to an official of 

any governmental agency if the payment constitutes an illegal 

bribe or kickback or if the payment is to an official or employee of 

a foreign government and is illegal under Federal law.234 In addition, no deduction is allowed under present law for any fine or 

similar payment made to a government for violation of any law.235

Furthermore, no deduction is permitted for two-thirds of any damVerDate May 04 2004 06:24 May 08, 2004 Jkt 029010 PO 00000 Frm 00117 Fmt 6659 Sfmt 6602 E:\HR\OC\SR257.XXX SR257
118 

236Sec. 162(g). 237Sec. 104(a). 238Sec. 104(a)(2). 

age payments made by a taxpayer who is convicted of a violation 

of the Clayton antitrust law or any related antitrust law.236

In general, gross income does not include amounts received on 

account of personal physical injuries and physical sickness.237 However, this exclusion does not apply to punitive damages.238

REASONS FOR CHANGE

The Committee believes that allowing a tax deduction for punitive damages undermines the societal role of punitive damages in 

discouraging and penalizing the activities or actions for which punitive damages are imposed. Furthermore, the Committee believes 

that determining the amount of punitive damages to be disallowed 

as a tax deduction is not administratively burdensome because taxpayers generally can make such a determination readily by reference to pleadings filed with a court, and plaintiffs already make 

such a determination in determining the taxable portion of any 

payment. 

EXPLANATION OF PROVISION

The provision denies any deduction for punitive damages that 

are paid or incurred by the taxpayer as a result of a judgment or 

in settlement of a claim. If the liability for punitive damages is covered by insurance, any such punitive damages paid by the insurer 

are included in gross income of the insured person and the insurer 

is required to report such amounts to both the insured person and 

the IRS. 

EFFECTIVE DATE

The provision is effective for punitive damages that are paid or 

incurred on or after the date of enactment. 

5. Increase the maximum criminal fraud penalty for individuals to 

the amount of the tax at issue (Sec. 625 of the bill and secs. 

7201, 7203, and 7206 of the Code) 

PRESENT LAW

Attempt to evade or defeat tax 

In general, section 7201 imposes a criminal penalty on persons 

who willfully attempt to evade or defeat any tax imposed by the 

Code. Upon conviction, the Code provides that the penalty is up to 

$100,000 or imprisonment of not more than five years (or both). In 

the case of a corporation, the Code increases the monetary penalty 

to a maximum of $500,000. 

Willful failure to file return, supply information, or pay tax 

In general, section 7203 imposes a criminal penalty on persons 

required to make estimated tax payments, pay taxes, keep records, 

or supply information under the Code who willfully fails to do so. 

Upon conviction, the Code provides that the penalty is up to 

$25,000 or imprisonment of not more than one year (or both). In 

119 

239Section 7206 states that this offense is a felony. In addition, it is a felony pursuant to the 

classification guidelines of 18 U.S.C. 3559(a)(5). 

the case of a corporation, the Code increases the monetary penalty 

to a maximum of $100,000. 

Fraud and false statements 

In general, section 7206 imposes a criminal penalty on persons 

who make fraudulent or false statements under the Code. Upon 

conviction, the Code provides that the penalty is up to $100,000 or 

imprisonment of not more than three years (or both). In the case 

of a corporation, the Code increases the monetary penalty to a 

maximum of $500,000. 

Uniform sentencing guidelines 

Under the uniform sentencing guidelines established by 18 

U.S.C. 3571, a defendant found guilty of a criminal offense is subject to a maximum fine that is the greatest of: (a) the amount specified in the underlying provision, (b) for a felony 239 $250,000 for an 

individual or $500,000 for an organization, or (c) twice the gross 

gain if a person derives pecuniary gain from the offense. This Title 

18 provision applies to all criminal provisions in the United States 

Code, including those in the Internal Revenue Code. For example, 

for an individual, the maximum fine under present law upon conviction of violating section 7206 is $250,000 or, if greater, twice the 

amount of gross gain from the offense. 

REASONS FOR CHANGE

In light of the recent reports of possible criminal behavior in connection with the filing and preparation of tax returns, the Committee believes it is important to strengthen the criminal tax penalties. 

EXPLANATION OF PROVISION

Attempt to evade or defeat tax 

The provision increases the criminal penalty under section 7201 

of the Code for individuals to $250,000 and for corporations to 

$1,000,000. The provision increases the maximum prison sentence 

to ten years. 

Willful failure to file return, supply information, or pay tax 

The provision increases the criminal penalty under section 7203 

of the Code from a misdemeanor to a felony and increases the maximum prison sentence to ten years. 

Fraud and false statements 

The provision increases the criminal penalty under section 7206 

of the Code for individuals to $250,000 and for corporations to 

$1,000,000. The provision increases the maximum prison sentence 

to five years. The provision also provides that in no event shall the 

amount of the monetary penalty under this provision be less than 

the amount of the underpayment or overpayment attributable to 

fraud. 

120 

EFFECTIVE DATE

The provision is effective for underpayments and overpayments 

attributable to actions occurring after the date of enactment. 

6. Doubling of certain penalties, fines, and interest on underpayments related to certain offshore financial arrangements (Sec. 

626 of the bill) 

PRESENT LAW

In general 

The Code contains numerous civil penalties, such as the delinquency, accuracy-related and fraud penalties. These civil penalties 

are in addition to any interest that may be due as a result of an 

underpayment of tax. If all or any part of a tax is not paid when 

due, the Code imposes interest on the underpayment, which is assessed and collected in the same manner as the underlying tax and 

is subject to the same statute of limitations. 

Delinquency penalties 

Failure to file.—Under present law, a taxpayer who fails to file 

a tax return on a timely basis is generally subject to a penalty 

equal to 5 percent of the net amount of tax due for each month that 

the return is not filed, up to a maximum of five months or 25 percent. An exception from the penalty applies if the failure is due to 

reasonable cause. The net amount of tax due is the excess of the 

amount of the tax required to be shown on the return over the 

amount of any tax paid on or before the due date prescribed for the 

payment of tax. 

Failure to pay.—Taxpayers who fail to pay their taxes are subject 

to a penalty of 0.5 percent per month on the unpaid amount, up 

to a maximum of 25 percent. If a penalty for failure to file and a 

penalty for failure to pay tax shown on a return both apply for the 

same month, the amount of the penalty for failure to file for such 

month is reduced by the amount of the penalty for failure to pay 

tax shown on a return. If a return is filed more than 60 days after 

its due date, then the penalty for failure to pay tax shown on a return may not reduce the penalty for failure to file below the lesser 

of $100 or 100 percent of the amount required to be shown on the 

return. For any month in which an installment payment agreement 

with the IRS is in effect, the rate of the penalty is half the usual 

rate (0.25 percent instead of 0.5 percent), provided that the taxpayer filed the tax return in a timely manner (including extensions). 

Failure to make timely deposits of tax.—The penalty for the failure to make timely deposits of tax consists of a four-tiered structure in which the amount of the penalty varies with the length of 

time within which the taxpayer corrects the failure. A depositor is 

subject to a penalty equal to 2 percent of the amount of the underpayment if the failure is corrected on or before the date that is five 

days after the prescribed due date. A depositor is subject to a penalty equal to 5 percent of the amount of the underpayment if the 

failure is corrected after the date that is five days after the prescribed due date but on or before the date that is 15 days after the 

prescribed due date. A depositor is subject to a penalty equal to 10 

121 

percent of the amount of the underpayment if the failure is corrected after the date that is 15 days after the due date but on or 

before the date that is 10 days after the date of the first delinquency notice to the taxpayer (under sec. 6303). Finally, a depositor 

is subject to a penalty equal to 15 percent of the amount of the underpayment if the failure is not corrected on or before the date that 

is 10 days after the date of the day on which notice and demand 

for immediate payment of tax is given in cases of jeopardy. 

An exception from the penalty applies if the failure is due to reasonable cause. In addition, the Secretary may waive the penalty for 

an inadvertent failure to deposit any tax by specified first-time depositors. 

Accuracy-related penalties 

The accuracy-related penalty is imposed at a rate of 20 percent 

of the portion of any underpayment that is attributable, in relevant 

part, to (1) negligence, (2) any substantial understatement of income tax and (3) any substantial valuation misstatement. In addition, the penalty is doubled for certain gross valuation 

misstatements. These consolidated penalties are also coordinated 

with the fraud penalty. This statutory structure operates to eliminate any stacking of the penalties. 

No penalty is to be imposed if it is shown that there was reasonable cause for an underpayment and the taxpayer acted in good 

faith. However, Treasury has issued proposed regulations that 

limit the defenses available to the imposition of an accuracy-related 

penalty in connection with a reportable transaction when the 

transaction is not disclosed. 

Negligence or disregard for the rules or regulations.—If an underpayment of tax is attributable to negligence, the negligence penalty 

applies only to the portion of the underpayment that is attributable 

to negligence. Negligence means any failure to make a reasonable 

attempt to comply with the provisions of the Code. Disregard includes any careless, reckless or intentional disregard of the rules 

or regulations. 

Substantial understatement of income tax.—Generally, an understatement is substantial if the understatement exceeds the greater 

of (1) 10 percent of the tax required to be shown on the return for 

the tax year or (2) $5,000. In determining whether a substantial 

understatement exists, the amount of the understatement is reduced by any portion attributable to an item if (1) the treatment 

of the item on the return is or was supported by substantial authority, or (2) facts relevant to the tax treatment of the item were 

adequately disclosed on the return or on a statement attached to 

the return. 

Substantial valuation misstatement.—A penalty applies to the 

portion of an underpayment that is attributable to a substantial 

valuation misstatement. Generally, a substantial valuation 

misstatement exists if the value or adjusted basis of any property 

claimed on a return is 200 percent or more of the correct value or 

adjusted basis. The amount of the penalty for a substantial valuation misstatement is 20 percent of the amount of the underpayment if the value or adjusted basis claimed is 200 percent or 

more but less than 400 percent of the correct value or adjusted 

basis. If the value or adjusted basis claimed is 400 percent or more 

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of the correct value or adjusted basis, then the overvaluation is a 

gross valuation misstatement. 

Gross valuation misstatements.—The rate of the accuracy-related 

penalty is doubled (to 40 percent) in the case of gross valuation 

misstatements. 

Fraud penalty 

The fraud penalty is imposed at a rate of 75 percent of the portion of any underpayment that is attributable to fraud. The accuracy-related penalty does not apply to any portion of an underpayment on which the fraud penalty is imposed. 

Interest provisions 

Taxpayers are required to pay interest to the IRS whenever 

there is an underpayment of tax. An underpayment of tax exists 

whenever the correct amount of tax is not paid by the last date prescribed for the payment of the tax. The last date prescribed for the 

payment of the income tax is the original due date of the return. 

Different interest rates are provided for the payment of interest 

depending upon the type of taxpayer, whether the interest relates 

to an underpayment or overpayment, and the size of the underpayment or overpayment. Interest on underpayments is compounded daily. 

Offshore Voluntary Compliance Initiative 

In January 2003, Treasury announced the Offshore Voluntary 

Compliance Initiative (‘‘OVCI’’) to encourage the voluntary disclosure of previously unreported income placed by taxpayers in offshore accounts and accessed through credit card or other financial 

arrangements. A taxpayer had to comply with various requirements in order to participate in OVCI, including sending a written 

request to participate in the program by April 15, 2003. This request had to include information about the taxpayer, the taxpayer’s 

introduction to the credit card or other financial arrangements and 

the names of parties that promoted the transaction. Taxpayers eligible under OVCI will not be liable for civil fraud, the fraudulent 

failure to file penalty or the civil information return penalties. The 

taxpayer will pay back taxes, interest and certain accuracy-related 

and delinquency penalties. 

Voluntary Disclosure Initiative 

A taxpayer’s timely, voluntary disclosure of a substantial unreported tax liability has long been an important factor in deciding 

whether the taxpayer’s case should ultimately be referred for criminal prosecution. The voluntary disclosure must be truthful, timely, 

and complete. The taxpayer must show a willingness to cooperate 

(as well as actual cooperation) with the IRS in determining the correct tax liability. The taxpayer must make good-faith arrangements 

with the IRS to pay in full the tax, interest, and any penalties determined by the IRS to be applicable. A voluntary disclosure does 

not guarantee immunity from prosecution. It creates no substantive 

or procedural rights for taxpayers. 

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240These user fees were originally enacted in section 10511 of the Revenue Act of 1987 (Pub. 

Law No. 100–203, December 22, 1987). Public Law 104–117 (An Act to provide that members 

of the Armed Forces performing services for the peacekeeping efforts in Bosnia and Herzegovina, 

Croatia, and Macedonia shall be entitled to tax benefits in the same manner as if such services 

were performed in a combat zone, and for other purposes (March 20, 1996)) extended the statutory authorization for these user fees through September 30, 2003. 241 117 Stat. 1131; H.R. 3146, signed by the President on October 1, 2003. 

REASONS FOR CHANGE

The Committee is aware that individuals and corporations, 

through sophisticated transactions, are placing unreported income 

in offshore financial accounts accessed through credit or debit cards 

or other financial arrangements in order to avoid or evade Federal 

income tax. Such a phenomenon poses a serious threat to the efficacy of the tax system because of both the potential loss of revenue 

and the potential threat to the integrity of the self-assessment system. The IRS estimates there may be several hundred thousand 

taxpayers using offshore financial arrangements to conceal taxable 

income from the IRS costing the government billions of dollars in 

lost revenue. Under the OVCI initiative, only 1,253 taxpayers from 

46 states stepped forward to participate in the program. From 

these cases, the IRS expects to identify at least $100 million in uncollected tax. At the start of the program, the clear message to taxpayers was that those who failed to come forward would be pursued by the IRS and would be subject to more significant penalties 

and possible criminal sanctions. The Committee believes that doubling the civil penalties, fines and interest applicable to taxpayers 

who entered into these arrangements and did not take advantage 

of OVCI will provide the IRS with the significant sanctions needed 

to stem the promotion and participation in these abusive schemes. 

EXPLANATION OF PROVISION

The provision increases by a factor of two the total amount of 

civil penalties, interest and fines applicable for taxpayers who 

would have been eligible to participate in either the OVCI or the 

Treasury Department’s voluntary disclosure initiative (which applies to the taxpayer by reason of the taxpayer’s underpayment of 

U.S. income tax liability through certain financing arrangements) 

but did not participate in either program. 

EFFECTIVE DATE

The provision generally is effective with respect to a taxpayer’s 

open tax years on or after date of enactment. 

C. EXTENSION OF IRS USER FEES

(Sec. 631 of the bill and sec. 7528 of the Code) 

PRESENT LAW

The IRS provides written responses to questions of individuals, 

corporations, and organizations relating to their tax status or the 

effects of particular transactions for tax purposes. The IRS generally charges a fee for requests for a letter ruling, determination 

letter, opinion letter, or other similar ruling or determination.240

Public Law 108–89 241 extended the statutory authorization for 

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242That Public Law also moved into the Code the user fee provision relating to pension plans 

that was enacted in section 620 of the Economic Growth and Tax Relief Reconciliation Act of 

2001 (Pub. L. 107–16, June 7, 2001). 

these user fees through December 31, 2004, and moved the statutory authorization for these fees into the Code.242

REASONS FOR CHANGE

The Committee believes that it is appropriate to provide a further extension of the applicability of these user fees. 

EXPLANATION OF PROVISION

The provision extends the statutory authorization for these user 

fees through September 30, 2013. 

EFFECTIVE DATE

The provision is effective for requests made after the date of enactment. 

II. BUDGET EFFECTS OF THE BILL 

A. COMMITTEE ESTIMATES

In compliance with paragraph 11(a) of rule XXVI of the Standing 

Rules of the Senate, the following statement is made concerning 

the estimated budget effects of the provisions of the bill as reported. 

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126 

127 

128 

129 

130 

B. BUDGET AUTHORITY AND TAX EXPENDITURES

Budget authority 

In compliance with section 308(a)(1) of the Budget Act, the Committee states that the provisions of section 310 of the bill involve 

new or increased budget authority with respect to the Tax Court 

Judicial Officers’ Retirement Fund. 

Tax expenditures 

In compliance with section 308(a)(2) of the Budget Act, the Committee states that the revenue-reducing provisions of the bill involve increased tax expenditures (see revenue table in Part III.A., 

above). The revenue increasing provisions of the bill generally involve reduced tax expenditures (see revenue table in Part III.A., 

above). 

C. CONSULTATION WITH CONGRESSIONAL BUDGET OFFICE

In accordance with section 403 of the Budget Act, the Committee 

advises that the Congressional Budget Office has not submitted a 

statement on the bill. The letter from the Congressional Budget Office has not been received, and therefore will be provided separately.] 

III. VOTES OF THE COMMITTEE 

In compliance with paragraph 7(b) of rule XXVI of the Standing 

Rules of the Senate, the following statements are made concerning 

the votes taken on the Committee’s consideration of the bill. 

Motion to report the bill 

The bill as amended was ordered favorably reported by voice 

vote, a quorum being present, on February 2, 2004. 

Votes on amendments 

The amendment in the nature of a substitute was passed by 

voice vote. No other amendments were offered and voted upon. 

IV. REGULATORY IMPACT AND OTHER MATTERS 

A. REGULATORY IMPACT

Pursuant to paragraph 11(b) of Rule XXVI of the Standing Rules 

of the Senate, the Committee makes the following statement concerning the regulatory impact that might be incurred in carrying 

out the provisions of the bill as amended. 

Impact on individuals and businesses 

The bill includes provisions to improve tax administration and 

taxpayer safeguards, to reform the penalty and interest provisions 

of the Internal Revenue Code, to modernize the procedures and operation of the United States Tax Court, to improve the confidentiality of tax information, to simplify the tax laws, to curtail tax 

shelters, and to improve corporate governance. 

The bill includes various other provisions that are not expected 

to impose additional administrative requirements or regulatory 

burdens on individuals or businesses. 

131 

Impact on personal privacy and paperwork 

The provisions of the bill do not reduce personal privacy. Several 

provisions of the bill may improve personal privacy protections, 

such as the provision ensuring compliance by contractors with confidentiality safeguards (section 405) and the provision imposing 

higher standards for requests for and consents to disclosure (section 406). 

B. UNFUNDED MANDATES STATEMENT

This information is provided in accordance with section 423 of 

the Unfunded Mandates Reform Act of 1995 (P.L. 104–4). 

The Committee has determined that the tax provisions of the bill 

contain no Federal private sector mandates. 

The Committee has determined that the revenue provisions of 

the bill do not impose a Federal intergovernmental mandate on 

State, local, or tribal governments. 

C. TAX COMPLEXITY ANALYSIS

Section 4022(b) of the Internal Revenue Service Reform and Restructuring Act of 1998 (the ‘‘IRS Reform Act’’) requires the Joint 

Committee on Taxation (in consultation with the Internal Revenue 

Service and the Department of the Treasury) to provide a tax complexity analysis. The complexity analysis is required for all legislation reported by the Senate Committee on Finance, the House 

Committee on Ways and Means, or any committee of conference if 

the legislation includes a provision that directly or indirectly 

amends the Internal Revenue Code (the ‘‘Code’’) and has widespread applicability to individuals or small businesses. 

The staff of the Joint Committee on Taxation has determined 

that a complexity analysis is not required under section 4022(b) of 

the IRS Reform Act because the bill contains no provisions that 

amend the Code and that have ‘‘widespread applicability’’ to individuals or small businesses. 

V. CHANGES IN EXISTING LAW MADE BY THE BILL AS 

REPORTED 

In the opinion of the Committee, it is necessary in order to expedite the business of the Senate, to dispense with the requirements 

of paragraph 12 of rule XXVI of the Standing Rules of the Senate 

(relating to the showing of changes in existing law made by the bill 

as reported by the Committee). 

Æ