The President's 

1978 Tax Program 

************** 

Detailed Descriptions 

and 

Supporting Analyses 

of the Proposals 

DEPARTMENT OF THE TREASURY 

Washington, D.C. 
The President's 1978 Tax Program 

************************ 

Detailed Descriptions 

and Supporting Analyses 

of the Proposals 

January 30, 1978 

DEPARTMENT OF THE TREASURY Washington, D.C. 
PoT sale by the Superlnttndenl oll>oeumfnt&, U .8. Ocm!mmm~ Printing Ollkle 

WasbJnct.on, D.C. 20102 

Stock No. IKS-()()0.00307-0 
I. 

II. 

TABLE OF CONTENTS 

OVERVIEW OF THE TAX REDUCTION AND REFORM 

ACT OF 1978 . . . . . . . . . . . . . . . . . . . . 

A. 

B. 

c. 

TAX 

A. 

B. 

c. 

D. 

E. 

Fiscal Stimulus and Economic Growth 

Achieved by the Tax Program . Increased Equity Achieved by the Tax 

Program . . . . . . . . . . 

Simplification Achi eved by the Tax 

Program . . . . . . . . . . . . 

TREATMENT OF INDIVIDUALS . . . . . . . 

Rates and Credits 

1. Individual Tax Rates and the 

Personal Credit ••••••• 

. . 

. . 

. . 

. . 

2. Ordering Tax Credits •• • •••••• 

Itemized Deductions 

. 

. 

. 

. 

1. Introduction •••.••••••••• 

2. Medical and Casualty Deductions •••• 

3. Deductions for State and Local Taxes •• 

4. Deductions for Political Contributions. 

. • . 

. . . 

. . . 

. . . 

. . . 

. . . 

Capital Gains--Repeal of Alternative Tax . . Tax Shelters 

1. Introduction •••......••••••. 

2. Examples of Tax Shelter Abuse 

3. Real Estate Depreciation •••••••••• 

4. Minimum Tax for Individuals • • • •••• 

5. At Risk • • • • • • • . • • • • • • • • 

6. Classification of Limited Partnerships •••• 

7. Audit of Partnerships • • •• • • 

8. Tax Shelter Annuities •.•••••••• 

Employee Benefits 

1. Introduction •••••..•..•••.•• 

2. Qualified Retirement Plans and 

Social Security •••••••••••••• 

3 . Medical, Disability, and Life Insurance 

Provided by Employer ••.•••••••.. 

4. Employee Death Benefits •••.•••.••• 

5. Unemployment Compensation Benefits •. 

- i i i -

1 

3 

11 

18 

23 

25 

39 

42 

45 

51 

55 

59 

64 

71 

81 

103 

109 

117 

121 

132 

145 

147 

164 

174 

177 
F. Entertainment and Travel 

1. Introduction • • • • • • • • • • • • • • • • 182 

2. Examples of Problems Under Present Law. • • • 183 

3. Entertainment Expenses. • • • • • • • 195 

4. First Class Air Fare • • • • • • • • 205 

5. Foreign Conventions • • • • • • • • • 208 

III. TAX EXEMPT FINANCING . . . . . . . . . 213 

215 

IV. 

v. 

A. State and Local Taxable Bond Option • . . B. Tax Treatment of Industrial Development 

Bonds • • • • • • • • • • • • • • • . . . . . 

TAX TREATMENT OF BUSINESS. . . . . . . . . . . . A. 

B. 

c. 

D. 

E. 

Corporate Tax Rate Reduction •• 

Investment Credit . . . . . . . . . Small Business 

1. Introduction ••••••••• . . . . . 2. Liberalization of Subchapter S. . . . . . . . 3. Depreciation for Small Business . . . . . . . 4. Small Business Stock ••••• . . . . . . . Corporate Preferences 

1. Repeal of DISC .••.••••••••• 

2. Terminating Deferral .••..••• 

3. Financial Institutions • •••••• 

4. Accrual Accounting for Agricultural 

Corporations • • • • • • • • • •• 

Simplification of ADR Depreciation ••• . . . 

EXCISE TAXES . . . . . . . . . . . . . . A. Communications Tax Repeal. . . . . . . . . . . . . B. Unemployment Tax Rate Reduction •• 

-iv236 

249 

251 

254 

263 

264 

268 

271 

274 

282 

298 

314 

321 

325 

327 

329 
I 

****************************** 

Overview of the Tax Reduction 

and Reform Act of 1978 
IA 

FISCAL STIMULUS AND ECONOMIC GROWTH 

ACHIEVED BY THE TAX PROGRAM 

The Need for a Tax Cut 

To achieve the economic goals outlined in the 

President•s Budget and Economic Messages, prompt, permanent 

tax reductions for both individuals and corporations are 

required. Such reductions are needed not because the u.s. 

economy is weak today, but rather to strengthen and maintain 

the current economic expansion, and to assure the future 

productivity of the economy. The unemployment rate has 

declined by more than two and a half points from its peak in 

1975, but unemployment remains unacceptably high. To assure 

that it will continue to decline through 1979, the economy 

must continue to grow at a rate of 4-1/2 to 5 percent. 

To maintain this growth rate will require a fiscal 

offset to the drain on consumer purchasing power from higher 

taxes and inflation. The outlook for future increases in 

consumption is dimmed by the recently legislated increases in 

social security taxes, which will reduce consumer take-home 

pay in 1978 and especially in 1979 and subsequent years. 

Furthermore, without personal tax reductions, inflation would 

operate to move individual taxpayers into higher marginal tax 

brackets, increasing their effective tax burden just as 

though higher rates had been enacted. 

The tax cut is also designed to stimulate business 

investment. In recent years, the growth in the stock of 

productive capital in the United States has been inadequate. 

During the current recovery, the level of business investment 

has been particularly sluggish. Real business investment 

during the fourth quarter of 1977 was three percent below its 

previous peak (during the first quarter of 1974). This 

weakness was particularly noticeable in investment in 

non-residential structures which, during the fourth quarter 

of 1977 (corrected for inflation), remained 14 percent below 

its peak during the third quarter of 1973. 

The sluggishness of business investment could become a 

major long-run problem. For the longer term, an increasing 

portion of GNP must be devoted to investment in order to 

- 3 -
facilitate the introduction of new technology and to expand 

and modernize the nation's stock of capital, thereby raising 

the overall productivity of the economy and reducing 

inflationary pressures. Additional capital is needed to 

equip a growing labor force, to meet the goals of the 

National Energy Plan, and to provide a cleaner environment 

and safer workplaces. In addition, the real income of 

workers can grow over the long run only if labor productivity 

is enhanced. Increased capital formation, which provides new 

and more efficient productive facilities, can help accelerate 

the growth of labor productivity, offsetting inflationary 

pressures and improving u.s. competitiveness in world 

markets. 

Moreover, growth in the stock of capital must be 

accompanied by increased efficiency in its use. Much of the 

current capital stock is outmoded. It is energy intensive, 

predicated on the existence of cheap energy--something that 

will not occur again. Similarly, much of the existing 

capital was constructed when environmental standards were 

less stringent than they are today. The achievement of a 

more efficient capital stock will require high levels of new 

investment, which in turn requires a tax program that will 

assure adequate after-tax returns to capital. 

Finally, the composition of the existing capital stock 

has been distorted by features of current tax law. For 

example, opportunities for tax-sheltered investments and more 

lightly-taxed investment abroad, as well as restrictions on 

the investment in industrial facilities eligible for the 

investment credit, all tend to discourage the most efficient 

allocation of capital resources. These tax impediments to an 

efficient overall stock of capital must be removed. 

In a suitable fiscal environment, the private sector is 

capable of strong economic growth, but a tax cut is necessary 

at this time to ensure that the present expansion is not 

choked off by Federal taxes claiming a rising share of 

income. A balanced tax program is needed to strengthen and 

extend the current economic expansion in a non-inflationary 

way, to improve the capacity of the economy to supply goods 

and services, to increase real wages over time, and to insure 

that future growth is not aborted by capacity shortages. If 

the vigor of the current economic expansion is to be 

maintained and the unemployment rate is to be reduced below 

six percent, legislation must be enacted promptly. 

The Proposals in General 

The specific tax proposals will be discussed in detail 

below, but their general magnitude is presented in Table 

IA-1. Individual tax changes, reflecting primarily the $240 

credit and the new individual rate schedules, will provide a 

gross tax cut for individuals of $23.5 billion in 1979 and, 

- 4 -
Table IA-1 

Summary of Tax Proposals 

($ billions) 

Proposal 

* Reduce Individual Tax Rates and 

Adopt $240 Personal Credit .• 

* Limit Itemized Deductions 

* 

* 

* 

* 

Restrict Tax Shelters and Other 

Opportunities to Receive TaxPreferred Income • .....•• 

Restrict Deductions for 

Entertainment and Travel Expenses 

Reduce Corporate Tax Rates • • • 

Liberalize Investment Tax Credit 

Revenue Effect 

1979 

-23.5 

+5.8 

+1. 0 

+1. 5 

-6.0 

-2.4 

* Curtail Business Tax Preferences . . . . +1.1 

* Reduce Telephone Excise and 

Unemployment Taxes . • . • 

TOTAL 

Off1ce of the Secretary of the Treasury 

Office of Tax Analysis 

-2.0 

-24.5 
after allowing for revenue ra1s1ng reforms, a net reduction 

in individual income tax liabilities of $16.8 billion. 

Corporate changes consist of rate reductions and 

liberalization of the investment credit. These cuts, . together with business tax reforms, yield a net reduction of 

almost $6 billion in 1979. In addition, both businesses and 

individuals will derive benefits from the $2 billion 

reduction in telephone excise taxes and a reduction in the 

payroll tax for unemployment insurance. 

While these measures will tend to increase the budget 

deficit during 1979, the stimulus to the economy, which will 

lead to higher levels of economic activity during 1979, 

should offset about 35 percent of the initial revenue loss by 

1980. With the proposed tax cuts, the unemployment rate will 

continue to decline throughout the period. 

The Personal Tax Proposals 

The largest single aspect of the package, introduction 

of the $240 credit and reduction of the individual tax rates, 

will become effective October 1, 1978, while most of the 

reforms, which generally lead to revenue gains, become 

effective January 1, 1979. Thus, the net tax reduction for 

individuals during calendar 1978 will be slightly over $6 

billion, increasing to almost to $17 billion by 1979. The 

phase-in of this stimulus is such that its impact will be 

felt primarily during late 1978 and 1979, when it will be 

most needed. 

The Business Tax Proposals 

The benefits to the economy from the individual tax cuts 

will be augmented by the business tax program. This program 

not only will provide the stimulus to regain full employment, but it will also correct the current imbalance between the 

growth of productive capacity and the growth of the labor 

force. In the long run, this program will operate to 

increase the share of national output devoted to expansion 

and modernization of the nation's capital stock. Thus, the 

business tax proposals are designed to achieve multiple 

objectives, while assuring the continued vigor of the 

national economy. 

First, and of overriding importance, is the stimulation 

to capital formation both in the near future and over the 

longer term. A significant cause of the recent sluggishness 

in business investment has been the low after-tax rate of 

return on investment. There has been a downward trend in the 

rate of return on reproducible assets since the mid-1960's, a 

trend that must be reversed. To this end, corporate tax 

rates will be reduced as of October 1, 1978, and further 

reduced on January 1, 1980. The 10 percent investment tax 

- 6 -
credit will be made permanent, and will be extended to the 

construction or rehabilitation of industrial and utility 

structures. The full investment credit also will be extended 

to all pollution abatement facilities currently amortized 

over five years with a five percent credit. In addition, 

investors will be permitted to use these credits to offset 90 

percent of tax liability in any year. Effective as of the 

first of January 1978, these liberalizations of the credit 

together with the corporate rate cuts will have a substantial 

impact on business investment beginning in 1978, an impact 

that will grow in 1979 and thereafter. 

These tax reductions will stimulate capital formation in 

two ways. First, the lower taxes will have an immediate, 

favorable effect on corporate cash flow, facilitating the 

financing of capital expenditures. Second, the lower tax 

rates will increase after-tax profits on investment, creating 

incentives for corporations to increase capital spending. 

While there are substantial delays in the response of capital 

expenditures to stimulative measures, prompt enactment of 

this tax program should induce increased investment spending 

even during the current calendar year. 

The degree of permanent investment stimulus in the 

program may be measured by the overall reduction in tax on 

returns from all investment, including the reductions in 

individual tax rates as they apply to dividends, interest, 

rents, royalties, capital gains, and profit of noncorporate 

enterprises. Even after allowances for revenue raising 

reforms, there will be a significant reduction in overall 

taxation of income from ownership of capital. 1/ As measured 

at 1979 levels of income, the entire tax program, when fully 

phased in, will reduce taxes on capital income by an 

estimated $7.3 billion. - The elements of the program included 

in this estimate are set forth in Table IA-2. The table 

discloses that the combined amounts of individual and 

corporate rate reductions and liberalization of the 

investment credit will substantially outweigh selective tax 

increases from business reforms. This permanent, net 

reduction in taxes on investment income will provide a 

lasting incentive to capital formation. 

It is equally important that the increase in aggregate 

capital spending be allocated in an efficient way. Efforts 

must therefore be made to reduce incentives in the tax system that give rise to inefficiencies in the allocation of 

capital. The restructuring of the investment credit and a 

number of the reforms in the business tax proposals are 

directed toward this goal. 

- 7 -
Table IA-2 

Change in Tax on Capital Income 

($ millions) 

Proposal :Full Year 

1979 

Ind1v1dual rate reduct1ons, $240 credit, and 

itemized deductions (capital income only) !/ .. -1,832 

Repeal alternate tax for individuals • • 

Minimum tax change • • . . . . . . . 

. . . 140 

284 

Real estate shelters •• . . . . . . . . . . . 666 

Financial Institutions . . . . . . . Taxable bond option . . . . . . . . . . 

Tax credits limited to 90 percent of 

individual liability • . . • 

At risk limitation •• . . 

Elimination of deferral of tax on foreign 

224 

257 

52 

13 

source income . . . . . . . . . . . . . . . 669 

Phase out of DISC . . . . . . . . . . . . 1,932 

Corporate family farm accounting • 

Investment tax credit: 

Extend to structures • • . . . Increase liability limit to 90 

Pollution abatement facilities 

Corporate tax rate reductions 

percent 

35 

.•.•. -1,443 

• • • 84 . • • 129 

• -7,293 

Total for capital income ........ -7,319 

Off1ce of the Secretary of the Treasury Office of Tax Analysis 

1/ Capital income items are: dividends, interest, rents, 

royalties, capital gains, proprietorship, and partnership 

income. 
For example, the investment credit currently applies to 

industrial equipment, but not to the buildings needed to 

house that equipment. Thus, the tax system encourages 

businesses to build a capital stock that is "over-equipped" 

and "under-housed" relative to what it would be under a more 

neutral tax system. Extending the credit to industrial 

structures will eliminate this bias. 

Other efficiency losses stem from variations in the tax 

rates paid by different industries. Such variations occur 

because of the very different way in which different forms of 

business income are taxed. The present tax proposals seek to 

encourage a more efficient allocation of capital resources by 

reducing the tax incentives that distort investment 

decisions. This would be accomplished by making effective 

business tax rates more equal through repeal of some special 

provisions for taxing business income. These include the 

phase-out of DISC, the elimination of tax deferral on foreign 

source income, changes in provisions for bad debt reserves by 

financial institutions, and increasing the taxation of tax 

shelters and other tax preference items. 

Overall Impact of the Tax Program 

In the absence of this tax program, the share of the 

nation's output going to the Federal government will continue 

to rise. The Social Security tax increases, the unemployment 

insurance tax increases, and the "inflation tax" increases 

would mean that in fiscal year 1979, Federal receipts would 

be equal to 29.4 percent of GNP. The Administration's tax 

program would reduce this share to 19.3 percent. 

A similar pattern is reflected in individual income 

taxes as a percent of personal income. Under current law, 

this ratio would rise to 19.7 percent in calendar year 1978 

and 11.4 percent in 1979--close to its historic high (11.6 

percent in 1969). The Administration's tax program will 

reduce these ratios to 19.3 percent and 19.5 percent, 

respectively, thus working to offset the fiscal drag on the 

economy. 

While the impact of the entire tax package on the 

performance of the economy will be modest in 1978, it will 

become significant in 1979. In the absence of the tax 

package, we would expect the unemployment rate to remain 

steady at 6.3 percent or move slightly upwards. The tax 

stimulus will increase output by $49 billion by the end of 

1979, creating one million more jobs and reducing the rate of 

unemployment below six percent . Forecasting the performance 

of the economy beyond 1979 is hazardous, but it seems clear 

that, in the absence of the tax package, there would be 

further softening of the economy, while with the tax package 

the economy will continue to expand. 

- 9 -
Such economic stimulus is not entirely without cost: 

while the rate of inflation will continue to decline each 

year, it would decline more rapidly in the absence of the 

stimulus. In proposing this package, the Administration has 

made the judgment that the production of an additional $49 

billion of goods and services (in 1977 prices) and the 

creation of almost a million new jobs is worth the risk of an 

extra one-tenth of one percent in the inflation rate at the 

end of 1979. 

The tax program is thus a key element in the 

Administration's overall economic plan, which relies 

principally upon growth in the private sector to create the 

jobs needed to achieve high employment. The tax program is 

designed to offset such fiscal changes as the "inflation tax" 

and increased social security taxes that would otherwise tend 

to limit economic growth. It will reform our present system 

in order to achieve greater equity and simplification. The 

tax program will also raise the rate of return on investment, 

to stimulate expansion and modernization of our capital 

stock, increasing employment in the short run and raising 

productivity and removing capacity bottlenecks in the future. 

At the same time, the tax program avoids excessive 

stimulation, for potential inflationary pressures are still 

present in the economy. The reductions in the telephone 

excise tax and the unemployment insurance tax work directly 

against such pressures by reducing the cost of output. Other 

aspects of the Administration's economic program will also 

help in restraining inflation, most notably the expenditure 

restraint contained in the fiscal year 1979 Budget and the 

program for voluntary wage and price restraint. Taken 

together, all these programs will enable the u.s. economy to 

enjoy steady, sustainable, non-inflationary economic growth. 

Footnote 

!/ Regardless of whether the tax on capital income is paid 

by corporations or individuals. 

- 10 -
IB 

INCREASED EQUITY ACHIEVED BY THE TAX PROGRAM 

One important goal of the Administration's tax proposals 

is to restructure the law to increase the extent to which it 

reflects the two basic principles of tax fairness. The first 

principle, generally referred to as horizontal equity, is 

that people with comparable incomes should pay a comparable 

amount of tax. The second principle, vertical equity, is 

that tax liabilities should increase with increasing ability 

to pay; that is, the tax system should be progressive. 

Although other objectives of the income tax system may at 

times come into conflict with the principles of equity, our 

income tax structure -- if it is to be maintained -- must 

rest on this foundation. 

Effective administration of our income tax depends upon 

the perception by taxpayers that the system is basically 

equitable. If honest citizens begin to doubt the equity or 

fairness of the system, the level of voluntary compliance 

will be diminished. Therefore, when taxpayers with an equal 

ability to pay are taxed at vastly different rates, or when 

higher income taxpayers are taxed at lower rates than lower 

income taxpayers, the viability of our income tax system 

becomes threatened. 

Vertical Equity 

Progressivity. The income tax has always been designed 

to be progressive, so that higher income individuals are to 

pay a larger share of their incomes in tax than lower income 

individuals. The Administration's tax proposals would 

reinforce the current progressivity of the income tax. The 

proposals are structured to give the lowest income classes 

the greatest percentage reductions in tax liability, the next 

greatest reductions to the middle income classes, and the 

smallest reductions to the upper income classes. In fact, 

the average taxpayer with an expanded income 1/ of $180,888 

or more will have a slight tax increase. As a result, as 

shown in Table IB - 1, taxpayers with expanded income of up 

to $30,088 will bear a smaller proportion of the total tax 

burden, while those with expanded income of $30,880 or more 

will bear a greater proportion. 

This increase in progressivity will be accomplished 

through replacement of the personal exemption with a personal 

credit and a restructuring of the tax rates. In addition, 

the proposals to provide further limits on tax shelters, to 

treat interest income from annuities the same as other 

- 11 -
Table IB-1 

Income Tax Liabilities: Present Law and Administration Proposal 

(Personal Income Only) 

(1976 Levels of Income) 

Present Law . . Administration Pro2osal : Tax Chanse 

Expanded : : . . : : : Change as 

Income : Tax : Percentage : Tax : Percentage . . Tax : Percent of 

Class : Liability :Distribution : Liability :Distribution : Liability . . Present Law 

Tax 

($000) ($ millions) (percent) ($ millions) (percent) ($ millions) (percent) 

Less than 5 141 0.1% -251 -0.2% -392 - "218.0% 

5 - 10 8,227 6.1 6,368 5.2 -1,859 -22.6 

10 - 15 18,071 13.4 15,361 12.4 -2,710 -15.0 

15 - 20 23,009 17.0 20,148 16.3 -2,861 -12.4 

20 - 30 32.778 24.2 29,593 23.9 -3,185 -9.7 

30 - 50 22,017 16.3 20,971 17.0 -1,046 -4.8 

50 - 100 16,492 12.2 16,344 13.2 -148 -0.9 

100 - 200 8,084 6.0 8,261 6.7 177 2.2 

200 and over 6,476 4.8 6,838 5.5 362 5.6 - Total $135,293 100.0% $123,633 100.0% $-ll,660 -8.6% 

Off ice of the Secretary of the Treasury January 15, 1978 

Office of Tax Analysis 

Note: Details may not add to totals due to rounding. 
interest income, to repeal the alternative tax on capital 

gains and to tighten the minimum tax will enhance the equity 

of the tax system by restricting the extent to which 

individuals can lower their tax merely by the choice of their 

investments. The taxable bond option will reduce the extent 

to which high-bracket taxpayers can increase their after-tax 

income by holding tax-exempt bonds. 

Chart IB-1 and Table IB-2 below, provide a comparison 

of effective tax rates under present law and the 

Administration's proposal. 

Tax Reform and Poverty Levels. A major equity objective 

of reform of the individual income tax is the elimination of 

any income tax upon people whose incomes are at or near 

poverty levels. Since poverty level income is sufficient to 

purchase only minimum amounts of food, shelter, and other 

necessities, imposition of income tax on income below these 

levels is inappropriate. 

The tax-free level of income is defined to be the 

maximum level of adjusted gross income at which no income tax 

is paid by a taxpayer who does not itemize deductions. The 

tax-free level is determined by the combination of personal 

exemptions, personal credits, and the zero bracket amount (or 

standard deduction) II· 

In recent years, the tax-free level of income has been 

increased primarily through increases in the size of a 

minimum standard deduction. Under the tax proposals, the 

tax-free level will rise primarily from the change of the 

personal exemption to the personal credit. 

Raising the tax-free levels of income also serves to 

limit the overlap of the income tax system with the welfare 

system. Under most welfare programs, there is a phase-out of 

benefits as income rises. If welfare benefits are reduced at 

the same level that income is taxed, a wage earner can face a 

situation where he can keep little if anything from an 

additional dollar of earned income. Therefore, to avoid 

strong disincentives to work at low income levels, it is 

desirable that tax-free levels of income be set high enough 

to prevent a dollar of increased earned income from causing· both a reduction in welfare assistance and an increase in · income tax liability. 

A comparison of the tax-free levels of income and 

poverty levels is presented in Table IB - 3. Under the 

Administration's tax proposals the tax-free level of income 

would rise substantially above the poverty level for 1979. 

It should be noted that the poverty level is defined in 

terms of total income, while the tax-free level of income is 

defined in terms of adjusted gross income for a taxpayer who 

- 13 -
CHART I-B-1 

Tax Reform Program: 

Effective Individual Tax Rates -- Taxes as a Percent of 

Expanded Income. 1978 Level of Income. 

Effective tax rate (percent)----------------

01977 Law 

~~l~trl Proposed Law 30.2 31.7 

30 - ------------------------------------------------------~ :-:·:-:;.:.: 30.0~ :·:·:=:·:·:~ ::::::::::~ r;:::~::::: :::::'=:=:::· ::::~::::: 

=-

24. 4 24.2 ~;~;~~~;~=~~ ~~~~~~~~~~ ........... ····· ... ~::00 ~=;~~~~~; ~~~~~~~~~ :::::::::::: :::::::::::. ::;:::::::: 

=~=~=~=~=~=~~ =~=~=~=~=~==~-- :::::~=~=~==~ ,!!JS ~ 

18 8 ~~~~~~1~1~~~ ~~11~~~ ~l~~~ilil~ !•!•!-:·:·:· !·!·!•!(•! =·=·=-:·:·: ~=::::::::::: :::::::::::: ~:::::::::: :::::::::::; 13 

~ 8 ............ ············ ··········· ············ 12 5 :::::::::::· :::::::=:::: :::::~:::~ ::::::§:=:. 

11 2 ~ .;:;:::;.;:: :·:·:·:=:·: :·:·:·:·:·:· :·:·:·.·~~ . ~ •······•••·• ···•···•··· ········••·· •····•·•··· - •!•.•!•.·!· ..- ·..:·~~~·. ·!·!·:····· ·:·:········ ·=· ~=·=·· 

-

------------9 .-- 8 8 :.:·:::::o: :;:;.;:::::: :-:·:·:=:::. :·:-::::::-: :·:·:·:·:·:> 

0 • ......_ • - ·=·=·····=· • • .. .. 1- E:~:·:·:····· • ••• •;;; 1-- ...... 

•!•!•!•!•!•. f.- •••• :·:·=-=~~ · L__ ....... ·:·:-:•!•!• 

,...::....:.... 7 8 r:::·•·•·•·•·•·: 

c:~······· • • ·:·:·:·:· •. • .•. ·· •···· .•.•. ··:-:·v •'•. ···:········ .-........ • ········· .•.•.v,.:.· ···....- ···· •••••••••••• ······~ r.m:: .;:::::·:=: ::::::::::: :;:::::::::: ::::::::::: :::::::·:·:· ::::::::·::. 

5 • 5 4 3 :l:~=~::::: ~======~=~= =~=~~=~~ ~:;:~~:(::: :;:~:~:~:;:: :;:~=~=~~== =~=l=~~== • ::=::#:: :::::::::::. :*::::::: ~=~::::::: ::::::::::: :~:::::::: ::::::~:: ~ •*:-":';:.:: ==~~=====~ :::::::::? ::::::::~:: ::=-:::::::: ~:::::::-:: :::::::=::~ .••.. ·.·;::: ·•••••• .·.• .·.·.-..·:·: ·••••••••·• . ·=-·· ••• • •. ···•• ••• •"•,. •• , ··::3 

~ ~---~ -······•···· -·••········· -

:·:·· .. -:··· :-:·

~ :·:·:·: -

.;:;.;.;:::: :;:::::::::; 

~ ~ ::::::.:::: ::;:::::::: ~ 

20 

10 

0 

-0.4 

~r:f) o~ o0 o~ o0 o~ o0 ~~ o0 o~ o0 oc::f s:P ~ o0 oc::f 0 

~ c:s c:s c:s c:s c:s c:s c:s \Y: c:s c:s c:s c:s <:S <:S <:S <:S , ~ 

P.Jc._, ~~· ~~·,...o· ..._o· .... ~· .... ~~o· g,'>·,.!P' 'JJ'>tP' ~~P·oo· o'>~· &'b, ~ ~ ~ ~ Is ~ ~ ~ ~ '!II r; ~" ~"~~ ~~ ~ 

Expanded income class 
Table IB-2 

Expanded Iueome and Tax tiabilitJ Vodar Preaent taw 

And Tax lefora Propoaale (Individual ODlJ) 

(1976 Levell of Income) 

($ mil tiona) 

Expand eel z z lreaent tav : Tax Reform Propoaa1 

Inc0111e • !xpaodec! I lax :£ffeetlve • Tax . • Effective • . Cla11 : Income I tia 11lty :Tax Rata : ttab1Uty : Tax Rata 

($000) 

te .. tbao 5 57,557 ~1 0.21 -251 -0.41 

5 - 10 149,590 1,227 5.5 6,361 4.31 

10 - 15 201,036 11,071 t.Ol 15,361 7.61 

15- 20 205,086 23,009 11.21 20,141 9.11 

20 - 30 237,041 32,771 13.1. 29,593 12.SI 

30 - so 124,136 22,017 17.6 20,971 16.11 

so - 100 67,484 16,492 24.4 16,344 24.21 

100 - 200 27,371 1,084 29.5 1,261 30.21 

200 aod over 21,573 6,476 30.0 6,831 31.71 

Total 1,091,573 135,293 12.41 123,633 11.31 

Office of the Secretary of the Treaaury Jaouar, 12, 1971 

Office of Tax Analytil 

ROte: Detalla may not add to totala due to roundlaa. 
TABLE IB-3 

Tax-Exempt and Poverty Levels 

Family 

Size!/ 

1 

2 

3 

4 

5 

6 

Tax-lxempt Levels 

of Income Under 

Current Law !/ 

3,200 

5,200 

6,200 

7,200 

8,183 

9,167 

Of Incoae 

Tax-Exempt 

Levels of Income 

Under Proposal !/ 

3,967 

6,553 

7,922 

9,256 

10,589 

11,884 

Office of the Secretary of the Treasury 

Office of Tax Analysis 

1979 

Poverty Levels 11 

3,449 

4,438 

5,429 

6,954 

8,223 

9,280 

Jan. 26, 1978 

!/ Family size assumed to equal number of exemptions. For family sizes greater 

than two, families are assumed to file joint returns and be two parent familiea. 

2/ Excludes Earned Income Credit. 

1/ Non-fa~ families. 
does not itemize and does not receive additional credits 

because of age or blindness. Thus, for some taxpayers, the 

tax-free level of income may be higher than the numbers 

reported in the table. This higher level may be the result 

of nontaxable income such as social security payments, extra 

credits, additional exemptions for age and blindness, or 

itemized deducions i n excess of the zero bracket amount. 

Employee Benefi ts -- Employer programs designed to 

provide retirement i ncome to employees or to provide 

protection in the event of illness, death or disability 

receive favorable tax treatment. The President's proposals 

relating to qualified retirement plans and Social Security 

and medical, disability and life insurance provided by the 

employer will assure that a greater portion of the benefits 

from these plans will inure to rank and file employees. 

Horizontal Equity -- Equal Incomes, Equal Tax 

The tax proposals are also designed to move in the 

direction of equalizing the tax treatment of taxpayers with 

an equal ability to pay. The tax reform proposals previously 

described will reduce the disparity in tax treatment arising 

from choice of investment. Also, the President's proposal 

relating to entertainment benefits will tend to equalize the 

tax burden between those who are able to arrange their ·business activities so as to enjoy entertainment which is 

deductible and those who must provide these amenities out of 

after-tax dollars. 

Finally, for taxpayers with over $28,888 of income if 

single and over $25,888 of income if married, at least some 

portion of their unemployment benefits will be taxed. These 

taxpayers with unemployment benefits will, therefore, be 

taxed more like other taxpayers at a comparable income level 

whose income is from other sources. 

Footnotes 

ll As used here, the term •expanded income• is generally a 

taxpayer's adjusted gross income plus items of tax preference (not otherwise included in adjusted gross income). 

~/ Before the Tax Reduction and Simplification Act of 1977, 

there was no zero bracket amount but rather a minimum 

standard deduction (low income allowance). 

- 17 -
IC 

SIMPLIFICATION ACHIEVED BY THE TAX PROGRAM 

In our tax system, equity and public policy goals often 

conflict with the desire to achieve simplicity. Many 

deductions and credits are allowed in order to further public 

policies: however, government spending via the tax system 

invariably adds complexity lo the tax laws. In many cases, 

factual situations are distinguishable and arguably ought to 

be taxed differently in the interest of equity. However, the 

more distinctions which the tax system recognizes, the more 

complicated it becomes and the more difficult it is to 

determine tax liability in even the most ordinary situations. 

Some complexity in our tax laws cannot be avoided since 

the law must reflect the enormous complexity and vitality of 

the American economy. It is essential to our system of 

self-assessment, however, that the law be understandable to 

the people to whom it applies. At the present time even 

routine applications of the tax laws frequently are not 

understood. Our tax laws must be made simpler, especially 

for the average taxpayer who does not have access to high 

priced professional counsel. 

The President's proposals include important steps toward 

simplification, without sacrificing equity. For both 

individual and business taxpayers, the proposals will reduce 

the amount of time and energy spent on recordkeeping and tax 

computation. They will also reduce the frequency of disputes 

between taxpayers and the Internal Revenue Service. For 

individuals the most significant gain in simplification is 

that about 6 million individual taxpayers will be able to 

determine their tax liability without itemizing deductions. 

Even those who continue to itemize will be required to keep 

fewer records and to make fewer and easier calculations. 

These proposals continue the Administration's efforts 

toward simplification which began with the Tax Reduction and 

Simplification Act of 1977. That Act provided a flat 

standard deduction (now called the "zero bracket amount"). 

The Act also provided new tax tables that 95 percent of all 

taxpayers are able to use. These taxpayers no longer are 

required to make separate calculations for the standard 

deduction, personal exemptions, or the very complicated 

general tax credit. 

- ~ -
The proposals which will simplify the tax laws are as 

follows: 

Itemized Deductions 

Under the proposals, certain itemized deductions will be 

reduced or eliminated. This will make it easier for 

individuals to prepare their own tax returns, eliminate much 

recordkeeping, and reduce audit and administrative burdens on 

both taxpayers and the Internal Revenue Service. 

The itemized deductions for state and local general 

sales taxes, personal property taxes and gasoline taxes will 

be repealed. Also the deductions for medical expenses and 

casualty losses will be combined into one "extraordinary 

expense" deduction which will be available only to the extent 

that these expenses exceed 19 percent of adjusted gross 

income. This proposal will eliminate the need for taxpayers 

to compile and retain detailed records unless their medical 

expenses and casualty losses are unusually large and 

seriously impair their ability to pay taxes. It will also 

eli minate many disputes between taxpayers and the IRS over 

the nature of medical expenses and the extent of casualty 

losses. 

Reductions in tax rates applicable to individuals wi ll 

substantially offset increases in tax liabilities which would 

otherwise result from these changes in the treatment of 

itemized deductions. Since these expenses are incurred in a 

relatively uniform manner, they can be reflected in the 

structure of tax rates. 

Capital Gains 

Generally, the Internal Revenue Code permits an 

individual taxpayer to deduct 59 percent of any net long-term 

capital gain from adjusted gross income. However, a special 

rule applies to the first $58,999 of net long-term capital 

gain realized in any one year. Instead of paying regular tax 

on one-half the gain, the individual taxpayer may elect to 

pay a 25 percent "alternative tax" on the entire gain up to 

$58,899. A taxpayer who does so may not utilize the 

averaging provisions of the Code. Therefore, two sets of 

calculations are required by taxpayers to minimize tax 

liability -- one based on the alternative tax and no 

averaging and one based on averaging but no alternative tax. 

Repeal of the alternative tax will simplify treatment of 

capital gains and computation of tax. 

- 19 -
Political Contributions 

The Internal Revenue Code now permits an itemized 

deduction for up to $200 of political contributions by a 

married couple filing jointly. As an alternative, a credit 

against tax of half of the first $100 of political 

contributions is permitted. To treat political contributions 

more equitably and to eliminate the complexity which results 

from an alternative deduction or credit, the deduction for 

political contributions will be repealed. Also, this will 

permit the tax return form to be shortened. 

Personal Credit 

The replacement of both the personal exemption and the 

general tax credit by a $240 personal credit represents an 

important conceptual simplification. 

Small Business 

Complexities in the tax law are especially burdensome 

for small businesses. Computation of the depreciation 

deduction is a particular source of complexity. In computing the deduction for depreciation, small businesses are now 

required to estimate the useful life of property. These 

estimates often provoke disputes with the IRS. To prevent these disputes from arising, the IRS will prepare for use by 

small businesses a simple table to determine the useful life 

of property. 

Salvage value is another source of unnecessary 

complexity. The burdensome calculations have little 

practical effect on the depreciation deductions allowed. The 

proposal will permit small businesses to disregard salvage 

value if the table lives are used. 

Losses on the sale of stock of certain small 

corporations can offset ordinary income. Under present law 

this beneficial treatment is available only if the taxpayer 

complies with complicated procedures when the stock is 

offered. Many taxpayers fail to receive this beneficial 

treatment because they are unaware that these procedures 

exist. Under the proposal this special treatment will be 

made automatic. 

The ADR System 

The Asset Depreciation Range (ADR) system, an optional 

method for computing depreciation, is designed to minimize 

disputes between taxpayers and the IRS. However, many 

taxpayers have not been able to use the ADR system because it 

is complicated and imposes burdensome reporting requirements. 

Several technical changes are proposed to simplify the ADR 

system, including replacing the current reporting 

requirements with a survey of sample taxpayers. 

- 20 -
Real Estate 

The ADR system generally does not apply to real estate. 

As a substitute for the ADR system, a simple table for use in 

computing depreciation of real estate will be provided. This 

will eliminate disputes between taxpayers and the IRS over 

the useful life of buildings. 

Investment Credit 

The proposed extension of the investment credit to 

industrial and utility structures will reduce disputes 

between taxpayers and the IRS caused by the need under 

current law to distinguish between two categories of 

equipment since equipment which is a structural component of 

a building is not eligible for the credit. Although it will 

be necessary to distinguish between industrial and other 

structures, this should be a simpler line to draw. Also, the 

expansion from 59 percent to 99 percent of the amount of tax 

liability that may be offset by an investment credit will 

reduce the need for taxpayers to use complicated carryover 

provisions or to engage in lease arrangements. 

Deferral and DISC 

The proposed phase-out of the deferral of income of 

controlled foreign subsidiaries and the DISC provision will 

eliminate some of the most complex provisions of the Code and 

reduce the circumstances where other little-understood rules 

must be applied. 

Travel and Entertainment Expenses 

The elimination of deductions for entertainment expenses 

such as theater tickets, yachts, and hunting lodges will 

reduce recordkeeping requirements and eliminate a source of 

taxpayer disputes. The proposed rules regarding expenses of 

attending foreign conventions will eliminate burdensome 

recordkeeping resulting from the 1976 Act's partial solution 

to the problem of vacations disguised as business-related 

conventions. 

Ordering of Credits 

The proposal will simplify the treatment of tax credits. 

Under present law, some credits can be taken against certain 

special taxes such as the minimum tax, but others cannot. 

The proposal will provide a uniform base for all credits. 

- 21 -