I
105TH CONGRESS
1ST SESSION
H. R. 1207
To amend the Internal Revenue Code of 1986 to provide all taxpayers with
a 50 percent deduction for capital gains, to increase the exclusion for
gain on qualified small business stock, to index the basis of certain
capital assets, and for other purposes.
IN THE HOUSE OF REPRESENTATIVES
MARCH 20, 1997
Mr. WATKINS introduced the following bill; which was referred to the
Committee on Ways and Means
A BILL
To amend the Internal Revenue Code of 1986 to provide
all taxpayers with a 50 percent deduction for capital
gains, to increase the exclusion for gain on qualified
small business stock, to index the basis of certain capital
assets, and for other purposes.
Be it enacted by the Senate and House of Representa-
tives of the United States of America in Congress assembled,
SECTION 1. SHORT TITLE.
This Act may be cited as the ‘‘Economic Competitive-
ness and Growth Act’’.
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SEC. 2. 50 PERCENT CAPITAL GAINS DEDUCTION.
(a) GENERAL RULE.—Section 1201 of the Internal
Revenue Code of 1986 is amended to read as follows:
‘‘SEC. 1201. CAPITAL GAINS DEDUCTION.
‘‘(a) GENERAL RULE.—If for any taxable year a tax-
payer has a net capital gain, 50 percent of such gain shall
be a deduction from gross income.
‘‘(b) ESTATES AND TRUSTS.—In the case of an es-
tate or trust, the deduction shall be computed by excluding
the portion (if any) of the gains for the taxable year from
sales or exchanges of capital assets which, under sections
652 and 662 (relating to inclusions of amounts in gross
income of beneficiaries of trusts), is includible by the in-
come beneficiaries as gain derived from the sale or ex-
change of capital assets.
‘‘(c) COORDINATION WITH TREATMENT OF CAPITAL
GAIN UNDER LIMITATION ON INVESTMENT INTEREST.—
For purposes of this section, the net capital gain for any
taxable year shall be reduced (but not below zero) by the
amount which the taxpayer takes into account as invest-
ment income under section 163(d)(4)(B)(iii).
‘‘(d) TRANSITIONAL RULES.—
‘‘(1) IN GENERAL.—In the case of a taxable
year which includes January 1, 1997—
‘‘(A) the amount taken into account as the
net capital gain under subsection (a) shall not
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exceed the net capital gain determined by only
taking into account gains and losses properly
taken into account for the portion of the tax-
able year on or after January 1, 1997, and
‘‘(B) the amount of the net capital gain
taken into account in applying section 1(h) for
such year shall be reduced by the amount taken
into account under subparagraph (A) for such
year.
‘‘(2) SPECIAL RULES FOR PASS-THROUGH ENTI-
TIES.—
‘‘(A) IN GENERAL.—In applying paragraph
(1) with respect to any pass-through entity, the
determination of when gains and losses are
properly taken into account shall be made at
the entity level.
‘‘(B) PASS-THROUGH ENTITY DEFINED.—
For purposes of subparagraph (A), the term
‘pass through entity’ means—
‘‘(i) a regulated investment company,
‘‘(ii) a real estate investment trust,
‘‘(iii) an S corporation,
‘‘(iv) a partnership,
‘‘(v) an estate or trust, and
‘‘(vi) a common trust fund.’’
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(b) DEDUCTION ALLOWABLE
IN COMPUTING AD-
JUSTED GROSS INCOME.—Subsection (a) of section 62 of
such Code is amended by inserting after paragraph (16)
the following new paragraph:
‘‘(17) LONG-TERM
CAPITAL
GAINS.—The de-
duction allowed by section 1201.’’
(c) TECHNICAL AND CONFORMING CHANGES.—
(1) Section 1 of such Code is amended by strik-
ing subsection (h).
(2) Section 12 of such Code is amended by
striking paragraph (4) and redesignating the follow-
ing paragraphs accordingly.
(3)(A) Subsection (a) of section 57 of such
Code is amended by striking paragraph (7).
(B) Subclause (II) of section 53(d)(1)(B)(ii) of
such Code is amended by striking ‘‘, (5), and (7)’’
and inserting ‘‘and (5)’’.
(4) Paragraph (1) of section 170(e) of such
Code is amended by striking ‘‘the amount of gain’’
in the material following subparagraph (B)(ii) and
inserting ‘‘50 percent of the amount of gain’’.
(5) Paragraph (2) of section 172(d) of such
Code is amended to read as follows:
‘‘(2) CAPITAL GAINS AND LOSSES.—
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‘‘(A) LOSSES OF TAXPAYERS OTHER THAN
CORPORATIONS.—In the case of a taxpayer
other than a corporation, the amount deductible
on account of losses from sales or exchanges of
capital assets shall not exceed the amount in-
cludible on account of gains from sales or ex-
changes of capital assets.
‘‘(B) DEDUCTION FOR CAPITAL GAINS.—
The deduction under section 1201 shall not be
allowed.’’
(6) The last sentence of section 433A(c)(3) of
such Code is amended by striking all that follows
‘‘long-term capital gain,’’ and inserting ‘‘the deduc-
tion under section 1201 shall be taken into ac-
count.’’
(7) Paragraph (2) of section 468B(b) of such
Code is amended by inserting ‘‘the deduction allowed
by section 1201 and by’’ after ‘‘reduced by’’.
(8) Paragraph (2) of section 527(b) of such
Code is hereby repealed.
(9) Subparagraph (A) of section 641(d)(2) of
such Code is amended by striking ‘‘Except as pro-
vided in section 1(h), the’’ and inserting ‘‘The’’.
(10) Paragraph (4) of section 642(c) of such
Code is amended to read as follows:
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‘‘(4) ADJUSTMENTS.—To the extent that the
amount otherwise allowable as a deduction under
this subsection consists of gain from the sale or ex-
change of capital assets held for more than 1 year,
proper adjustment shall be made for any deduction
allowable to the estate or trust under section 1201
(relating to capital gains deduction). In the case of
a trust, the deduction allowed by this subsection
shall be subject to section 681 (relating to unrelated
business income).’’
(11) The last sentence of section 643(a)(3) of
such Code is amended to read as follows: ‘‘The de-
duction under section 1201 (relating to capital gains
deduction) shall not be taken into account.’’
(12) Subparagraph (C) of section 643(a)(6) of
such Code is amended by inserting ‘‘(i)’’ before
‘‘there shall’’ and by inserting before the period ‘‘,
and (ii) the deduction under section 1201 (relating
to capital gains deduction) shall not be taken into
account.’’
(13) Paragraph (4) of section 691(c) of such
Code is amended by striking ‘‘1(h),’’.
(14) Paragraph (2) of section 801(a) of such
Code is hereby repealed.
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(15) Subsection (c) of section 831 of such Code
is amended by striking paragraph (1) and redesig-
nating the following paragraphs accordingly.
(16)(A) Subparagraph (A) of section 852(b)(3)
of such Code is amended by striking ‘‘, determined
as provided in section 1201(a), on’’ and inserting
‘‘of 17.5 percent of’’.
(B) Clause (iii) of section 852(b)(3)(D) of such
Code is amended—
(i) by striking ‘‘65 percent’’ and inserting
‘‘82.5 percent’’, and
(ii) by striking ‘‘section 1201(a)’’ and in-
serting ‘‘subparagraph (A)’’.
(17) Clause (ii) of section 857(b)(3)(A) of such
Code is amended by striking ‘‘determined at the rate
provided in section 1201(a) on ‘‘and inserting’’ of
17.5 percent of’’.
(18) The second sentence of section 871(a)(2)
of such Code is amended by striking ‘‘1202’’ and in-
serting ‘‘1201’’.
(19) Paragraph (1) of section 882(a) of such
Code is amended by striking ‘‘section 11,55,5A, or
1201(a)’’ and inserting ‘‘section 11,55, or 59A’’.
(20)(A) Paragraph (2) of section 904(b) of
such Code is amended to read as follows:
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‘‘(2) CAPITAL
GAINS.—Taxable income from
sources outside the United States shall include gain
from the sale or exchange of capital assets only to
the extent of foreign source capital gain net in-
come.’’
(B) Paragraph (3) of section 904(b) of such
Code is amended by striking subparagraphs (B),
(D), and (E) and by redesignating subparagraph (C)
as subparagraph (B).
(21)(A) Paragraph (2) of section 1211(b) of
such Code is amended to read as follows:
‘‘(2) the sum of—
‘‘(A) the excess of the net short-term cap-
ital loss over the net long-term capital gain, and
‘‘(B) one-half of the excess of the net long-
term capital loss over the net short-term capital
gain.’’
(B) So much of paragraph (2) of section
1212(b) of such Code as precedes subparagraph (B)
thereof is amended to read as follow:
‘‘(2) SPECIAL RULES.—
‘‘(A) ADJUSTMENTS.—
‘‘(i) For purposes of determining the
excess referred to in paragraph (1)(A),
there shall be treated as short-term capital
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gain in the taxable year an amount equal
to the lesser of—
‘‘(I) the amount allowed for the
taxable year under paragraph (1) or
(2) of section 1211(b), or
‘‘(II) the adjusted taxable income
for such taxable year.
‘‘(ii) For purposes of determining the
excess referred to in paragraph (1)(B),
there shall be treated as short-term capital
gain in the taxable year an amount equal
to the sum of—
‘‘(I) the amount allowed for the
taxable year under paragraph (1) or
(2) of section 1211(b) or the adjusted
taxable income for such taxable year,
whichever is the least, plus.
‘‘(II) the excess of the amount
described in subclause (I) over the net
short-term capital loss (determined
without regard to this subsection) for
such year.’’
(C) Subsection (b) of section 1212 is amended
by adding at the end the following new paragraph:
‘‘(3) TRANSITIONAL RULE.—
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‘‘(A) IN
GENERAL.—The amount deter-
mined under subclause (II) of paragraph
(2)(A)(ii) for any taxable year shall be reduced
(but not below zero) by the excess of—
‘‘(i) the amount of the unused pre-
1998 long-term capital loss for such year,
over
‘‘(ii) the sum of the long-term capital
gain and the net short-term capital gain
for such taxable year.
Section 1211(b)(2)(B) shall be applied without
regard to ‘‘one-half of’’ with respect to such ex-
cess for such taxable year.
‘‘(B) UNUSED PRE-1998 LONG-TERM CAP-
ITAL
LOSS—For purposes of this paragraph,
the term ‘‘unused pre-1998 long-term capital
loss’’ means, with respect to a taxable year, the
excess of—
‘‘(i) the amount which under para-
graph (1)(B) (as in effect for taxable years
beginning before January 1, 1998) is
treated as a long-term capital loss for the
taxpayer’s first taxable year beginning
after December 31, 1997, over
‘‘(ii) the sum of—
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‘‘(I) the aggregate amount deter-
mined under subparagraph (A)(ii) for
all prior taxable years beginning after
December 31, 1997, and
‘‘(II) the aggregate reductions
under subparagraph (A) for all such
prior taxable years.’’
(22) Subsection (b) of section 1374 of such
Code is amended by striking paragraph (4).
(23) Subsection (b) of section 1381 is amended
by striking ‘‘or 1201’’.
(24) Paragraph (1) of section 1402(i) of such
Code is amended by inserting ‘‘, and the deduction
provided by section 1201 shall not apply’’ before the
period at the end thereof.
(25) Subsection (e) of section 1445 of such
Code is amended—
(A) in paragraph (1) by striking ‘‘35 per-
cent (or, to the extent provided in regulations,
28 percent)’’ and inserting ‘‘17.5 percent (or, to
the extent provided in regulations, 19.8 per-
cent)’’, and
(B) in paragraph (2) by striking ‘‘35 per-
cent’’ and inserting ‘‘17.5 percent’’.
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(26) Clause (i) of section 6425(c)(1)(A) of such
Code is amended by striking ‘‘or 1201(a)’’.
(27) Clause (i) of section 6655(g)(1)(A) of such
Code is amended by striking ‘‘or 1201(a)’’.
(28)(A) 
The 
second 
sentence 
of 
section
7518(g)(6)(A) of such Code is amended—
(i) by striking ‘‘during a taxable year to
which section 1(h) or 1201(a) applies’’, and
(ii) by striking ‘‘28 percent (34 percent’’
and inserting ‘‘19.8 percent (17.5 percent’’.
(B) 
The 
second 
sentence 
of 
section
607(h)(6)(A) of the Merchant Marine Act, 1936 is
amended—
(i) by striking ‘‘during a taxable year to
which section 1(h) or 1201(a) of such Code ap-
plies’’, and
(ii) by striking ‘‘28 percent (34 percent’’
and inserting ‘‘19.8 percent (17.5 percent’’.
(29) The table of sections for part I of sub-
chapter P of chapter 1 of such Code is amended by
striking the item relating to section 1201 and insert-
ing the following:
‘‘Sec. 1201. Capital gains deduction.’’
(d) EFFECTIVE DATES.—
(1) IN
GENERAL.—Except as otherwise pro-
vided in this subsection, the amendments made by
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this section apply to taxable years ending after De-
cember 31, 1996.
(2) REPEAL
OF
SECTION 1(h).—The amend-
ment made by subsection (c)(1) shall apply to tax-
able years beginning after January 1, 1997.
(3) CONTRIBUTIONS.—The amendment made
by subsection (c)(4) shall apply only to contributions
on or after January 1, 1997.
(4) USE OF LONG-TERM LOSSES.—The amend-
ments made by subsection (c)(21) shall apply to tax-
able years beginning after December 31, 1997.
(5) WITHHOLDING.—The amendment made by
subsection (c)(25) shall apply only to amounts paid
after the date of the enactment of this Act.
(6) COORDINATION
WITH
PRIOR
TRANSITION
RULE.—Any amount treated as long-term capital
gain by reason of paragraph (3) of section 1122(h)
of the Tax Reform Act of 1986 shall not be taken
into account for purposes of applying section 1201
of the Internal Revenue Code of 1986 (as added by
this section).
SEC. 3. INCREASED EXCLUSION AND OTHER MODIFICA-
TIONS APPLICABLE TO QUALIFIED SMALL
BUSINESS STOCK.
(a) INCREASED EXCLUSION.—
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(1) IN
GENERAL.—Subsection (a) of section
1202 of the Internal Revenue Code of 1986 (50-per-
cent exclusion for gain from certain small business
stock) is amended—
(A) by striking ‘‘50 percent’’ and inserting
‘‘75 percent’’, and
(B) by striking ‘‘50-Percent’’ in the head-
ing and inserting ‘‘75-Percent’’.
(2) CONFORMING AMENDMENTS.—
(A) The heading for section 1202 of such
Code is amended by striking ‘‘50-percent’’ and
inserting ‘‘75-percent’’.
(B) The table of sections for part I of sub-
chapter P of chapter 1 of such Code is amended
by striking ‘‘50-percent’’ in the item relating to
section 1202 and inserting ‘‘75-percent’’.
(b) REDUCTION IN HOLDING PERIOD.—Subsection
(a) of section 1202 of such Code is amended by striking
‘‘5 years’’ and inserting ‘‘3 years’’.
(c) EXCLUSION AVAILABLE TO CORPORATIONS.—
(1) IN
GENERAL.—Subsection (a) of section
1202 of such Code is amended by striking ‘‘other
than a corporation’’.
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(2) TECHNICAL AMENDMENT.—Subsection (c)
of section 1202 of such Code is amended by adding
at the end the following new paragraph:
‘‘(4) STOCK HELD AMONG MEMBERS OF CON-
TROLLED GROUP NOT ELIGIBLE.—Stock of a mem-
ber of a parent-subsidiary controlled group (as de-
fined in subsection (d)(3)) shall not be treated as
qualified small business stock while held by another
member of such group.’’
(d) REPEAL OF MINIMUM TAX PREFERENCE.—
(1) IN GENERAL.—Subsection (a) of section 57
of such Code (relating to items of tax preference) is
amended by striking paragraph (7).
(2) TECHNICAL AMENDMENT.—Subclause (II)
of section 53(d)(1)(B)(ii) of such Code is amended
by striking ‘‘, (5), and (7)’’ and inserting ‘‘and (5)’’.
(e) STOCK OF LARGER BUSINESSES ELIGIBLE FOR
EXCLUSION.—
(1) IN
GENERAL.—Paragraph (1) of section
1202(d) of such Code (defining qualified small busi-
ness) is amended by striking ‘‘$50,000,000’’ each
place it appears and inserting ‘‘$100,000,000’’.
(2) INFLATION ADJUSTMENT.—Section 1202(d)
of such Code is amended by adding at the end the
following:
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‘‘(4) INFLATION ADJUSTMENT OF ASSET LIMI-
TATION.—In the case of stock issued in any calendar
year after 1998, the $100,000,000 amount con-
tained in paragraph (1) shall be increased by an
amount equal to—
‘‘(A) such dollar amount, multiplied by
‘‘(B) the cost-of-living adjustment deter-
mined under section 1(f)(3) for the calendar
year in which the taxable year begins, deter-
mined by substituting ‘calendar year 1997’ for
‘calendar year 1992’ in subparagraph (B)
thereof.
If any amount as adjusted under the preceding sen-
tence is not a multiple of $10,000, such amount
shall be rounded to the nearest multiple of
$10,000.’’
(f) REPEAL OF PER-ISSUER LIMITATION.—Section
1202 of such Code is amended by striking subsection (b).
(g) OTHER MODIFICATIONS.—
(1) REPEAL
OF
WORKING
CAPITAL
LIMITA-
TION.—Section 1202(e)(6) of such Code (relating to
working capital) is amended—
(A) in subparagraph (B), by striking ‘‘2
years’’ and inserting ‘‘5 years’’, and
(B) by striking the last sentence.
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(2) EXCEPTION
FROM
REDEMPTION
RULES
WHERE BUSINESS PURPOSE.—Section 1202(c)(3) of
such Code (relating to certain purchases by corpora-
tion of its own stock) is amended by adding at the
end the following:
‘‘(D) WAIVER
WHERE
BUSINESS
PUR-
POSE.—A purchase of stock by the issuing cor-
poration shall be disregarded for purposes of
subparagraph (B) if the issuing corporation es-
tablishes that there was a business purpose for
such purchase and one of the principal purposes
of the purchase was not to avoid the limitations
of this section.’’
(h) QUALIFIED
TRADE
OR
BUSINESS.—Section
1202(e)(3) of such Code (defining qualified trade or busi-
ness) is amended by inserting ‘‘and’’ at the end of sub-
paragraph (C), by striking ‘‘, and’’ at the end of subpara-
graph (D) and inserting a period, and by striking subpara-
graph (E).
(i) EFFECTIVE DATES.—
(1) IN GENERAL.—Except as provided in para-
graph (2), the amendments made by this section
apply to stock issued after the date of enactment of
this Act.
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(2) SPECIAL RULE.—The amendments made by
subsections (a), (c), (e), and (f) apply to stock is-
sued after August 10, 1993.
SEC. 4. ROLLOVER OF GAIN FROM SALE OF QUALIFIED
STOCK.
(a) IN GENERAL.—Part III of subchapter O of chap-
ter 1 of the Internal Revenue Code of 1986 (relating to
common nontaxable exchanges) is amended by adding at
the end the following:
‘‘SEC. 1045. ROLLOVER OF GAIN FROM QUALIFIED SMALL
BUSINESS STOCK TO ANOTHER QUALIFIED
SMALL BUSINESS STOCK.
‘‘(a) NONRECOGNITION OF GAIN.—In the case of any
sale of qualified small business stock with respect to which
the taxpayer elects the application of this section, eligible
gain from such sale shall be recognized only to the extent
that the amount realized on such sale exceeds—
‘‘(1) the cost of any qualified small business
stock purchased by the taxpayer during the 60-day
period beginning on the date of such sale, reduced
by
‘‘(2) any portion of such cost previously taken
into account under this section.
This section shall not apply to any gain which is treated
as ordinary income for purposes of this title.
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‘‘(b) DEFINITIONS AND SPECIAL RULES.—For pur-
poses of this section—
‘‘(1) QUALIFIED SMALL BUSINESS STOCK.—The
term ‘qualified small business stock’ has the mean-
ing given such term by section 1202(c).
‘‘(2) ELIGIBLE GAIN.—The term ‘eligible gain’
means any gain from the sale or exchange of quali-
fied small business stock held for more than 6
months.
‘‘(3) PURCHASE.—A taxpayer shall be treated
as having purchased any property if, but for para-
graph (4), the unadjusted basis of such property in
the hands of the taxpayer would be its cost (within
the meaning of section 1012).
‘‘(4) BASIS ADJUSTMENTS.—If gain from any
sale is not recognized by reason of subsection (a),
such gain shall be applied to reduce (in the order ac-
quired) the basis for determining gain or loss of any
qualified small business stock which is purchased by
the taxpayer during the 60-day period described in
subsection (a).
‘‘(c) SPECIAL RULES FOR TREATMENT OF REPLACE-
MENT STOCK.—
‘‘(1) HOLDING PERIOD FOR ACCRUED GAIN.—
For purposes of this chapter, gain from the disposi-
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tion of any replacement qualified small business
stock shall be treated as gain from the sale or ex-
change of qualified small business stock held more
than 6 months to the extent that the amount of such
gain does not exceed the amount of the reduction in
the basis of such stock by reason of subsection
(b)(4).
‘‘(2) TACKING OF HOLDING PERIOD FOR PUR-
POSES OF DEFERRAL.—Solely for purposes of apply-
ing this section, if any replacement qualified small
business stock is disposed of before the taxpayer has
held such stock for more than 6 months, gain from
such stock shall be treated eligible gain for purposes
of subsection (a).
‘‘(3) REPLACEMENT
QUALIFIED
SMALL
BUSI-
NESS STOCK.—For purposes of this subsection, the
term ‘replacement qualified small business stock’
means any qualified small business stock the basis
of which was reduced under subsection (b)(4).’’
(b) CONFORMING AMENDMENTS.—
(1) Section 1016(a)(23) of such Code is amend-
ed—
(A) by striking ‘‘or 1044’’ and inserting ‘‘,
1044, or 1045’’; and
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(B) by striking ‘‘or 1044(d)’’ and inserting
‘‘, 1044(d), or 1045(b)(4)’’.
(2) The table of sections for part III of sub-
chapter O of chapter 1 of such Code is amended by
adding at the end the following:
‘‘Sec. 1045. Rollover of gain from qualified small business stock
to another qualified small business stock.’’
(c) EFFECTIVE DATE.—The amendments made by
this section apply to stock sold or exchanged after the date
of the enactment of this Act.
SEC. 5. INDEXING OF CERTAIN ASSETS ACQUIRED AFTER
DECEMBER 31, 1996, FOR PURPOSES OF DE-
TERMINING GAIN OR LOSS.
(a) IN GENERAL.—Part II of subpart O of chapter
1 of the Internal Revenue Code of 1986 (relating to basis
rules of general application) is amended by inserting after
section 1021 the following new section:
‘‘SEC. 1022. INDEXING OF CERTAIN ASSETS ACQUIRED
AFTER DECEMBER 31, 1996, FOR PURPOSES
OF DETERMINING GAIN OR LOSS.
‘‘(a) GENERAL RULE.—
‘‘(1) INDEXED
BASIS
SUBSTITUTED
FOR
AD-
JUSTED
BASIS.—Except as otherwise provided in
this subsection, if an indexed asset which has been
held for more than 3 years is sold or otherwise dis-
posed of, for purposes of this title the indexed basis
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of the asset shall be substituted for its adjusted
basis.
‘‘(2) EXCEPT FOR DEPRECIATION, ETC.—The
deductions for depreciation, depletion, and amortiza-
tion shall be determined without regard to the appli-
cation of paragraph (1) to the taxpayer or any other
person.
‘‘(b) INDEXED ASSET.—
‘‘(1) IN GENERAL.—For purposes of this sec-
tion, the term ‘indexed asset’ means—
‘‘(A) common stock in a C corporation
(other than a foreign corporation), and
‘‘(B) tangible property,
which is a capital asset or property used in the trade
or business (as defined in section 1231(b)).
‘‘(2) STOCK
IN
CERTAIN
FOREIGN
CORPORA-
TIONS INCLUDED.—For purposes of this section—
‘‘(A) IN
GENERAL.—The term ‘indexed
asset’ includes common stock in a foreign cor-
poration which is regularly traded on an estab-
lished securities market.
‘‘(B) 
EXCEPTION.—Subparagraph 
(A)
shall not apply to—
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‘‘(i) stock of a foreign investment
company (within the meaning of section
1246(b)),
‘‘(ii) stock in a passive foreign invest-
ment company (as defined in section
1296),
‘‘(iii) stock in a foreign corporation
held by a United States person who meets
the requirements of section 1248(a)(2),
and
‘‘(iv) stock in a foreign personal hold-
ing company (as defined in section 552).
‘‘(C) TREATMENT OF AMERICAN DEPOSI-
TORY RECEIPTS.—An American depository re-
ceipt for common stock in a foreign corporation
shall be treated as common stock in such cor-
poration.
‘‘(c) INDEXED BASIS.—For purposes of this sec-
tion—
‘‘(1) GENERAL RULE.—The indexed basis for
any asset is—
‘‘(A) the adjusted basis of the asset, in-
creased by
‘‘(B) the applicable inflation adjustment.
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‘‘(2) APPLICABLE INFLATION ADJUSTMENT.—
The applicable inflation adjustment for any asset is
an amount equal to—
‘‘(A) the adjusted basis of the asset, multi-
plied by
‘‘(B) the percentage (if any) by which—
‘‘(i) 
the 
gross 
domestic 
product
deflator for the last calendar quarter end-
ing before the asset is disposed of, exceeds
‘‘(ii) the gross domestic product
deflator for the last calendar quarter end-
ing before the asset was acquired by the
taxpayer.
The percentage under subparagraph (B) shall
be rounded to the nearest one-tenth of 1 per-
centage point.
‘‘(3) GROSS DOMESTIC PRODUCT DEFLATOR.—
The gross domestic product deflator for any cal-
endar quarter is the implicit price deflator for the
gross domestic product for such quarter (as shown
in the last revision thereof released by the Secretary
of Commerce before the close of the following cal-
endar quarter).
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‘‘(d) SUSPENSION OF HOLDING PERIOD WHERE DI-
MINISHED
RISK
OF
LOSS; TREATMENT
OF
SHORT
SALES.—
‘‘(1) IN GENERAL.—If the taxpayer (or a relat-
ed person) enters into any transaction which sub-
stantially reduces the risk of loss from holding any
asset, such asset shall not be treated as an indexed
asset for the period of such reduced risk.
‘‘(2) SHORT SALES.—
‘‘(A) IN GENERAL.—In the case of a short
sale of an indexed asset with a short sale period
in excess of 3 years, for purposes of this title,
the amount realized shall be an amount equal
to the amount realized (determined without re-
gard to this paragraph) increased by the appli-
cable inflation adjustment. In applying sub-
section (c)(2) for purposes of the preceding sen-
tence, the date on which the property is sold
short shall be treated as the date of acquisition
and the closing date for the sale shall be treat-
ed as the date of disposition.
‘‘(B) SHORT SALE PERIOD.—For purposes
of subparagraph (A), the short sale period be-
gins on the day that the property is sold and
ends on the closing date for the sale.
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‘‘(e) TREATMENT
OF
REGULATED
INVESTMENT
COMPANIES AND REAL ESTATE INVESTMENT TRUSTS.—
‘‘(1) ADJUSTMENT AT ENTITY LEVEL.—
‘‘(A) IN GENERAL.—Except as provided in
subparagraph (B), the adjustment under sub-
section (a) shall be allowed to any qualified in-
vestment entity (including for purposes of de-
termining the earnings and profits of such en-
tity).
‘‘(B) 
EXCEPTION
FOR
QUALIFICATION
PURPOSES.—This section shall not apply for
purposes of sections 851(b) and 856(c).
‘‘(2) ADJUSTMENTS
TO
INTERESTS
HELD
IN
ENTITY.—
‘‘(A) REGULATED
INVESTMENT
COMPA-
NIES.—Stock in a regulated investment com-
pany (within the meaning of section 851) shall
be an indexed asset for any calendar quarter in
the same ratio as—
‘‘(i) the average of the fair market
values of the indexed assets held by such
company at the close of each month during
such quarter, bears to
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‘‘(ii) the average of the fair market
values of all assets held by such company
at the close of each such month.
‘‘(B) 
REAL
ESTATE
INVESTMENT
TRUSTS.—Stock in a real estate investment
trust (within the meaning of section 856) shall
be an indexed asset for any calendar quarter in
the same ratio as—
‘‘(i) the fair market value of the in-
dexed assets held by such trust at the close
of such quarter, bears to
‘‘(ii) the fair market value of all as-
sets held by such trust at the close of such
quarter.
‘‘(C) RATIO OF 80 PERCENT OR MORE.—If
the ratio for any calendar quarter determined
under subparagraph (A) or (B) would (but for
this subparagraph) be 80 percent or more, such
ratio for such quarter shall be 100 percent.
‘‘(D) RATIO OF 20 PERCENT OR LESS.—If
the ratio for any calendar quarter determined
under subparagraph (A) or (B) would (but for
this subparagraph) be 20 percent or less, such
ratio for such quarter shall be zero.
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‘‘(E) 
LOOK-THROUGH
OF
PARTNER-
SHIPS.—For purposes of this paragraph, a
qualified investment entity which holds a part-
nership interest shall be treated (in lieu of hold-
ing a partnership interest) as holding its pro-
portionate share of the assets held by the part-
nership.
‘‘(3) TREATMENT OF RETURN OF CAPITAL DIS-
TRIBUTIONS.—Except as otherwise provided by the
Secretary, a distribution with respect to stock in a
qualified investment entity which is not a dividend
and which results in a reduction in the adjusted
basis of such stock shall be treated as allocable to
stock acquired by the taxpayer in the order in which
such stock was acquired.
‘‘(4) QUALIFIED
INVESTMENT
ENTITY.—For
purposes of this subsection, the term ‘qualified in-
vestment entity’ means—
‘‘(A) a regulated investment company
(within the meaning of section 851), and
‘‘(B) a real estate investment trust (within
the meaning of section 856).
‘‘(f) OTHER PASS-THROUGH ENTITIES.—
‘‘(1) PARTNERSHIPS.—
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‘‘(A) IN GENERAL.—In the case of a part-
nership, the adjustment made under subsection
(a) at the partnership level shall be passed
through to the partners.
‘‘(B) SPECIAL RULE IN THE CASE OF SEC-
TION 754 ELECTIONS.—In the case of a transfer
of an interest in a partnership with respect to
which the election provided in section 754 is in
effect—
‘‘(i) the adjustment under section
743(b)(1) shall, with respect to the trans-
feror partner, be treated as a sale of the
partnership assets for purposes of applying
this section, and
‘‘(ii) with respect to the transferee
partner, the partnership’s holding period
for purposes of this section in such assets
shall be treated as beginning on the date
of such adjustment.
‘‘(2) S CORPORATIONS.—In the case of an S
corporation, the adjustment made under subsection
(a) at the corporate level shall be passed through to
the shareholders.
‘‘(3) COMMON TRUST FUNDS.—In the case of a
common trust fund, the adjustment made under sub-
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section (a) at the trust level shall be passed through
to the participants.
‘‘(g) DISPOSITIONS BETWEEN RELATED PERSONS.—
‘‘(1) IN GENERAL.—This section shall not apply
to any sale or other disposition of property between
related persons except to the extent that the basis
of such property in the hands of the transferee is a
substituted basis.
‘‘(2) RELATED PERSONS DEFINED.—For pur-
poses of this section, the term ‘related persons’
means—
‘‘(A) persons bearing a relationship set
forth in section 267(b), and
‘‘(B) persons treated as single employer
under subsection (b) or (c) of section 414.
‘‘(h) TRANSFERS TO INCREASE INDEXING ADJUST-
MENT.—If any person transfers cash, debt, or any other
property to another person and the principal purpose of
such transfer is to secure or increase an adjustment under
subsection (a), the Secretary may disallow part of all of
such adjustment or increase.
‘‘(i) SPECIAL RULES.—For purposes of this section—
‘‘(1) TREATMENT OF IMPROVEMENTS, ETC.—If
there is an addition to the adjusted basis of any tan-
gible property or of any stock in a corporation dur-
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ing the taxable year by reason of an improvement
to such property or a contribution to capital of such
corporation—
‘‘(A) such addition shall never be taken
into account under subsection (c)(1)(A) if the
aggregate amount thereof during the taxable
year with respect to such property or stock is
less than $1,000, and
‘‘(B) such addition shall be treated as a
separate asset acquired at the close of such tax-
able year if the aggregate amount thereof dur-
ing the taxable year with respect to such prop-
erty or stock is $1,000 or more.
A rule similar to the rule of the preceding sentence
shall apply to any other portion of an asset to the
extent that separate treatment of such portion is ap-
propriate to carry out the purposes of this section.
‘‘(2) ASSETS WHICH ARE NOT INDEXED ASSETS
THROUGHOUT HOLDING PERIOD.—The applicable in-
flation ratio shall be appropriately reduced for peri-
ods during which the asset was not an indexed asset.
‘‘(3) TREATMENT
OF
CERTAIN
DISTRIBU-
TIONS.—A distribution with respect to stock in a
corporation which is not a dividend shall be treated
as a disposition.
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‘‘(4) SECTION
CANNOT
INCREASE
ORDINARY
LOSS.—To the extent that (but for this paragraph)
this section would create or increase a net ordinary
loss to which section 1231(a)(2) applies or an ordi-
nary loss to which any other provision of this title
applies, such provision shall not apply. The taxpayer
shall be treated as having a long-term capital loss in
an amount equal to the amount of the ordinary loss
to which the preceding sentence applies.
‘‘(5) ACQUISITION
DATE
WHERE
THERE
HAS
BEEN
PRIOR
APPLICATION
OF
SUBSECTION
(a)(1)
WITH RESPECT TO THE TAXPAYER.—If there has
been a prior application of subsection (a)(1) to an
asset while such asset was held by the taxpayer, the
date of acquisition of such asset by the taxpayer
shall be treated as not earlier than the date of the
most recent such prior application.
‘‘(6) COLLAPSIBLE CORPORATIONS.—The appli-
cation of section 341(a) (relating to collapsible cor-
porations) shall be determined without regard to this
section.
‘‘(j) REGULATIONS.—The Secretary shall prescribe
such regulations as may be necessary or appropriate to
carry out the purposes of this section.’’
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(b) CLERICAL AMENDMENT.—The table of sections
for part II of subchapter O of chapter 1 is amended by
inserting after the item relating to section 1021 the follow-
ing new item:
‘‘Sec. 1022. Indexing of certain assets acquired after December
31, 1996, for purposes of determining gain or
loss.’’
(c) EFFECTIVE DATE.—
(1) IN GENERAL.—The amendments made by
this section shall apply to the disposition of any
property the holding period of which begins after
December 31, 1996.
(2) CERTAIN TRANSACTIONS BETWEEN RELAT-
ED PERSONS.—The amendments made by this sec-
tion shall not apply to the disposition of any prop-
erty acquired after December 31, 1996, from a re-
lated person (as defined in section 1022(g)(2) of the
Internal Revenue Code of 1986, as added by this
section) if—
(A) such property was so acquired for a
price less than the property’s fair market value,
and
(B) the amendments made by this section
did not apply to such property in the hands of
such related person.
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(d) ELECTION TO RECOGNIZE GAIN
ON ASSETS
HELD ON JANUARY 1, 1997.—For purposes of the Inter-
nal Revenue Code of 1986—
(1) IN
GENERAL.—A taxpayer may elect to
treat—
(A) any readily tradable stock (which is an
indexed asset) held by such taxpayer on Janu-
ary 1, 1997, and not sold before the next busi-
ness day after such date, as having been sold
on such next business day for an amount equal
to its closing market price on such next busi-
ness day (and as having been reacquired on
such next business day for an amount equal to
such closing market price), and
(B) any other indexed asset held by the
taxpayer on January 1, 1997, as having been
sold on such date for an amount equal to its
fair market value on such date (and as having
been reacquired on such date for an amount
equal to such fair market value).
(2) TREATMENT OF GAIN OR LOSS.—
(A) Any gain resulting from an election
under paragraph (1) shall be treated as received
or accrued on the date the asset is treated as
sold under paragraph (1) and shall be recog-
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nized notwithstanding any provision of the In-
ternal Revenue Code of 1986.
(B) Any loss resulting from an election
under paragraph (1) shall not be allowed for
any taxable year.
(3) ELECTION.—An election under paragraph
(1) shall be made in such manner as the Secretary
may prescribe and shall specify the assets for which
such election is made. Such an election, once made
with respect to any asset, shall be irrevocable.
(4) READILY TRADABLE STOCK.—For purposes
of this subsection, the term ‘‘readily tradable stock’’
means any stock which, as of January 1, 1997, is
readily tradable on an established securities market
or otherwise.
(e) TREATMENT OF PRINCIPAL RESIDENCES.—Prop-
erty held and used by the taxpayer on January 1, 1997,
as his principal residence (within the meaning of section
1034 of the Internal Revenue Code of 1986) shall be treat-
ed—
(1) for purposes of subsection (c)(1) of this sec-
tion and section 1022 of such Code, as having a
holding period which begins on January 1, 1997,
and
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(2) for purposes of section 1022(c)(2)(B)(ii) of
such Code, as having been acquired on January 1,
1997.
Subsection (d) shall not apply to property to which this
subsection applies.
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