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108th Congress 
 1st Session            HOUSE OF REPRESENTATIVES                 Report
                                                                108-126
_______________________________________________________________________
 
         JOBS AND GROWTH TAX RELIEF RECONCILIATION ACT OF 2003

                               __________

                           CONFERENCE REPORT

                              TO ACCOMPANY

                                 H.R. 2




                  May 22, 2003.--Ordered to be printed











                            C O N T E N T S

                              ----------                              
                                                                   Page
  I. Acceleration of Certain Previously Enacted Tax Reductions.......19
          A. Accelerate the Increase in the Child Tax Credit 
              (sec. 101 of the House bill, sec. 106 of the Senate 
              amendment, and sec. 240 of the Code)...............    19
          B. Accelerate Marriage Penalty Relief (secs. 102 and 
              103 of the House bill, secs. 104 and 105 of the 
              Senate amendment and secs. 1 and 63 of the Code)...    21
              1. Standard deduction marriage penalty relief......    21
              2. Accelerate the expansion of the 15-percent rate 
                  bracket for married couples filing joint 
                  returns........................................    23
          C. Accelerate Reductions in Individual Income Tax Rates 
              (secs. 101, 102 and 103 of the House bill, secs. 
              101, 102 and 103 of the Senate amendment, and secs. 
              1, and 55 of the Code).............................    25
 II.  Depreciation and Expensing Provisions..........................30
          A. Special Depreciation Allowance for Certain Property 
              (sec. 201 of the House bill and sec. 168 of the 
              Code)..............................................    30
          B. Increase Section 179 Expensing (sec. 202 of the 
              House bill, sec. 107 of the Senate amendment, and 
              sec. 179 of the Code)..............................    34
          C. Five-Year Carryback of Net Operating Losses (sec. 
              203 of the House bill and secs. 172 and 56 of the 
              Code)..............................................    35
III. Capital Gains and Dividends Provisions..........................37
          A. Reduce Individual Capital Gains Rates (sec. 301 of 
              the House Bill and sec. 1(h) of the Code)..........    37
          B. Treatment of Dividend Income of Individuals (sec. 
              302 of the House bill, sec. 201 of the Senate 
              amendment, and sec. 1(h) of the Code)..............    39
 IV. Corporate Estimated Taxes.......................................43
          A. Modification to Corporate Estimated Tax Requirements 
              (sec. 401 of the House bill).......................    43
  V. Revenue Provisions..............................................44
          A. Provisions Designed To Curtail Tax Shelters.........    44
               1. Clarification of the economic substance 
                  doctrine (sec. 301 of the Senate amendment and 
                  sec. 7701 of the Code).........................    44
               2. Penalty for failure to disclose reportable 
                  transactions (sec. 302 of the Senate amendment 
                  and sec. 6707A of the Code)....................    49
               3. Modifications to the accuracy-related penalties 
                  for listed transactions and reportable 
                  transactions having a significant tax avoidance 
                  purpose (sec. 303 of the Senate amendment and 
                  sec. 6662A of the Code)........................    52
               4. Penalty for understatements from transactions 
                  lacking economic substance (sec. 304 of the 
                  Senate amendment and sec. 6662B of the Code)...    56
               5. Modifications to the substantial understatement 
                  penalty (sec. 305 of the Senate amendment and 
                  sec. 6662 of the Code).........................    58
               6. Tax shelter exception to confidentiality 
                  privileges relating to taxpayer communications 
                  (sec. 306 of the Senate amendment and sec. 7525 
                  of the Code)...................................    59
               7. Disclosure of reportable transactions by 
                  material advisors (secs. 307 and 308 of the 
                  Senate amendment and secs. 6111 and 6707 of the 
                  Code)..........................................    60
               8. Investor lists and modification of penalty for 
                  failure to maintain investor lists (secs. 307 
                  and 309 of the Senate amendment and secs. 6112 
                  and 6708 of the Code)..........................    63
               9. Actions to enjoin conduct with respect to tax 
                  shelters and reportable transactions (sec. 310 
                  of the Senate amendment and sec. 7408 of the 
                  Code)..........................................    65
              10. Understatement of taxpayer's liability by 
                  income tax return preparer (sec. 311 of the 
                  Senate amendment and sec. 6694 of the Code)....    66
              11. Penalty for failure to report interests in 
                  foreign financial accounts (sec. 312 of the 
                  Senate amendment and sec. 5321 of Title 31, 
                  United States Code)............................    66
              12. Frivolous tax returns and submissions (sec. 313 
                  of the Senate amendment and sec. 6702 of the 
                  Code)..........................................    67
              13. Penalties on promoters of tax shelters (sec. 
                  314 of the Senate amendment and sec. 6700 of 
                  the Code)......................................    68
              14. Extend statute of limitations for certain 
                  undisclosed transactions (sec. 315 of the 
                  Senate amendment and sec. 6501 of the Code)....    69
              15. Deny deduction for interest paid to IRS on 
                  underpayments involving certain tax-motivated 
                  transactions (sec. 316 of the Senate amendment 
                  and sec. 163 of the Code)......................    70
          B. Enron-Related Tax Shelter Related Provisions........    71
               1. Limitation on transfer and importation of 
                  built-in losses (sec. 321 of the Senate 
                  amendment and secs. 362 and 334 of the Code)...    71
               2. No reduction of basis under section 734 in 
                  stock held by partnership in corporate partner 
                  (sec. 322 of the Senate amendment and sec. 755 
                  of the Code)...................................    72
               3. Repeal of special rules for FASITs (sec. 323 of 
                  the Senate amendment and secs. 860H through 
                  860L of the Code)..............................    74
               4. Expanded disallowance of deduction for interest 
                  on convertible debt (sec. 324 of the Senate 
                  amendment and sec. 163 of the Code)............    77
               5. Expanded authority to disallow tax benefits 
                  under section 269 (sec. 325 of the Senate 
                  amendment and sec. 269 of the Code)............    78
              6. Modification of controlled foreign corporation--
                  passive foreign investment company coordination 
                  rules (sec. 326 of the Senate amendment and 
                  sec. 1297 of the Code).........................    79
              7. Modify treatment of closely-held REITs (sec. 327 
                  of the Senate amendment and sec. 856 of the 
                  Code)..........................................    82
          C. Other Corporate Governance Provisions...............    83
              1. Affirmation of consolidated return regulation 
                  authority (sec. 331 of the Senate amendment and 
                  sec. 1502 of the Code).........................    83
              2. Chief Executive Officer required to sign 
                  corporate income tax returns (sec. 332 of the 
                  Senate amendment and sec. 6062 of the Code)....    87
              3. Denial of deduction for certain fines, 
                  penalties, and other amounts (sec. 333 of the 
                  Senate amendment and sec. 162 of the Code).....    88
              4. Denial of deduction for punitive damages (sec. 
                  334 of the Senate amendment and sec. 162 of the 
                  Code)..........................................    90
              5. Criminal tax fraud (sec. 335 of the Senate 
                  amendment and secs. 7201, 7203, and 7206 of the 
                  Code)..........................................    90
              6. Executive compensation reforms (sec. 336, 337 
                  and 338 of the Senate amendment and sec. 83 and 
                  new sec. 409A of the Code).....................    92
              7. Increase in withholding from supplemental wage 
                  payments in excess of $1 million (sec. 339 of 
                  the Senate amendment and sec. 13273 of the 
                  Revenue Reconciliation Act of 1993)............    98
          D. International Provisions............................    99
              1. Impose mark-to-market on individuals who 
                  expatriate (sec. 340 of the Senate amendment 
                  and secs. 102, 877, 2107, 2501, 7701 and 6039G 
                  of the Code)...................................    99
              2. Provisions to discourage corporate expatriation 
                  (secs. 341-343 of the Senate amendment and 
                  secs. 845(a) and 275(a) and new secs. 7874 and 
                  5000A of the Code).............................   110
              3. Doubling of certain penalties, fines, and 
                  interest on underpayments related to certain 
                  offshore financial arrangements (sec. 344 of 
                  the Senate amendment)..........................   121
              4. Effectively connected income to include certain 
                  foreign source income (sec. 345 of the Senate 
                  amendment and sec. 864 of the Code)............   124
              5. Determination of basis amounts paid from foreign 
                  pension plans (sec. 346 of the Senate amendment 
                  and sec. 72 of the Code).......................   127
              6. Recapture of overall foreign losses on sale of 
                  controlled foreign corporation stock (sec. 347 
                  of the Senate amendment and sec. 904 of the 
                  Code)..........................................   128
              7. Prevention of mismatching of interest and 
                  original issue discount deductions and income 
                  inclusions in transactions with related foreign 
                  persons (sec. 348 of the Senate amendment and 
                  secs. 163 and 267 of the Code).................   130
              8. Sale of gasoline and diesel fuel at duty-free 
                  sales enterprises (sec. 349 of the Senate 
                  amendment).....................................   131
              9. Repeal of earned income exclusion for citizens 
                  or residents living abroad (sec. 350 of the 
                  Senate amendment and sec. 911 of the Code).....   132
          E. Other Revenue Provisions............................   133
               1. Extension of IRS user fees (sec. 351 of the 
                  Senate amendment and new sec. 7529 of the Code)   133
               2. Add vaccines against hepatitis A to the list of 
                  taxable vaccines (sec. 352 of the Senate 
                  amendment and sec. 4132 of the Code)...........   133
               3. Disallowance of certain partnership loss 
                  transfers (sec. 353 of the Senate amendment and 
                  secs. 704, 734, and 743 of the Code)...........   134
               4. Treatment of stripped bonds to apply to 
                  stripped interests in bond and preferred stock 
                  funds (sec. 354 of the Senate amendment and 
                  secs. 305 and 1286 of the Code)................   137
               5. Reporting of taxable mergers and acquisitions 
                  (sec. 355 of the Senate amendment and new sec. 
                  6043A of the Code).............................   140
               6 Minimum holding period for foreign tax credit 
                  with respect to withholding taxes on income 
                  other than dividends (sec. 356 of the Senate 
                  amendment and sec. 901 of the Code)............   141
               7. Qualified tax collection contracts (sec. 357 of 
                  the Senate amendment and new sec. 6306 of the 
                  Code)..........................................   142
               8. Extension of customs user fees (sec. 358 of the 
                  Senate amendment)..............................   144
               9. Modify qualification rules for tax-exempt 
                  property and casualty insurance companies (sec. 
                  359 of the Senate amendment and secs. 501 and 
                  831 of the Code)...............................   145
              10. Authorize IRS to enter into installment 
                  agreements that provide for partial payment 
                  (sec. 360 of the Senate amendment and sec. 6159 
                  of the Code)...................................   146
              11. Extend intangible amortization provisions to 
                  sports franchises (sec. 361 of the Senate 
                  amendment and sec. 197 of the Code)............   147
              12. Deposits made to suspend the running of 
                  interest on potential underpayments (sec. 362 
                  of the Senate amendment and new sec. 6603 of 
                  the Code)......................................   148
              13. Clarification of rules for payment of estimated 
                  tax for certain deemed asset sales (sec. 363 of 
                  the Senate amendment and sec. 338 of the Code).   151
              14. Limit deduction for charitable contributions of 
                  patents and similar property (sec. 364 of the 
                  Senate amendment and sec. 170 of the Code).....   152
              15. Extension of provision permitting qualified 
                  transfers of excess pension assets to retiree 
                  health accounts (sec. 365 of the Senate 
                  amendment, sec. 420 of the Code, and secs. 101, 
                  403, and 408 of ERISA).........................   153
              16. Proration rules for life insurance business of 
                  property and casualty insurance companies (sec. 
                  366 of the Senate amendment and sec. 832 of the 
                  Code)..........................................   155
              17. Modify treatment of transfers to creditors in 
                  divisive reorganizations (sec. 367 of the 
                  Senate amendment and secs. 357 and 361 of the 
                  Code)..........................................   157
              18. Taxation of minor children (sec. 368 of the 
                  Senate amendment and sec. 1 of the Code).......   158
              19. Provide consistent amortization period for 
                  intangibles (sec. 369 of the Senate amendment 
                  and secs. 195, 248, and 709 of the Code).......   161
              20. Clarify definition of nonqualified preferred 
                  stock (sec. 370 of the Senate amendment and 
                  sec. 351 of the Code)..........................   162
              21. Establish specific class lives for utility 
                  grading costs (sec. 371 of the Senate amendment 
                  and sec. 168 of the Code)......................   163
              22. Prohibition on nonrecognition of gain through 
                  complete liquidation of holding company (sec. 
                  372 of the Senate amendment and secs. 331 and 
                  332 of the Code)...............................   164
              23. Lease term to include certain service contracts 
                  (sec. 373 of the Senate amendment and sec. 168 
                  of the Code)...................................   166
              24. Exclusion of like-kind exchange property from 
                  nonrecognition treatment on the sale or 
                  exchange of a principal residence (sec. 374 of 
                  the Senate amendment and sec. 121 of the Code).   167
          F. Other Provisions....................................   167
              1. Temporary State and local fiscal relief (sec. 
                  381 of the Senate amendment)...................   167
              2. Review of State agency blindness and disability 
                  determinations (sec. 382 of the Senate 
                  amendment).....................................   168
              3. Prohibition on use of SCHIP funds to provide 
                  coverage for childless adults (sec. 383 of the 
                  Senate amendment)..............................   169
              4. Increase Medicaid payments to states with 
                  extremely low disproportionate share hospitals 
                  (sec. 384 of the Senate amendment).............   169
 VI. Small Business and Agricultural Provisions.....................170
          A. Small Business Provisions...........................   170
              1. Exclusion of certain indebtedness of small 
                  business investment companies from acquisition 
                  indebtedness (sec. 401 of the bill and sec. 514 
                  of the Code)...................................   170
              2. Repeal of occupational taxes relating to 
                  distilled spirits, wine, and beer (sec. 402 of 
                  the Senate amendment and secs. 5081, 5091, 
                  5111, 5121, 5131, and 5276 of the Code)........   171
              3. Custom gunsmiths (sec. 403 of the Senate 
                  amendment and sec. 4182 of the Code)...........   172
              4. Simplification of excise tax imposed on bows and 
                  arrows (sec. 404 of the Senate amendment and 
                  sec. 4161 of the Code).........................   172
          B. Agricultural Provisions.............................   173
              1. Capital gains treatment to apply to outright 
                  sales of timber by landowner (sec. 411 of the 
                  Senate Amendment and sec. 631 of the Code).....   173
              2. Special rules for livestock sold on account of 
                  weather-related conditions (sec. 412 of the 
                  Senate amendment and secs. 1033 and 451 of the 
                  Code)..........................................   174
              3. Exclusion from gross income for amounts paid 
                  under National Health Service Corps loan 
                  repayment program (sec. 413 of the Senate 
                  amendment and sec. 108 of the Code)............   175
              4. Payment of dividends on stock of cooperatives 
                  without reducing patronage dividends (sec. 414 
                  of the Senate amendment and sec. 1388 of the 
                  Code)..........................................   176
VII. Simplification and Other Provisions............................177
          A. Establish Uniform Definition of a Qualifying Child 
              (secs. 501 through 508 of the Senate amendment and 
              secs. 2, 21, 24, 32, 151, and 152 of the Code).....   177
          B. Other Simplification Provisions.....................   187
              1. Consolidation of life insurance and nonlife 
                  companies (sec. 511 of the Senate amendment and 
                  sec. 1504 of the Code).........................   187
              2. Suspension of reduction of deductions for mutual 
                  life insurance companies and of policyholder 
                  surplus accounts of life insurance companies 
                  (sec. 512 of the Senate amendment and secs. 809 
                  and 815 of the Code)...........................   188
              3. Section 355 ``active business test'' applied to 
                  chains of affiliated corporations (sec. 513 of 
                  the Senate amendment and sec. 355 of the Code).   191
          C. Other Provisions....................................   192
               1. Civil rights tax relief (sec. 521 of the Senate 
                  amendment and sec. 62 of the Code).............   192
               2. Increase section 382 limitation for certain 
                  corporations in bankruptcy (sec. 522 of the 
                  Senate amendment and sec. 382 of the Code).....   194
               3. Increase in historic rehabilitation credit for 
                  residential housing for the elderly (sec. 523 
                  of the Senate amendment and sec. 47 of the 
                  Code)..........................................   195
               4. Modification of application of income forecast 
                  method of depreciation (sec. 524 of the Senate 
                  amendment and sec. 167 of the Code)............   196
               5. Additional advance refunding of certain 
                  governmental bonds (sec. 525 of the Senate 
                  amendment and sec. 149 of the Code)............   198
               6. Exclusion of income derived from certain wagers 
                  on horse races from gross income of nonresident 
                  alien individuals (sec. 526 of the Senate 
                  amendment and sec. 872(b) of the Code).........   199
               7. Federal reimbursement of emergency health 
                  services furnished to undocumented aliens (sec. 
                  527 of the Senate amendment)...................   201
               8. Treatment of premiums for mortgage insurance 
                  (sec. 528 of the Senate amendment and sec. 163 
                  of the Code)...................................   201
               9. Sense of the Senate on repealing the 1993 tax 
                  hike on Social Security Benefits (sec. 529 of 
                  the Senate Amendment)..........................   202
              10. Flat tax (sec. 530 of the Senate amendment)....   203
              11. Temporary rate reduction for certain dividends 
                  received from controlled foreign corporations 
                  (sec. 531 of the Senate amendment and new sec. 
                  965 of the Code)...............................   203
              12. Repeal of ten-percent rehabilitation tax credit 
                  (sec. 531 of the Senate amendment and section 
                  47 of the Code)................................   205
              13. Income inclusion for certain delinquent child 
                  support (sec. 532 of the Senate amendment and 
                  sec. 166 of the Code)..........................   206
              14. Sense of the Senate regarding the low-income 
                  housing tax credit (sec. 533 of the Senate 
                  amendment).....................................   207
              15. Expensing of investment in broadband equipment 
                  (sec. 534 of the Senate amendment and new sec. 
                  191 of the Code)...............................   207
              16. Income tax credit for cost of carrying tax-paid 
                  distilled spirits in wholesale inventories and 
                  in control State bailment warehouses (sec. 535 
                  of the Senate amendment and new sec. 5011 of 
                  the Code)......................................   209
              17. Contribution in aid of construction (sec. 536 
                  of the Senate amendment and sec. 118 of the 
                  Code)..........................................   210
              18. Travel expenses for spouses (sec. 537 of the 
                  Senate amendment and sec. 274 of the Code).....   211
              19. Certain sightseeing flights exempt from taxes 
                  on air transportation (sec. 538 of the Senate 
                  amendment and sec. 4281 of the Code)...........   212
              20. Required coverage for reconstructive surgery 
                  following mastectomies (sec. 539 of the Senate 
                  amendment and new sec. 9813 of the Code).......   212
              21. Renewal community modifications (secs. 540 and 
                  541 of the Senate amendment and secs. 1400E and 
                  1400H of the Code).............................   215
              22. Combat zone expansions (secs. 542 and 543 of 
                  the Senate amendment and sec. 112 of the Code).   217
              23. Ratable income inclusion for citrus canker tree 
                  payments (sec. 544 of the Senate amendment and 
                  sec. 451 and 1033 of the Code).................   217
              24. Exclusion of certain punitive damage awards 
                  (sec. 545 of the Senate amendment and sec. 104 
                  of the Code)...................................   219
              25. Repeal of pre-1997 tax on certain imported 
                  recycled halons (sec. 546 of the Senate 
                  amendment and sec. 4682 of the Code)...........   219
              26. Modification of involuntary conversion rules 
                  for businesses affected by the September 11, 
                  2001 terrorist attacks (sec. 547 of the Senate 
                  amendment and sec. 1400L of the Code)..........   220
          D. Medicare Provisions (secs. 561-576 of the Senate 
              amendment).........................................   221
          E. Provisions Relating to S Corporations (secs. 581-594 
              of the Senate amendment and sections 1361-1379 of 
              the Code)..........................................   225
              1. Shareholders of an S corporation................   225
              2. Termination of election and additions to tax due 
                  to passive investment income...................   226
              3. Treatment of S corporation shareholders.........   226
              4. Provisions relating to banks....................   228
              5. Qualified subchapter S subsidiaries.............   230
              6. Elimination of all earnings and profits 
                  attributable to pre-1983 years.................   231
VIII.Blue Ribbon Commission on Comprehensive Tax Reform (Secs. 601-607 
     of the Senate Amendment).......................................231
 IX. REIT Provisions................................................233
          A. REIT Modification Provisions (secs. 701-707 of the 
              Senate amendment and secs. 856 and 857 of the Code)   233
          B. REIT Savings Provisions (sec. 711 of the Senate 
              amendment and secs. 856, 857 and 860 of the Code)..   242
  X. Extension of Certain Expiring Provisions.......................244
          A. Tax on Failure To Comply with Mental Health Parity 
              Requirements (sec. 801 of the Senate amendment and 
              sec. 9812 of the Code).............................   244
          B. Extend Alternative Minimum Tax Relief for 
              Individuals (sec. 802 of the Senate amendment and 
              sec. 26 of the Code)...............................   245
          C. Extension of Electricity Production Credit for 
              Electricity Produced from Certain Renewable 
              Resources (sec. 803 of the Senate amendment and 
              sec. 45 of the Code................................   246
          D. Extend the Work Opportunity Tax Credit (sec. 804 of 
              the Senate amendment and sec. 51 of the Code)......   247
          E. Extend the Welfare-To-Work Tax Credit (sec. 805 of 
              the Senate amendment and sec. 51A of the Code).....   248
          F. Taxable Income Limit on Percentage Depletion for Oil 
              and Natural Gas Produced from Marginal Properties 
              (sec. 806 of the Senate amendment and sec. 613A of 
              the Code)..........................................   249
          G. Qualified Zone Academy Bonds (sec. 807 of the Senate 
              amendment and sec. 1397E of the Code)..............   250
          H. Cover Over of Tax on Distilled Spirits (sec. 808 of 
              the Senate amendment and sec. 7652(e) of the Code).   252
          I. Extend Deduction for Corporate Donations of Computer 
              Technology (sec. 809 of the Senate amendment and 
              sec. 170 of the Code)..............................   252
          J. Extension of Credit for Electric Vehicles (sec. 810 
              of the Senate amendment and sec. 30 of the Code)...   254
          K. Extension of Deduction for Clean-Fuel Vehicles and 
              Clean-Fuel Vehicle Refueling Property (sec. 811 of 
              the Senate amendment and sec. 179A of the Code)....   254
          L. Adjusted Gross Income Determined by Taking into 
              Account Certain Expenses of Elementary and 
              Secondary School Teachers (sec. 812 of the Senate 
              amendment and sec. 62 of the Code).................   255
          M. Extend Archer Medical Savings Accounts (``MSAs'') 
              (sec. 813 of the Senate amendment and sec. 220 of 
              the Code)..........................................   256
          N. Extension of Expensing of Brownfield Remediation 
              Expenses (sec. 814 of the Senate amendment and sec. 
              198 of the Code)...................................   258
 XI. Improving Tax Equity for Military Personnel....................259
          A. Exclusion of Gain on Sale of a Principal Residence 
              by a Member of the Uniformed Services or the 
              Foreign Service (sec. 901 of the Senate amendment 
              and sec. 121 of the Code)..........................   259
          B. Exclusion from Gross Income of Certain Death 
              Gratuity Payments (sec. 902 of the Senate amendment 
              and sec. 134 of the Code)..........................   260
          C. Exclusion for Amounts Received Under Department of 
              Defense Homeowners Assistance Program (sec. 903 of 
              the Senate amendment and sec. 132 of the Code).....   261
          D. Expansion of Combat Zone Filing Rules to Contingency 
              Operations (sec. 94 of the Senate amendment and 
              sec. 7508 of the Code).............................   262
          E. Modification of Membership Requirement for Exemption 
              from Tax for Certain Veterans' Organizations (sec. 
              905 of the Senate amendment and sec. 501 of the 
              Code)..............................................   264
          F. Clarification of Treatment of Certain Dependent Care 
              Assistance Programs Provided to Members of the 
              Uniformed Services of the United States (sec. 906 
              of the Senate amendment and sec. 134 of the Code)..   265
          G. Treatment of Service Academy Appointments as 
              Scholarships for Purposes of Qualified Tuition 
              Programs and Coverdell Education Savings Accounts 
              (sec. 907 of the Senate amendment and secs. 529 and 
              530 of the Code)...................................   266
          H. Suspension of Tax-Exempt Status of Designated 
              Terrorist Organizations (sec. 908 of the Senate 
              amendment and sec. 501 of the Code)................   267
          I. Above-the-Line Deduction for Overnight Travel 
              Expenses of National Guard and Reserve Members 
              (sec. 909 of the Senate amendment and sec. 162 of 
              the Code)..........................................   269
          J. Extension of Certain Tax Relief Provisions to 
              Astronauts (sec. 910 of the Senate amendment and 
              secs. 101, 692, and 2201 of the Code)..............   270
XII. Sunset Provision...............................................273
          A. Termination of Certain Provisions (sec. 1001 of the 
              Senate amendment)..................................   273
XIII.Tax Complexity Analysis........................................274












108th Congress                                                   Report
                        HOUSE OF REPRESENTATIVES
 1st Session                                                    108-126
======================================================================

                       JOBS AND GROWTH TAX RELIEF
                       RECONCILIATION ACT OF 2003

                                _______
                                

                  May 22, 2003.--Ordered to be printed

                                _______
                                

 Mr. Thomas, from the committee on conference, submitted the following

                           CONFERENCE REPORT

                         [To accompany H.R. 2]

      The committee of conference on the disagreeing votes of 
the two Houses on the amendment of the Senate to the bill (H.R. 
2), to provide for reconciliation pursuant to section 201 of 
the concurrent resolution on the budget for fiscal year 2004, 
having met, after full and free conference, have agreed to 
recommend and do recommend to their respective Houses as 
follows:
      That the House recede from its disagreement to the 
amendment of the Senate and agree to the same with an amendment 
as follows:
      In lieu of the matter proposed to be inserted by the 
Senate amendment, insert the following:

SECTION 1. SHORT TITLE; REFERENCES; TABLE OF CONTENTS.

    (a) Short Title.--This Act may be cited as the ``Jobs and 
Growth Tax Relief Reconciliation Act of 2003''.
    (b) Amendment of 1986 Code.--Except as otherwise expressly 
provided, whenever in this Act an amendment or repeal is 
expressed in terms of an amendment to, or repeal of, a section 
or other provision, the reference shall be considered to be 
made to a section or other provision of the Internal Revenue 
Code of 1986.
    (c) Table of Contents.--The table of contents of this Act 
is as follows:

Sec. 1. Short title; references; table of contents.

   TITLE I--ACCELERATION OF CERTAIN PREVIOUSLY ENACTED TAX REDUCTIONS

Sec. 101. Acceleration of increase in child tax credit.
Sec. 102. Acceleration of 15-percent individual income tax rate bracket 
          expansion for married taxpayers filing joint returns.
Sec. 103. Acceleration of increase in standard deduction for married 
          taxpayers filing joint returns.
Sec. 104. Acceleration of 10-percent individual income tax rate bracket 
          expansion.
Sec. 105. Acceleration of reduction in individual income tax rates.
Sec. 106. Minimum tax relief to individuals.
Sec. 107. Application of EGTRRA sunset to this title.

                TITLE II--GROWTH INCENTIVES FOR BUSINESS

Sec. 201. Increase and extension of bonus depreciation.
Sec. 202. Increased expensing for small business.

      TITLE III--REDUCTION IN TAXES ON DIVIDENDS AND CAPITAL GAINS

Sec. 301. Reduction in capital gains rates for individuals; repeal of 5-
          year holding period requirement.
Sec. 302. Dividends of individuals taxed at capital gain rates.
Sec. 303. Sunset of title.

                 TITLE IV--TEMPORARY STATE FISCAL RELIEF

Sec. 401. Temporary State fiscal relief.

           TITLE V--CORPORATE ESTIMATED TAX PAYMENTS FOR 2003

Sec. 501. Time for payment of corporate estimated taxes.

   TITLE I--ACCELERATION OF CERTAIN PREVIOUSLY ENACTED TAX REDUCTIONS

SEC. 101. ACCELERATION OF INCREASE IN CHILD TAX CREDIT.

    (a) In General.--The item relating to calendar years 2001 
through 2004 in the table contained in paragraph (2) of section 
24(a) (relating to per child amount) is amended to read as 
follows:

    ``2003 or 2004............................................ $1,000''.

    (b) Advance Payment of Portion of Increased Credit in 
2003.--
            (1) In general.--Subchapter B of chapter 65 
        (relating to abatements, credits, and refunds) is 
        amended by inserting after section 6428 the following 
        new section:

``SEC. 6429. ADVANCE PAYMENT OF PORTION OF INCREASED CHILD CREDIT FOR 
                    2003.

    ``(a) In General.--Each taxpayer who was allowed a credit 
under section 24 on the return for the taxpayer's first taxable 
year beginning in 2002 shall be treated as having made a 
payment against the tax imposed by chapter 1 for such taxable 
year in an amount equal to the child tax credit refund amount 
(if any) for such taxable year.
    ``(b) Child Tax Credit Refund Amount.--For purposes of this 
section, the child tax credit refund amount is the amount by 
which the aggregate credits allowed under part IV of subchapter 
A of chapter 1 for such first taxable year would have been 
increased if--
            ``(1) the per child amount under section 24(a)(2) 
        for such year were $1,000,
            ``(2) only qualifying children (as defined in 
        section 24(c)) of the taxpayer for such year who had 
        not attained age 17 as of December 31, 2003, were taken 
        into account, and
            ``(3) section 24(d)(1)(B)(ii) did not apply.
    ``(c) Timing of Payments.--In the case of any overpayment 
attributable to this section, the Secretary shall, subject to 
the provisions of this title, refund or credit such overpayment 
as rapidly as possible and, to the extent practicable, before 
October 1, 2003. No refund or credit shall be made or allowed 
under this section after December 31, 2003.
    ``(d) Coordination With Child Tax Credit.--
            ``(1) In general.--The amount of credit which would 
        (but for this subsection and section 26) be allowed 
        under section 24 for the taxpayer's first taxable year 
        beginning in 2003 shall be reduced (but not below zero) 
        by the payments made to the taxpayer under this 
        section. Any failure to so reduce the credit shall be 
        treated as arising out of a mathematical or clerical 
        error and assessed according to section 6213(b)(1).
            ``(2) Joint returns.--In the case of a payment 
        under this section with respect to a joint return, half 
        of such payment shall be treated as having been made to 
        each individual filing such return.
    ``(e) No Interest.--No interest shall be allowed on any 
overpayment attributable to this section.''.
            (2) Clerical amendment.--The table of sections for 
        subchapter B of chapter 65 is amended by adding at the 
        end the following new item:

        ``Sec. 6429. Advance payment of portion of increased child 
                  credit for 2003.''.

    (c) Effective Dates.--
            (1) In general.--Except as provided in paragraph 
        (2), the amendments made by this section shall apply to 
        taxable years beginning after December 31, 2002.
            (2) Subsection (b).--The amendments made by 
        subsection (b) shall take effect on the date of the 
        enactment of this Act.

SEC. 102. ACCELERATION OF 15-PERCENT INDIVIDUAL INCOME TAX RATE BRACKET 
                    EXPANSION FOR MARRIED TAXPAYERS FILING JOINT 
                    RETURNS.

    (a) In General.--The table contained in subparagraph (B) of 
section 1(f )(8) (relating to applicable percentage) is amended 
by inserting before the item relating to 2005 the following new 
item:

            ``2003 and 2004...................................    200''.

    (b) Conforming Amendments.--
            (1) Section 1(f)(8)(A) is amended by striking 
        ``2004'' and inserting ``2002''.
            (2) Section 302(c) of the Economic Growth and Tax 
        Relief Reconciliation Act of 2001 is amended by 
        striking ``2004'' and inserting ``2002''.
    (c) Effective Date.--The amendments made by this section 
shall apply to taxable years beginning after December 31, 2002.

SEC. 103. ACCELERATION OF INCREASE IN STANDARD DEDUCTION FOR MARRIED 
                    TAXPAYERS FILING JOINT RETURNS.

    (a) In General.--The table contained in paragraph (7) of 
section 63(c) (relating to applicable percentage) is amended by 
inserting before the item relating to 2005 the following new 
item:

            ``2003 and 2004...................................    200''.

    (b) Conforming Amendment.--Section 301(d) of the Economic 
Growth and Tax Relief Reconciliation Act of 2001 is amended by 
striking ``2004'' and inserting ``2002''.
    (c) Effective Date.--The amendments made by this section 
shall apply to taxable years beginning after December 31, 2002.

SEC. 104. ACCELERATION OF 10-PERCENT INDIVIDUAL INCOME TAX RATE BRACKET 
                    EXPANSION.

    (a) In General.--Clause (i) of section 1(i)(1)(B) (relating 
to the initial bracket amount) is amended by striking 
``($12,000 in the case of taxable years beginning before 
January 1, 2008)'' and inserting ``($12,000 in the case of 
taxable years beginning after December 31, 2004, and before 
January 1, 2008)''.
    (b) Inflation Adjustment.--Subparagraph (C) of section 
1(i)(1) is amended to read as follows:
                    ``(C) Inflation adjustment.--In prescribing 
                the tables under subsection (f) which apply 
                with respect to taxable years beginning in 
                calendar years after 2000--
                            ``(i) except as provided in clause 
                        (ii), the Secretary shall make no 
                        adjustment to the initial bracket 
                        amounts for any taxable year beginning 
                        before January 1, 2009,
                            ``(ii) there shall be an adjustment 
                        under subsection (f) of such amounts 
                        which shall apply only to taxable years 
                        beginning in 2004, and such adjustment 
                        shall be determined under subsection 
                        (f)(3) by substituting `2002' for 
                        `1992' in subparagraph (B) thereof,
                            ``(iii) the cost-of-living 
                        adjustment used in making adjustments 
                        to the initial bracket amounts for any 
                        taxable year beginning after December 
                        31, 2008, shall be determined under 
                        subsection (f)(3) by substituting 
                        `2007' for `1992' in subparagraph (B) 
                        thereof, and
                            ``(iv) the adjustments under 
                        clauses (ii) and (iii) shall not apply 
                        to the amount referred to in 
                        subparagraph (B)(iii).
                If any amount after adjustment under the 
                preceding sentence is not a multiple of $50, 
                such amount shall be rounded to the next lowest 
                multiple of $50.''.
    (c) Effective Date.--
            (1) In general.--The amendments made by this 
        section shall apply to taxable years beginning after 
        December 31, 2002.
            (2) Tables for 2003.--The Secretary of the Treasury 
        shall modify each table which has been prescribed under 
        section 1(f) of the Internal Revenue Code of 1986 for 
        taxable years beginning in 2003 and which relates to 
        the amendment made by subsection (a) to reflect such 
        amendment.

SEC. 105. ACCELERATION OF REDUCTION IN INDIVIDUAL INCOME TAX RATES.

    (a) In General.--The table contained in paragraph (2) of 
section 1(i) (relating to reductions in rates after June 30, 
2001) is amended to read as follows:


------------------------------------------------------------------------
                                     The corresponding percentages shall
                                      be substituted for the following
  ``In the case of taxable years                percentages:
  beginning during calendar year:  -------------------------------------
                                      28%      31%      36%      39.6%
------------------------------------------------------------------------
2001..............................    27.5%    30.5%    35.5%      39.1%
2002..............................    27.0%    30.0%    35.0%      38.6%
2003 and thereafter...............    25.0%    28.0%    33.0%   35.0%''.
------------------------------------------------------------------------

    (b) Effective Date.--The amendment made by this section 
shall apply to taxable years beginning after December 31, 2002.

SEC. 106. MINIMUM TAX RELIEF TO INDIVIDUALS.

    (a) In General.--
            (1) Subparagraph (A) of section 55(d)(1) is amended 
        by striking ``$49,000 in the case of taxable years 
        beginning in 2001, 2002, 2003, and 2004'' and inserting 
        ``$58,000 in the case of taxable years beginning in 
        2003 and 2004''.
            (2) Subparagraph (B) of section 55(d)(1) is amended 
        by striking ``$35,750 in the case of taxable years 
        beginning in 2001, 2002, 2003, and 2004'' and inserting 
        ``$40,250 in the case of taxable years beginning in 
        2003 and 2004''.
    (b) Effective Date.--The amendments made by subsection (a) 
shall apply to taxable years beginning after December 31, 2002.

SEC. 107. APPLICATION OF EGTRRA SUNSET TO THIS TITLE.

    Each amendment made by this title shall be subject to title 
IX of the Economic Growth and Tax Relief Reconciliation Act of 
2001 to the same extent and in the same manner as the provision 
of such Act to which such amendment relates.

                TITLE II--GROWTH INCENTIVES FOR BUSINESS

SEC. 201. INCREASE AND EXTENSION OF BONUS DEPRECIATION.

    (a) In General.--Section 168(k) (relating to special 
allowance for certain property acquired after September 10, 
2001, and before September 11, 2004) is amended by adding at 
the end the following new paragraph:
            ``(4) 50-percent bonus depreciation for certain 
        property.--
                    ``(A) In general.--In the case of 50-
                percent bonus depreciation property--
                            ``(i) paragraph (1)(A) shall be 
                        applied by substituting `50 percent' 
                        for `30 percent', and
                            ``(ii) except as provided in 
                        paragraph (2)(C), such property shall 
                        be treated as qualified property for 
                        purposes of this subsection.
                    ``(B) 50-percent bonus depreciation 
                property.--For purposes of this subsection, the 
                term `50-percent bonus depreciation property' 
                means property described in paragraph 
                (2)(A)(i)--
                            ``(i) the original use of which 
                        commences with the taxpayer after May 
                        5, 2003,
                            ``(ii) which is acquired by the 
                        taxpayer after May 5, 2003, and before 
                        January 1, 2005, but only if no written 
                        binding contract for the acquisition 
                        was in effect before May 6, 2003, and
                            ``(iii) which is placed in service 
                        by the taxpayer before January 1, 2005, 
                        or, in the case of property described 
                        in paragraph (2)(B) (as modified by 
                        subparagraph (C) of this paragraph), 
                        before January 1, 2006.
                    ``(C) Special rules.--Rules similar to the 
                rules of subparagraphs (B) and (D) of paragraph 
                (2) shall apply for purposes of this paragraph; 
                except that references to September 10, 2001, 
                shall be treated as references to May 5, 2003.
                    ``(D) Automobiles.--Paragraph (2)(E) shall 
                be applied by substituting `$7,650' for 
                `$4,600' in the case of 50-percent bonus 
                depreciation property.
                    ``(E) Election of 30-percent bonus.--If a 
                taxpayer makes an election under this 
                subparagraph with respect to any class of 
                property for any taxable year, subparagraph 
                (A)(i) shall not apply to all property in such 
                class placed in service during such taxable 
                year.''.
     (b) Extension of Certain Dates for 30-Percent Bonus 
Depreciation Property.--
            (1) Portion of basis taken into account.--
                    (A) Subparagraphs (B)(ii) and (D)(i) of 
                section 168(k)(2) are each amended by striking 
                ``September 11, 2004'' each place it appears in 
                the text and inserting ``January 1, 2005''.
                    (B) Clause (ii) of section 168(k)(2)(B) is 
                amended by striking ``pre-september 11, 2004'' 
                in the heading and inserting ``pre-january 1, 
                2005''.
            (2) Acquisition date.--Clause (iii) of section 
        168(k)(2)(A) is amended by striking ``September 11, 
        2004'' each place it appears and inserting ``January 1, 
        2005''.
            (3) Election.--Clause (iii) of section 168(k)(2)(C) 
        is amended by adding at the end the following: ``The 
        preceding sentence shall be applied separately with 
        respect to property treated as qualified property by 
        paragraph (4) and other qualified property.''.
    (c) Conforming Amendments.--
            (1) The subsection heading for section 168(k) is 
        amended by striking ``September 11, 2004'' and 
        inserting ``January 1, 2005''.
            (2) The heading for clause (i) of section 
        1400L(b)(2)(C) is amended by striking ``30-percent 
        additional allowance property'' and inserting ``Bonus 
        depreciation property under section 168(k)''.
    (d) Effective Date.--The amendments made by this section 
shall apply to taxable years ending after May 5, 2003.

SEC. 202. INCREASED EXPENSING FOR SMALL BUSINESS.

    (a) In General.--Paragraph (1) of section 179(b) (relating 
to dollar limitation) is amended to read as follows:
            ``(1) Dollar limitation.--The aggregate cost which 
        may be taken into account under subsection (a) for any 
        taxable year shall not exceed $25,000 ($100,000 in the 
        case of taxable years beginning after 2002 and before 
        2006).''.
    (b) Increase in Qualifying Investment at Which Phaseout 
Begins.--Paragraph (2) of section 179(b) (relating to reduction 
in limitation) is amended by inserting ``($400,000 in the case 
of taxable years beginning after 2002 and before 2006)'' after 
``$200,000''.
    (c) Off-the-Shelf Computer Software.--Paragraph (1) of 
section 179(d) (defining section 179 property) is amended to 
read as follows:
            ``(1) Section 179 property.--For purposes of this 
        section, the term `section 179 property' means 
        property--
                    ``(A) which is--
                            ``(i) tangible property (to which 
                        section 168 applies), or
                            ``(ii) computer software (as 
                        defined in section 197(e)(3)(B)) which 
                        is described in section 
                        197(e)(3)(A)(i), to which section 167 
                        applies, and which is placed in service 
                        in a taxable year beginning after 2002 
                        and before 2006,
                    ``(B) which is section 1245 property (as 
                defined in section 1245(a)(3)), and
                    ``(C) which is acquired by purchase for use 
                in the active conduct of a trade or business.
        Such term shall not include any property described in 
        section 50(b) and shall not include air conditioning or 
        heating units.''.
    (d) Adjustment of Dollar Limit and Phaseout Threshold for 
Inflation.--Subsection (b) of section 179 (relating to 
limitations) is amended by adding at the end the following new 
paragraph:
            ``(5) Inflation adjustments.--
                    ``(A) In general.--In the case of any 
                taxable year beginning in a calendar year after 
                2003 and before 2006, the $100,000 and $400,000 
                amounts in paragraphs (1) and (2)shall each be 
increased by an amount equal to--
                            ``(i) such dollar amount, 
                        multiplied by
                            ``(ii) the cost-of-living 
                        adjustment determined under section 
                        1(f)(3) for the calendar year in which 
                        the taxable year begins, by 
                        substituting `calendar year 2002' for 
                        `calendar year 1992' in subparagraph 
                        (B) thereof.
                    ``(B) Rounding.--
                            ``(i) Dollar limitation.--If the 
                        amount in paragraph (1) as increased 
                        under subparagraph (A) is not a 
                        multiple of $1,000, such amount shall 
                        be rounded to the nearest multiple of 
                        $1,000.
                            ``(ii) Phaseout amount.--If the 
                        amount in paragraph (2) as increased 
                        under subparagraph (A) is not a 
                        multiple of $10,000, such amount shall 
                        be rounded to the nearest multiple of 
                        $10,000.''.
    (e) Revocation of Election.--Paragraph (2) of section 
179(c) (relating to election irrevocable) is amended by adding 
at the end the following new sentence: ``Any such election or 
specification with respect to any taxable year beginning after 
2002 and before 2006 may be revoked by the taxpayer with 
respect to any property, and such revocation, once made, shall 
be irrevocable.''.
    (f) Effective Date.--The amendments made by this section 
shall apply to taxable years beginning after December 31, 2002.

      TITLE III--REDUCTION IN TAXES ON DIVIDENDS AND CAPITAL GAINS

SEC. 301. REDUCTION IN CAPITAL GAINS RATES FOR INDIVIDUALS; REPEAL OF 
                    5-YEAR HOLDING PERIOD REQUIREMENT.

    (a) In General.--
            (1) Sections 1(h)(1)(B) and 55(b)(3)(B) are each 
        amended by striking ``10 percent'' and inserting ``5 
        percent (0 percent in the case of taxable years 
        beginning after 2007)''.
            (2) The following sections are each amended by 
        striking ``20 percent'' and inserting ``15 percent'':
                    (A) Section 1(h)(1)(C).
                    (B) Section 55(b)(3)(C).
                    (C) Section 1445(e)(1).
                    (D) The second sentence of section 
                7518(g)(6)(A).
                    (E) The second sentence of section 
                607(h)(6)(A) of the Merchant Marine Act, 1936.
    (b) Conforming Amendments.--
            (1) Section 1(h) is amended--
                    (A) by striking paragraphs (2) and (9),
                    (B) by redesignating paragraphs (3) through 
                (8) as paragraphs (2) through (7), 
                respectively, and
                    (C) by redesignating paragraphs (10), (11), 
                and (12) as paragraphs (8), (9), and (10), 
                respectively.
            (2) Paragraph (3) of section 55(b) is amended by 
        striking ``In the case of taxable years beginning after 
        December 31, 2000, rules similar to the rules of 
        section 1(h)(2) shall apply for purposes of 
        subparagraphs (B) and (C).''.
            (3) Paragraph (7) of section 57(a) is amended--
                    (A) by striking ``42 percent'' the first 
                place it appears and inserting ``7 percent'', 
                and
                    (B) by striking the last sentence.
    (c) Transitional Rules for Taxable Years Which Include May 
6, 2003.--For purposes of applying section 1(h) of the Internal 
Revenue Code of 1986 in the case of a taxable year which 
includes May 6, 2003--
            (1) The amount of tax determined under subparagraph 
        (B) of section 1(h)(1) of such Code shall be the sum 
        of--
                    (A) 5 percent of the lesser of--
                            (i) the net capital gain determined 
                        by taking into account only gain or 
                        loss properly taken into account for 
                        the portion of the taxable year on or 
                        after May 6, 2003 (determined without 
                        regard to collectibles gain or loss, 
                        gain described in section 1(h)(6)(A)(i) 
                        of such Code, and section 1202 gain), 
                        or
                            (ii) the amount on which a tax is 
                        determined under such subparagraph 
                        (without regard to this subsection),
                    (B) 8 percent of the lesser of--
                            (i) the qualified 5-year gain (as 
                        defined in section 1(h)(9) of the 
                        Internal Revenue Code of 1986, as in 
                        effect on the day before the date of 
                        the enactment of this Act) properly 
                        taken into account for the portion of 
                        the taxable year before May 6, 2003, or
                            (ii) the excess (if any) of--
                                    (I) the amount on which a 
                                tax is determined under such 
                                subparagraph (without regard to 
                                this subsection), over
                                    (II) the amount on which a 
                                tax is determined under 
                                subparagraph (A), plus
                    (C) 10 percent of the excess (if any) of--
                            (i) the amount on which a tax is 
                        determined under such subparagraph 
                        (without regard to this subsection), 
                        over
                            (ii) the sum of the amounts on 
                        which a tax is determined under 
                        subparagraphs (A) and (B).
            (2) The amount of tax determined under subparagraph 
        (C) of section (1)(h)(1) of such Code shall be the sum 
        of--
                    (A) 15 percent of the lesser of--
                            (i) the excess (if any) of the 
                        amount of net capital gain determined 
                        under subparagraph (A)(i) of paragraph 
                        (1) of this subsection over the amount 
                        on which a tax is determined under 
                        subparagraph (A) of paragraph (1) of 
                        this subsection, or
                            (ii) the amount on which a tax is 
                        determined under such subparagraph (C) 
                        (without regard to this subsection), 
                        plus
                    (B) 20 percent of the excess (if any) of--
                            (i) the amount on which a tax is 
                        determined under such subparagraph (C) 
                        (without regard to this subsection), 
                        over
                            (ii) the amount on which a tax is 
                        determined under subparagraph (A) of 
                        this paragraph.
            (3) For purposes of applying section 55(b)(3) of 
        such Code, rules similar to the rules of paragraphs (1) 
        and (2) of this subsection shall apply.
            (4) In applying this subsection with respect to any 
        pass-thru entity, the determination of when gains and 
        losses are properly taken into account shall be made at 
        the entity level.
            (5) For purposes of applying section 1(h)(11) of 
        such Code, as added by section 302 of this Act, to this 
        subsection, dividends which are qualified dividend 
        income shall be treated as gain properly taken into 
        account for the portion of the taxable year on or after 
        May 6, 2003.
            (6) Terms used in this subsection which are also 
        used in section 1(h) of such Code shall have the 
        respective meanings that such terms have in such 
        section.
    (d) Effective Dates.--
            (1) In general.--Except as otherwise provided by 
        this subsection, the amendments made by this section 
        shall apply to taxable years ending on or after May 6, 
        2003.
            (2) Withholding.--The amendment made by subsection 
        (a)(2)(C) shall apply to amounts paid after the date of 
        the enactment of this Act.
            (3) Small business stock.--The amendments made by 
        subsection (b)(3) shall apply to dispositions on or 
        after May 6, 2003.

SEC. 302. DIVIDENDS OF INDIVIDUALS TAXED AT CAPITAL GAIN RATES.

    (a) In General.--Section 1(h) (relating to maximum capital 
gains rate), as amended by section 301, is amended by adding at 
the end the following new paragraph:
            ``(11) Dividends taxed as net capital gain.--
                    ``(A) In general.--For purposes of this 
                subsection, the term `net capital gain' means 
                net capital gain (determined without regard to 
                this paragraph) increased by qualified dividend 
                income.
                    ``(B) Qualified dividend income.--For 
                purposes of this paragraph--
                            ``(i) In general.--The term 
                        `qualified dividend income' means 
                        dividends received during the taxable 
                        year from--
                                    ``(I) domestic 
                                corporations, and
                                    ``(II) qualified foreign 
                                corporations.
                            ``(ii) Certain dividends 
                        excluded.--Such term shall not 
                        include--
                                    ``(I) any dividend from a 
                                corporation which for the 
                                taxable year of the corporation 
                                in which the distribution is 
                                made, or the preceding taxable 
                                year, is a corporation exempt 
                                from tax under section 501 or 
                                521,
                                    ``(II) any amount allowed 
                                as a deduction under section 
                                591 (relating to deduction for 
                                dividends paid by mutual 
                                savings banks, etc.), and
                                    ``(III) any dividend 
                                described in section 404(k).
                            ``(iii) Coordination with section 
                        246(c).--Such term shall not include 
                        any dividend on any share of stock--
                                    ``(I) with respect to which 
                                the holding period requirements 
                                of section 246(c) are not met 
                                (determined by substituting in 
                                section 246(c)(1) `60 days' for 
                                `45 days' each place it appears 
                                and by substituting `120-day 
                                period' for `90-day period'), 
                                or
                                    ``(II) to the extent that 
                                the taxpayer is under an 
                                obligation (whether pursuant to 
                                a short sale or otherwise) to 
                                make related payments with 
                                respect to positions in 
                                substantially similar or 
                                related property.
                    ``(C) Qualified foreign corporations.--
                            ``(i) In general.--Except as 
                        otherwise provided in this paragraph, 
                        the term `qualified foreign 
                        corporation' means any foreign 
                        corporation if--
                                    ``(I) such corporation is 
                                incorporated in a possession of 
                                the United States, or
                                    ``(II) such corporation is 
                                eligible for benefits of a 
                                comprehensive income tax treaty 
                                with the United States which 
                                the Secretary determines is 
                                satisfactory for purposes of 
                                this paragraph and which 
                                includes an exchange of 
                                information program.
                            ``(ii) Dividends on stock readily 
                        tradable on united states securities 
                        market.--A foreign corporation not 
                        otherwise treated as a qualified 
                        foreign corporation under clause (i) 
                        shall be so treated with respect to any 
                        dividend paid by such corporation if 
                        the stock with respect to which such 
                        dividend is paid is readily tradable on 
                        an established securities market in the 
                        United States.
                            ``(iii) Exclusion of dividends of 
                        certain foreign corporations.--Such 
                        term shall not include any foreign 
                        corporation which for the taxable year 
                        of the corporation in which the 
                        dividend was paid, or the preceding 
                        taxable year, is a foreign personal 
                        holding company (as defined in section 
                        552), a foreign investment company (as 
                        defined in section 1246(b)), or a 
                        passive foreign investment company (as 
                        defined in section 1297).
                            ``(iv) Coordination with foreign 
                        tax credit limitation.--Rules similar 
                        to the rules of section 904(b)(2)(B) 
                        shall apply with respect to the 
                        dividend rate differential under this 
                        paragraph.
                    ``(D) Special rules.--
                            ``(i) Amounts taken into account as 
                        investment income.--Qualified dividend 
                        income shall not include any amount 
                        which the taxpayer takes into account 
                        as investment income under section 
                        163(d)(4)(B).
                            ``(ii) Extraordinary dividends.--If 
                        an individual receives, with respect to 
                        any share of stock, qualified dividend 
                        income from 1 or more dividends which 
                        are extraordinary dividends (within the 
                        meaning of section 1059(c)), any loss 
                        on the sale or exchange of such share 
                        shall, to the extent of such dividends, 
                        be treated as long-term capital loss.
                            ``(iii) Treatment of dividends from 
                        regulated investment companies and real 
                        estate investment trusts.--A dividend 
                        received from a regulated investment 
                        company or a real estate investment 
                        trust shall be subject to the 
                        limitations prescribed in sections 854 
                        and 857.''.
    (b) Exclusion of Dividends From Investment Income.--
Subparagraph (B) of section 163(d)(4) (defining net investment 
income) is amended by adding at the end the following flush 
sentence:
                ``Such term shall include qualified dividend 
                income (as defined in section 1(h)(11)(B)) only 
                to the extent the taxpayer elects to treat such 
                income as investment income for purposes of 
                this subsection.''.
    (c) Treatment of Dividends From Regulated Investment 
Companies.--
            (1) Subsection (a) of section 854 (relating to 
        dividends received from regulated investment companies) 
        is amended by inserting ``section 1(h)(11) (relating to 
        maximum rate of tax on dividends) and'' after ``For 
        purposes of''.
            (2) Paragraph (1) of section 854(b) (relating to 
        other dividends) is amended by redesignating 
        subparagraph (B) as subparagraph (C) and by inserting 
        after subparagraph (A) the following new subparagraph:
                    ``(B) Maximum rate under section 1(h).--
                            ``(i) In general.--If the aggregate 
                        dividends received by a regulated 
                        investment company during any taxable 
                        year are less than 95 percent of its 
                        gross income, then, in computing the 
                        maximum rate under section 1(h)(11), 
                        rules similar to the rules of 
                        subparagraph (A) shall apply.
                            ``(ii) Gross income.--For purposes 
                        of clause (i), in the case of 1 or more 
                        sales or other dispositions of stock or 
                        securities, the term `gross income' 
                        includes only the excess of--
                                    ``(I) the net short-term 
                                capital gain from such sales or 
                                dispositions, over
                                    ``(II) the net long-term 
                                capital loss from such sales or 
                                dispositions.
                            ``(iii) Dividends from real estate 
                        investment trusts.--For purposes of 
                        clause (i)--
                                    ``(I) paragraph (3)(B)(ii) 
                                shall not apply, and
                                    ``(II) in the case of a 
                                distribution from a trust 
                                described in such paragraph, 
                                the amount of such distribution 
                                which is a dividend shall be 
                                subject to the limitations 
                                under section 857(c).
                            ``(iv) Dividends from qualified 
                        foreign corporations.--For purposes of 
                        clause (i), dividends received from 
                        qualified foreign corporations (as 
                        defined in section 1(h)(11)) shall also 
                        be taken into account in computing 
                        aggregate dividends received.''.
            (3) Subparagraph (C) of section 854(b)(1), as 
        redesignated by paragraph (2), is amended by striking 
        ``subparagraph (A)'' and inserting ``subparagraph (A) 
        or (B)''.
            (4) Paragraph (2) of section 854(b) is amended by 
        inserting ``the maximum rate under section 1(h)(11) 
        and'' after ``for purposes of''.
            (5) Subsection (b) of section 854 is amended by 
        adding at the end the following new paragraph:
            ``(5) Coordination with section 1(h)(11).--For 
        purposes of paragraph (1)(B), an amount shall be 
        treated as a dividend only if the amount is qualified 
        dividend income (within the meaning of section 
        1(h)(11)(B)).''.
    (d) Treatment of Dividends Received From Real Estate 
Investment Trusts.--Section 857(c) (relating to restrictions 
applicable to dividends received from real estate investment 
trusts) is amended to read as follows:
    ``(c) Restrictions Applicable to Dividends Received From 
Real Estate Investment Trusts.--
            ``(1) Section 243.--For purposes of section 243 
        (relating to deductions for dividends received by 
        corporations), a dividend received from a real estate 
        investment trust which meets the requirements of this 
        part shall not be considered a dividend.
            ``(2) Section 1(h)(11).--For purposes of section 
        1(h)(11) (relating to maximum rate of tax on 
        dividends)--
                    ``(A) rules similar to the rules of 
                subparagraphs (B) and (C) of section 854(b)(1) 
                shall apply to dividends received from a real 
                estate investment trust which meets the 
                requirements of this part, and
                    ``(B) for purposes of such rules, such a 
                trust shall be treated as receiving qualified 
                dividend income during any taxable year in an 
                amount equal to the sum of--
                            ``(i) the excess of real estate 
                        investment trust taxable income 
                        computed under section 857(b)(2) for 
                        the preceding taxable year over the tax 
                        payable by the trust under section 
                        857(b)(1) for such preceding taxable 
                        year, and
                            ``(ii) the excess of the income 
                        subject to tax by reason of the 
                        application of the regulations under 
                        section 337(d) for the preceding 
                        taxable year over the tax payable by 
                        the trust on such income for such 
                        preceding taxable year.''.
    (e) Conforming Amendments.--
            (1) Paragraph (3) of section 1(h), as redesignated 
        by section 301, is amended to read as follows:
            ``(3) Adjusted net capital gain.--For purposes of 
        this subsection, the term `adjusted net capital gain' 
        means the sum of--
                    ``(A) net capital gain (determined without 
                regard to paragraph (11)) reduced (but not 
                below zero) by the sum of--
                            ``(i) unrecaptured section 1250 
                        gain, and
                            ``(ii) 28-percent rate gain, plus
                    ``(B) qualified dividend income (as defined 
                in paragraph (11)).''.
            (2) Subsection (f) of section 301 is amended adding 
        at the end the following new paragraph:
            ``(4) For taxation of dividends received by 
        individuals at capital gain rates, see section 
        1(h)(11).''.
            (3) Paragraph (1) of section 306(a) is amended by 
        adding at the end the following new subparagraph:
                    ``(D) Treatment as dividend.--For purposes 
                of section 1(h)(11) and such other provisions 
                as the Secretary may specify, any amount 
                treated as ordinary income under this paragraph 
                shall be treated as a dividend received from 
                the corporation.''.
            (4)(A) Subpart C of part II of subchapter C of 
        chapter 1 (relating to collapsible corporations) is 
        repealed.
            (B)(i) Section 338(h) is amended by striking 
        paragraph (14).
            (ii) Sections 467(c)(5)(C), 1255(b)(2), and 1257(d) 
        are each amended by striking ``, 341(e)(12),''.
            (iii) The table of subparts for part II of 
        subchapter C of chapter 1 is amended by striking the 
        item related to subpart C.
            (5) Section 531 is amended by striking ``equal to'' 
        and all that follows and inserting ``equal to 15 
        percent of the accumulated taxable income.''.
            (6) Section 541 is amended by striking ``equal to'' 
        and all that follows and inserting ``equal to 15 
        percent of the undistributed personal holding company 
        income.''.
            (7) Section 584(c) is amended by adding at the end 
        the following new flush sentence:
``The proportionate share of each participant in the amount of 
dividends received by the common trust fund and to which 
section 1(h)(11) applies shall be considered for purposes of 
such paragraph as having been received by such participant.''.
            (8) Paragraph (5) of section 702(a) is amended to 
        read as follows:
            ``(5) dividends with respect to which section 
        1(h)(11) or part VIII of subchapter B applies,''.
    (f) Effective Date.--
            (1) In general.--Except as provided in paragraph 
        (2), the amendments made by this section shall apply to 
        taxable years beginning after December 31, 2002.
            (2) Regulated investment companies and real estate 
        investment trusts.--In the case of a regulated 
        investment company or a real estate investment trust, 
        the amendments made by this section shall apply to 
        taxable years ending after December 31, 2002; except 
        that dividends received by such a company or trust on 
        or before such date shall not be treated as qualified 
        dividend income (as defined in section 1(h)(11)(B) of 
        the Internal Revenue Code of 1986, as added by this 
        Act).

SEC. 303. SUNSET OF TITLE.

    All provisions of, and amendments made by, this title shall 
not apply to taxable years beginning after December 31, 2008, 
and the Internal Revenue Code of 1986 shall be applied and 
administered to such years as if such provisions and amendments 
had never been enacted.

                TITLE IV--TEMPORARY STATE FISCAL RELIEF

SEC. 401. TEMPORARY STATE FISCAL RELIEF.

    (a) $10,000,000,000 for a Temporary Increase of the 
Medicaid FMAP.--
            (1) Permitting maintenance of fiscal year 2002 fmap 
        for last 2 calendar quarters of fiscal year 2003.--
        Subject to paragraph (5), if the FMAP determined 
        without regard to this subsection for a State for 
        fiscal year 2003 is less than the FMAP as so determined 
        for fiscal year 2002, the FMAP for the State for fiscal 
        year 2002 shall be substituted for the State's FMAP for 
        the third and fourth calendar quarters of fiscal year 
        2003, before the application of this subsection.
            (2) Permitting maintenance of fiscal year 2003 fmap 
        for first 3 quarters of fiscal year 2004.--Subject to 
        paragraph (5), if the FMAP determined without regard to 
        this subsection for a State for fiscal year 2004 is 
        less than the FMAP as so determined for fiscal year 
        2003, the FMAP for the State for fiscal year 2003 shall 
        be substituted for the State's FMAP for the first, 
        second, and third calendar quarters of fiscal year 
        2004, before the application of this subsection.
            (3) General 2.95 percentage points increase for 
        last 2 calendar quarters of fiscal year 2003 and first 
        3 calendar quarters of fiscal year 2004.--Subject to 
        paragraphs (5), (6), and (7), for each State for the 
        third and fourth calendar quarters of fiscal year 2003 
        and for the first, second, and third calendar quarters 
        of fiscal year 2004, the FMAP (taking into account the 
        application of paragraphs (1) and (2)) shall be 
        increased by 2.95 percentage points.
            (4) Increase in cap on medicaid payments to 
        territories.--Subject to paragraphs (6) and (7), with 
        respect to the third and fourth calendar quarters of 
        fiscal year 2003 and the first, second, and third 
        calendar quarters of fiscal year 2004, the amounts 
        otherwise determined for Puerto Rico, the Virgin 
        Islands, Guam, the Northern Mariana Islands, and 
        American Samoa under subsections (f) and (g) of section 
        1108 of the Social Security Act (42 U.S.C. 1308) shall 
        each be increased by an amount equal to 5.90 percent of 
        such amounts.
            (5) Scope of application.--The increases in the 
        FMAP for a State under this subsection shall apply only 
        for purposes of title XIX of the Social Security Act 
        and shall not apply with respect to--
                    (A) disproportionate share hospital 
                payments described in section 1923 of such Act 
                (42 U.S.C. 1396r-4);
                    (B) payments under title IV or XXI of such 
                Act (42 U.S.C. 601 et seq. and 1397aa et seq.); 
                or
                    (C) any payments under XIX of such Act that 
                are based on the enhanced FMAP described in 
                section 2105(b) of such Act (42 U.S.C. 
                1397ee(b)).
            (6) State eligibility.--
                    (A) In general.--Subject to subparagraph 
                (B), a State is eligible for an increase in its 
                FMAP under paragraph (3) or an increase in a 
                cap amount under paragraph (4) only if the 
                eligibility under its State plan under title 
                XIX of the Social Security Act (including any 
                waiver under such title or under section 1115 
                of such Act (42 U.S.C. 1315)) is no more 
                restrictive than the eligibility under such 
                plan (or waiver) as in effect on September 2, 
                2003.
                    (B) State reinstatement of eligibility 
                permitted.--A State that has restricted 
                eligibility under its State plan under title 
                XIX of the Social Security Act (including any 
                waiver under such title or under section 1115 
                of such Act (42 U.S.C. 1315)) after September 
                2, 2003, is eligible for an increase in its 
                FMAP under paragraph (3) or an increase in a 
                cap amount under paragraph (4) in the first 
                calendar quarter (and subsequent calendar 
                quarters) in which the State has reinstated 
                eligibility that is no more restrictive than 
                the eligibility under such plan (or waiver) as 
                in effect on September 2, 2003.
                    (C) Rule of construction.--Nothing in 
                subparagraph (A) or (B) shall be construed as 
                affecting a State's flexibility with respect to 
                benefits offered under the State medicaid 
                program under title XIX of the Social Security 
                Act (42 U.S.C. 1396 et seq.) (including any 
                waiver under such title or under section 1115 
                of such Act (42 U.S.C. 1315)).
            (7) Requirement for certain states.--In the case of 
        a State that requires political subdivisions within the 
        State to contribute toward the non-Federal share of 
        expenditures under the State medicaid plan required 
        under section 1902(a)(2) of the Social Security Act (42 
        U.S.C. 1396a(a)(2)), the State shall not require that 
        such political subdivisions pay a greater percentage of 
        the non-Federal share of such expenditures for the 
        third and fourth calendar quarters of fiscal year 2003 
        and the first, second and third calendar quarters of 
        fiscal year 2004, than the percentage that was required 
        by the State under such plan on April 1, 2003, prior to 
        application of this subsection.
            (8) Definitions.--In this subsection:
                    (A) FMAP.--The term ``FMAP'' means the 
                Federal medical assistance percentage, as 
                defined in section 1905(b) of the Social 
                Security Act (42 U.S.C. 1396d(b)).
                    (B) State.--The term ``State'' has the 
                meaning given such term for purposes of title 
                XIX of the Social Security Act (42 U.S.C. 1396 
                et seq.).
            (9) Repeal.--Effective as of October 1, 2004, this 
        subsection is repealed.
    (b) $10,000,000,000 To Assist States in Providing 
Government Services.--The Social Security Act (42 U.S.C. 301 et 
seq.) is amended by inserting after title V the following:

               ``TITLE VI--TEMPORARY STATE FISCAL RELIEF

``SEC. 601. TEMPORARY STATE FISCAL RELIEF.

    ``(a) Appropriation.--There is authorized to be 
appropriated and is appropriated for making payments to States 
under this section, $5,000,000,000 for each of fiscal years 
2003 and 2004.
    ``(b) Payments.--
            ``(1) Fiscal year 2003.--From the amount 
        appropriated under subsection (a) for fiscal year 2003, 
        the Secretary of the Treasury shall, not later than the 
        later of the date that is 45 days after the date of 
        enactment of this Act or the date that a State provides 
        the certification required by subsection (e) for fiscal 
        year 2003, pay each State the amount determined for the 
        State for fiscal year 2003 under subsection (c).
            ``(2) Fiscal year 2004.--From the amount 
        appropriated under subsection (a) for fiscal year 2004, 
        the Secretary of the Treasury shall, not later than the 
        later of October 1, 2003, or the date that a State 
        provides the certification required by subsection (e) 
        for fiscal year 2004, pay each State the amount 
        determined for the State for fiscal year 2004 under 
        subsection (c).
    ``(c) Payments Based on Population.--
            ``(1) In general.--Subject to paragraph (2), the 
        amount appropriated under subsection (a) for each of 
        fiscal years 2003 and 2004 shall be used to pay each 
        State an amount equal to the relative population 
        proportion amount described in paragraph (3) for such 
        fiscal year.
            ``(2) Minimum payment.--
                    ``(A) In general.--No State shall receive a 
                payment under this section for a fiscal year 
                that is less than--
                            ``(i) in the case of 1 of the 50 
                        States or the District of Columbia, \1/
                        2\ of 1 percent of the amount 
                        appropriated for such fiscal year under 
                        subsection (a); and
                            ``(ii) in the case of the 
                        Commonwealth of Puerto Rico, the United 
                        States Virgin Islands, Guam, the 
                        Commonwealth of the Northern Mariana 
                        Islands, or American Samoa, \1/10\ of 1 
                        percent of the amount appropriated for 
                        such fiscal year under subsection (a).
                    ``(B) Pro rata adjustments.--The Secretary 
                of the Treasury shall adjust on a pro rata 
                basis the amount of the payments to States 
                determined under this section without regard to 
                this subparagraph to the extent necessary to 
                comply with the requirements of subparagraph 
                (A).
            ``(3) Relative population proportion amount.--The 
        relative population proportion amount described in this 
        paragraph is the product of--
                    ``(A) the amount described in subsection 
                (a) for a fiscal year; and
                    ``(B) the relative State population 
                proportion (as defined in paragraph (4)).
            ``(4) Relative state population proportion 
        defined.--For purposes of paragraph (3)(B), the term 
        ``relative State population proportion'' means, with 
        respect to a State, the amount equal to the quotient 
        of--
                    ``(A) the population of the State (as 
                reported in the most recent decennial census); 
                and
                    ``(B) the total population of all States 
                (as reported in the most recent decennial 
                census).
    ``(d) Use of Payment.--
            ``(1) In general.--Subject to paragraph (2), a 
        State shall use the funds provided under a payment made 
        under this section for a fiscal year to--
                    ``(A) provide essential government 
                services; or
                    ``(B) cover the costs to the State of 
                complying with any Federal intergovernmental 
                mandate (as defined in section 421(5) of the 
                Congressional Budget Act of 1974) to the extent 
                that the mandate applies to the State, and the 
                Federal Government has not provided funds to 
                cover the costs.
            ``(2) Limitation.--A State may only use funds 
        provided under a payment made under this section for 
        types of expenditures permitted under the most recently 
        approved budget for the State.
    ``(e) Certification.--In order to receive a payment under 
this section for a fiscal year, the State shall provide the 
Secretary of the Treasury with a certification that the State's 
proposed uses of the funds are consistent with subsection (d).
    ``(f) Definition of State.--In this section, the term 
`State' means the 50 States, the District of Columbia, the 
Commonwealth of Puerto Rico, the United States Virgin Islands, 
Guam, the Commonwealth of the Northern Mariana Islands, and 
American Samoa.
    ``(g) Repeal.--Effective as of October 1, 2004, this title 
is repealed.''.

           TITLE V--CORPORATE ESTIMATED TAX PAYMENTS FOR 2003

SEC. 501. TIME FOR PAYMENT OF CORPORATE ESTIMATED TAXES.

    Notwithstanding section 6655 of the Internal Revenue Code 
of 1986, 25 percent of the amount of any required installment 
of corporate estimated tax which is otherwise due in September 
2003 shall not be due until October 1, 2003.
    And the Senate agree to the same.

                                   William M. Thomas,
                                   Tom DeLay,
                                 Managers on the Part of the House.

                                   Chuck Grassley,
                                   Orrin Hatch,
                                   Don Nickles,
                                   Trent Lott,
                                Managers on the Part of the Senate.
       JOINT EXPLANATORY STATEMENT OF THE COMMITTEE OF CONFERENCE

      The managers on the part of the House and the Senate at 
the conference on the disagreeing votes of the two Houses on 
the amendment of the Senate to the bill (H.R. 2), to provide 
for reconciliation pursuant to section 201 of the concurrent 
resolution on the budget for fiscal year 2004, submit the 
following joint statement to the House and the Senate in 
explanation of the effect of the action agreed upon by the 
managers and recommended in the accompanying conference report:
      The Senate amendment struck all of the House bill after 
the enacting clause and inserted a substitute text.
      The House recedes from its disagreement to the amendment 
of the Senate with an amendment that is a substitute for the 
House bill and the Senate amendment. The differences between 
the House bill, the Senate amendment, and the substitute agreed 
to in conference are noted below, except for clerical 
corrections, conforming changes made necessary by agreements 
reached by the conferees, and minor drafting an clarifying 
changes.

      I. Acceleration of Certain Previously Enacted Tax Reductions

  A. Accelerate the Increase in the Child Tax Credit (Sec. 101 of the 
 House Bill, Sec. 106 of the Senate Amendment, and Sec. 24 of the Code)

                              PRESENT LAW

In general
      For 2003, an individual may claim a $600 tax credit for 
each qualifying child under the age of 17. In general, a 
qualifying child is an individual for whom the taxpayer can 
claim a dependency exemption and who is the taxpayer's son or 
daughter (or descendent of either), stepson or stepdaughter (or 
descendent of either), or eligible foster child.
      The child tax credit is scheduled to increase to $1,000, 
phased-in over several years.
      Table 1, below, shows the scheduled increases of the 
child tax credit as provided under the Economic Growth and Tax 
Relief Reconciliation Act of 2001 (``EGTRRA'').

          TABLE 1.--SCHEDULED INCREASE OF THE CHILD TAX CREDIT
------------------------------------------------------------------------
                                                       Credit amount per
                     Taxable year                            child
------------------------------------------------------------------------
2003-2004............................................               $600
2005-2008............................................                700
2009.................................................                800
2010\1\..............................................             1,000
------------------------------------------------------------------------
\1\ The credit reverts to $500 in taxable years beginning after December
  31, 2010, under the sunset provision of EGTRRA.

      The child tax credit is phased-out for individuals with 
income over certain thresholds. Specifically, the otherwise 
allowable child tax credit is reduced by $50 for each $1,000 
(or fraction thereof) of modified adjusted gross income over 
$75,000 for single individuals or heads of households, $110,000 
for married individuals filing joint returns, and $55,000 for 
married individuals filing separate returns.\1\ The length of 
the phase-out range depends on the number of qualifying 
children. For example, the phase-out range for a single 
individual with one qualifying child is between $75,000 and 
$87,000 of modified adjusted gross income. The phase-out range 
for a single individual with two qualifying children is between 
$75,000 and $99,000.
---------------------------------------------------------------------------
    \1\  Modified adjusted gross income is the taxpayer's total gross 
income plus certain amounts excluded from gross income (i.e., excluded 
income of: U.S. citizens or residents living abroad (sec. 911), 
residents of Guam, American Samoa, and the Northern Mariana Islands 
(sec. 931), and residents of Puerto Rico (sec. 933)).
---------------------------------------------------------------------------
      The amount of the tax credit and the phase-out ranges are 
not adjusted annually for inflation.
Refundability
      For 2003, the child credit is refundable to the extent of 
10 percent of the taxpayer's earned income in excess of 
$10,500.\2\ The percentage is increased to 15 percent for 
taxable years 2005 and thereafter. Families with three or more 
children are allowed a refundable credit for the amount by 
which the taxpayer's social security taxes exceed the 
taxpayer's earned income credit, if that amount is greater than 
the refundable credit based on the taxpayer's earned income in 
excess of $10,500 (for 2003). The refundable portion of the 
child credit does not constitute income and is not treated as 
resources for purposes of determining eligibility or the amount 
or nature of benefits or assistance under any Federal program 
or any State or local program financed with Federal funds. For 
taxable years beginning after December 31, 2010, the sunset 
provision of EGTRRA applies to the rules allowing refundable 
child credits.
---------------------------------------------------------------------------
    \2\ The $10,500 amount is indexed for inflation.
---------------------------------------------------------------------------
Alternative minimum tax liability
      The child credit is allowed against the individual's 
regular income tax and alternative minimum tax. For taxable 
years beginning after December 31, 2010, the sunset provision 
of EGTRRA applies to the rules allowing the child credit 
against the alternative minimum tax.

                               HOUSE BILL

      Under the House bill, the amount of the child credit is 
increased to $1,000 for 2003 through 2005.\3\ After 2005, the 
child credit will revert to the levels provided under present 
law. For 2003, the increased amount of the child credit will be 
paid in advance beginning in July, 2003, on the basis of 
information on each taxpayer's 2002 return filed in 2003. Such 
payments will be made in a manner similar to the advance 
payment checks issued by the Treasury in 2001 to reflect the 
creation of the 10-percent regular income tax rate bracket.
---------------------------------------------------------------------------
    \3\ The increase in refundability to 15 percent of the taxpayer's 
earned income, scheduled for calendar years 2005 and thereafter, is not 
accelerated under the provision.
---------------------------------------------------------------------------
      Effective date.--The House bill provision is effective 
for taxable years beginning after December 31, 2002, and before 
January 1, 2006.

                            SENATE AMENDMENT

      The amount of the child credit is increased to $1,000 for 
2003 and thereafter. For 2003, the increased amount of the 
child credit will be paid in advance beginning in July 2003 on 
the basis of information on each taxpayer's 2002 return filed 
in 2003. Advance payments will bemade in a similar manner to 
the advance payment checks issued by the Treasury in 2001 to reflect 
the creation of the 10-percent regular income tax rate bracket. The 
increase in the refundable portion of the credit from 10 percent to 15 
percent of the taxpayer's earned income in excess of the threshold 
amount is accelerated to 2003 from 2005.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      Under the conference agreement, the amount of the child 
credit is increased to $1,000 for 2003 and 2004.\4\ After 2004, 
the child credit will revert to the levels provided under 
present law. For 2003, the increased amount of the child credit 
will be paid in advance beginning in July, 2003, on the basis 
of information on each taxpayer's 2002 return filed in 2003. 
The IRS is not expected to issue advance payment checks to an 
individual who did not claim the child credit for 2002. Such 
payments will be made in a manner similar to the advance 
payment checks issued by the Treasury in 2001 to reflect the 
creation of the 10-percent regular income tax rate bracket.
---------------------------------------------------------------------------
    \4\ The increase in refundability to 15 percent of the taxpayer's 
earned income, scheduled for calendar years 2005 and thereafter, is not 
accelerated under the provision.
---------------------------------------------------------------------------
      Effective date.--The conference agreement provision is 
effective for taxable years beginning after December 31, 2002, 
and before January 1, 2005.

 B. Accelerate Marriage Penalty Relief (Secs. 102 and 103 of the House 
 Bill, Secs. 104 and 105 of the Senate Amendment and Secs. 1 and 63 of 
                               the Code)


1. Standard deduction marriage penalty relief

                              PRESENT LAW

Marriage penalty

      A married couple generally is treated as one tax unit 
that must pay tax on the couple's total taxable income. 
Although married couples may elect to file separate returns, 
the rate schedules and other provisions are structured so that 
filing separate returns usually results in a higher tax than 
filing a joint return. Other rate schedules apply to single 
persons and to single heads of households.
      A ``marriage penalty'' exists when the combined tax 
liability of a married couple filing a joint return is greater 
than the sum of the tax liabilities of each individual computed 
as if they were not married. A ``marriage bonus'' exists when 
the combined tax liability of a married couple filing a joint 
return is less than the sum of the tax liabilities of each 
individual computed as if they were not married.

Basic standard deduction

      Taxpayers who do not itemize deductions may choose the 
basic standard deduction (and additional standard deductions, 
if applicable),\5\ which is subtracted from adjusted gross 
income (``AGI'') in arriving at taxable income. The size of the 
basic standard deduction varies according to filing status and 
is adjusted annually for inflation.\6\ For 2003, the basic 
standard deduction for married couples filing a joint return is 
167 percent of the basic standard deduction for single filers. 
(Alternatively, the basic standard deduction amount for single 
filers is 60 percent of the basic standard deduction amount for 
married couples filing joint returns.) Thus, two unmarried 
individuals have standard deductions whose sum exceeds the 
standard deduction for a married couple filing a joint return.
---------------------------------------------------------------------------
    \5\ Additional standard deductions are allowed with respect to any 
individual who is elderly (age 65 or over) or blind.
    \6\ For 2003, the basic standard deduction amounts are: (1) $4,750 
for unmarried individuals; (2) $7,950 for married individuals filing a 
joint return; (3) $7,000 for heads of households; and (4) $3,975 for 
married individuals filing separately.
---------------------------------------------------------------------------
      EGTRRA increased the basic standard deduction for a 
married couple filing a joint return to twice the basic 
standard deduction for an unmarried individual filing a single 
return.\7\ The increase in the standard deduction for married 
taxpayers filing a joint return is scheduled to be phased-in 
over five years beginning in 2005 and will be fully phased-in 
for 2009 and thereafter. Table 2, below, shows the standard 
deduction for married couples filing a joint return as a 
percentage of the standard deduction for single individuals 
during the phase-in period.
---------------------------------------------------------------------------
    \7\ The basic standard deduction for a married taxpayer filing 
separately will continue to equal one-half of the basic standard 
deduction for a married couple filing jointly; thus, the basic standard 
deduction for unmarried individuals filing a single return and for 
married couples filing separately will be the same after the phase-in 
period.

TABLE 2.--SCHEDULED PHASE-IN OF INCREASE OF THE BASIC STANDARD DEDUCTION
                FOR MARRIED COUPLES FILING JOINT RETURNS
------------------------------------------------------------------------
                                               Standard deduction for
                                            married couples filing joint
               Taxable year                   returns as percentage of
                                               standard deduction for
                                            unmarried individual returns
------------------------------------------------------------------------
2005.....................................                           174
2006.....................................                           184
2007.....................................                           187
2008.....................................                           190
2009 and 2010\1\.........................                          200
------------------------------------------------------------------------
\1\ The basic standard deduction increases are repealed for taxable
  years beginning after December 31, 2010, under the sunset provision of
  EGTRRA.

                               HOUSE BILL

      The House bill accelerates the increase in the basic 
standard deduction amount for joint returns to twice the basic 
standard deduction amount for single returns effective for 
2003, 2004, and 2005. For taxable years beginning after 2005, 
the applicable percentages will revert to those allowed under 
present law, as described above.
      Effective date.--The House bill provision is effective 
for taxable years beginning after December 31, 2002, and before 
January 1, 2006.

                            SENATE AMENDMENT

      The Senate amendment increases in the basic standard 
deduction amount for joint returns to 195 percent of the basic 
standard deduction amount for single returns effective for 
2003. The Senate amendment also increases in the basic standard 
deduction amount for joint returns to twice the basic standard 
deduction amount for single returns effective for 2004. For 
taxable years beginning after 2004, the applicable percentages 
will revert to those allowed under present law, as described 
above.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2002 
and before January 1, 2005.

                          CONFERENCE AGREEMENT

      The conference agreement increases the basic standard 
deduction amount for joint returns to twice the basic standard 
deduction amount for single returns effective for 2003 and 
2004. For taxable years beginning after 2004, the applicable 
percentages will revert to those allowed under present law, as 
described above.
      Effective date.--The conference agreement provision is 
effective for taxable years beginning after December 31, 2002, 
and before January 1, 2005.

2. Accelerate the expansion of the 15-percent rate bracket for married 
        couples filing joint returns

                              PRESENT LAW

In general

      Under the Federal individual income tax system, an 
individual who is a citizen or resident of the United States 
generally is subject to tax on worldwide taxable income. 
Taxable income is total gross income less certain exclusions, 
exemptions, and deductions. An individual may claim either a 
standard deduction or itemized deductions.
      An individual's income tax liability is determined by 
computing his or her regular income tax liability and, if 
applicable, alternative minimum tax liability.

Regular income tax liability

      Regular income tax liability is determined by applying 
the regular income tax rate schedules (or tax tables) to the 
individual's taxable income and then is reduced by any 
applicable tax credits. The regular income tax rate schedules 
are divided into several ranges of income, known as income 
brackets, and the marginal tax rate increases as the 
individual's income increases. The income bracket amounts are 
adjusted annually for inflation. Separate rate schedules apply 
based on filing status: single individuals (other than heads of 
households and surviving spouses), heads of households, married 
individuals filing joint returns (including surviving spouses), 
married individuals filing separate returns, and estates and 
trusts. Lower rates may apply to capital gains.
      In general, the bracket breakpoints for single 
individuals are approximately 60 percent of the rate bracket 
breakpoints for married couples filing joint returns.\8\ The 
rate bracket breakpoints for married individuals filing 
separate returns are exactly one-half of the rate brackets for 
married individuals filing joint returns. A separate, 
compressed rate schedule applies to estates and trusts.
---------------------------------------------------------------------------
    \8\ Under present law, the rate bracket breakpoint for the 38.6 
percent marginal tax rate is the same for single individuals and 
married couples filing joint returns.
---------------------------------------------------------------------------

15-percent regular income tax rate bracket

      EGTRRA increased the size of the 15-percent regular 
income tax rate bracket for a married couple filing a joint 
return to twice the size of the corresponding rate bracket for 
a single individual filing a single return. The increase is 
phased-in over four years, beginning in 2005. Therefore, this 
provision is fully effective (i.e., the size of the 15-percent 
regular income tax rate bracket for a married couple filing a 
joint return is twice the size of the 15-percent regular income 
tax rate bracket for an unmarried individual filing a single 
return) for taxable years beginning after December 31, 2007. 
Table 3, below, shows the increase in the size of the 15-
percent bracket during the phase-in period.

 TABLE 3.--SCHEDULED INCREASE IN SIZE OF THE 15-PERCENT RATE BRACKET FOR
                  MARRIED COUPLES FILING JOINT RETURNS
------------------------------------------------------------------------
                                            End point of 15-percent rate
                                            bracket for married couples
                                              filing joint returns as
               Taxable year                percentage of end point of 15-
                                              percent rate bracket for
                                               unmarried individuals
------------------------------------------------------------------------
2005.....................................                           180
2006.....................................                           187
2007.....................................                           193
2008 through 2010 \1\....................                          200
------------------------------------------------------------------------
\1\ The increases in the 15-percent rate bracket for married couples
  filing a joint return are repealed for taxable years beginning after
  December 31, 2010, under the sunset of EGTRRA.

                               HOUSE BILL

      The House bill accelerates the increase of the size of 
the 15-percent regular income tax rate bracket for joint 
returns to twice the width of the 15-percent regular income tax 
rate bracket for single returns for taxable years beginning in 
2003, 2004, and 2005. For taxable years beginning after 2005, 
the applicable percentages will revert to those allowed under 
present law, as described above.
      Effective date.--The House bill provision is effective 
for taxable years beginning after December 31, 2002, and before 
January 1, 2006.

                            SENATE AMENDMENT

      The Senate amendment increases in the size of the 15-
percent regular income tax rate bracket for joint returns to 
195 percent of the size of the 15-percent regular income tax 
rate bracket for single returns effective for 2003. The Senate 
amendment also increases in the size of the 15-percent regular 
income tax rate bracket for joint returns to twice the size of 
the 15-percent regular income tax rate bracket for single 
returns effective for 2004. For taxable years beginningafter 
2004, the applicable percentages will revert to those allowed under 
present law, as described above.
      Effective date.--The provision is effective for taxable 
years beginning after December 31, 2002 and before January 1, 
2005.

                          CONFERENCE AGREEMENT

      The conference agreement increases the size of the 15-
percent regular income tax rate bracket for joint returns to 
twice the width of the 15-percent regular income tax rate 
bracket for single returns for taxable years beginning in 2003 
and 2004. For taxable years beginning after 2004, the 
applicable percentages will revert to those allowed under 
present law, as described above.
      Effective date.--The conference agreement provision is 
effective for taxable years beginning after December 31, 2002, 
and before January 1, 2005.

C. Accelerate Reductions in Individual Income Tax Rates (Secs. 101, 102 
    and 103 of the House Bill, Secs. 101, 102 and 103 of the Senate 
               Amendment, and Secs. 1 and 55 of the Code)


                              PRESENT LAW

In general

      Under the Federal individual income tax system, an 
individual who is a citizen or a resident of the United States 
generally is subject to tax on worldwide taxable income. 
Taxable income is total gross income less certain exclusions, 
exemptions, and deductions. An individual may claim either a 
standard deduction or itemized deductions.
      An individual's income tax liability is determined by 
computing his or her regular income tax liability and, if 
applicable, alternative minimum tax liability.

Regular income tax liability

      Regular income tax liability is determined by applying 
the regular income tax rate schedules (or tax tables) to the 
individual's taxable income. This tax liability is then reduced 
by any applicable tax credits. The regular income tax rate 
schedules are divided into several ranges of income, known as 
income brackets, and the marginal tax rate increases as the 
individual's income increases. The income bracket amounts are 
adjusted annually for inflation. Separate rate schedules apply 
based on filing status: single individuals (other than heads of 
households and surviving spouses), heads of households, married 
individuals filing joint returns (including surviving spouses), 
married individuals filing separate returns, and estates and 
trusts. Lower rates may apply to capital gains.
      For 2003, the regular income tax rate schedules for 
individuals are shown in Table 4, below. The rate bracket 
breakpoints for married individuals filing separate returns are 
exactly one-half of the rate brackets for married individuals 
filing joint returns. A separate, compressed rate schedule 
applies to estates and trusts.

         TABLE 4.--INDIVIDUAL REGULAR INCOME TAX RATES FOR 2003
                                                      Then regular income
   If taxable income is over:       But not over:        tax equals:
                            Single Individuals
 $0..............................  $6,000             10% of taxable
                                                      income.
$6,000..........................  $28,400            $600, plus 15% of
                                                      the amount over
                                                      $6,000.
$28,400.........................  $68,800            $3,960.00, plus 27%
                                                      of the amount over
                                                      $28,400.
$68,800.........................  $143,500           $14,868.00, plus
                                                      30% of the amount
                                                      over $68,800.
$143,500........................  $311,950           $37,278.00, plus
                                                      35% of the amount
                                                      over $143,500.
Over 311,950....................  .................  $96,235.50, plus
                                                      38.6% of the
                                                      amount over
                                                      $311,950.
                            Head of Households
 $0..............................  $10,000            10% of taxable
                                                      income.
$10,000.........................  $38,050            $1,000, plus 15% of
                                                      the amount over
                                                      $10,000.
$38,050.........................  $98,250            $5,207.50, plus 27%
                                                      of the amount over
                                                      $38,050.
$98,250.........................  $159,100           $21,461.50, plus
                                                      30% of the amount
                                                      over $98,250.
$159,100........................  $311,950           $39,716.50, plus
                                                      35% of the amount
                                                      over $159,100.
Over 311,950....................  .................  $93,214, plus 38.6%
                                                      of the amount over
                                                      $311,950.
                 Married Individuals Filing Joint Returns
 $0..............................  $12,000            10% of taxable
                                                      income.
$12,000.........................  $47,450            $1,200, plus 15% of
                                                      the amount over
                                                      $12,000.
$47,450.........................  $114,650           $6,517.50, plus 27%
                                                      of the amount over
                                                      $47,450.
$114,650........................  $174,700           $24,661.50, plus
                                                      30% of the amount
                                                      over $114,650.
$174,700........................  $311,950           $42,676.50, plus
                                                      35% of the amount
                                                      over $174,700.
Over 311,950....................  .................  $90,714, plus 38.6%
                                                      of the amount over
                                                      $311,950.

Ten-percent regular income tax rate

      Under present law, the 10-percent rate applies to the 
first $6,000 of taxable income for single individuals, $10,000 
of taxable income for heads of households, and $12,000 for 
married couples filing joint returns. Effective beginning in 
2008, the $6,000 amount will increase to $7,000 and the $12,000 
amount will increase to $14,000.
      The taxable income levels for the 10-percent rate bracket 
will be adjusted annually for inflation for taxable years 
beginning after December 31, 2008. The bracket for single 
individuals and married individuals filing separately is one-
half for joint returns (after adjustment of that bracket for 
inflation).
      The 10-percent rate bracket will expire for taxable years 
beginning after December 31, 2010, under the sunset provision 
of the Economic Growth and Tax Relief Reconciliation Act of 
2001 (``EGTRRA'').

Reduction of other regular income tax rates

      Prior to EGTRRA, the regular income tax rates were 15 
percent, 28 percent, 31 percent, 36 percent, and 39.6 
percent.\9\ EGTRRA added the 10-percent regular income tax 
rate, described above, and retained the 15-percent regular 
income tax rate. Also, the 15-percent regular income tax 
bracket was modified to begin at the end of the 10-percent 
regular income tax bracket. EGTRRA also made other changes to 
the 15-percent regular income tax bracket.\10\
---------------------------------------------------------------------------
    \9\ The regular income tax rates will revert to these percentages 
for taxable years beginning after December 31, 2010, under the sunset 
of EGTRRA.
    \10\ See the discussion of the provision regarding marriage penalty 
relief in the 15-percent regular income tax bracket, above.
---------------------------------------------------------------------------
      Also, under EGTRRA, the 28 percent, 31 percent, 36 
percent, and 39.6 percent rates are phased down over six years 
to 25 percent, 28 percent, 33 percent, and 35 percent, 
effective after June 30, 2001. The taxable income levels for 
the rates above the 15-percent rate in all taxable years are 
the same as the taxable income levels that apply under the 
prior-law rates.
      Table 5, below, shows the schedule of regular income tax 
rate reductions.

                             TABLE 5.--SCHEDULED REGULAR INCOME TAX RATE REDUCTIONS
----------------------------------------------------------------------------------------------------------------
                                                                28% rate     31% rate     36% rate    39.6% rate
                        Taxable year                          reduced to:  reduced to:  reduced to:  reduced to:
----------------------------------------------------------------------------------------------------------------
2001\1\-2003................................................          27%          30%          35%        38.6%
2004-2005...................................................          26%          29%          34%        37.6%
2006 thru 2010\2\...........................................          25%          28%          33%       35.0%
----------------------------------------------------------------------------------------------------------------
\1\ Effective July 1, 2001.
\2\ The reduction in the regular income tax rates are repealed for taxable years beginning after December 31,
  2010, under the sunset provision of EGTRRA.

Alternative minimum tax

      The alternative minimum tax is the amount by which the 
tentative minimum tax exceeds the regular income tax. An 
individual's tentative minimum tax is an amount equal to (1) 26 
percent of the first $175,000 ($87,500 in the case of a married 
individual filing a separate return) of alternative minimum 
taxable income (``AMTI'') in excess of a phased-out exemption 
amount and (2) 28 percent of the remaining AMTI. The maximum 
tax rates on net capital gain used in computing the tentative 
minimum tax are the same as under the regular tax. AMTI is the 
individual's taxable income adjusted to take account of 
specified preferences and adjustments. The exemption amounts 
are: (1) $49,000 ($45,000 in taxable years beginning after 
2004) in the case of married individuals filing a joint return 
and surviving spouses; (2) $35,750 ($33,750 in taxable years 
beginning after 2004) in the case of other unmarried 
individuals; (3) $24,500 ($22,500 in taxable years beginning 
after 2004) in the case of married individuals filing a 
separate return; and (4) $22,500 in the case of an estate or 
trust. The exemption amounts are phased out by an amount equal 
to 25 percent of the amount by which the individual's AMTI 
exceeds (1) $150,000 in the case of married individuals filing 
a joint return and surviving spouses, (2) $112,500 in the case 
of other unmarried individuals, and (3) $75,000 in the case of 
married individuals filing separate returns or an estate or a 
trust. These amounts are not indexed for inflation.

                               HOUSE BILL

Ten-percent regular income tax rate

      The House bill accelerates the increase in the taxable 
income levels for the 10-percent rate bracket now scheduled for 
2008 to be effective in 2003, 2004, and 2005. Specifically, for 
2003, 2004, and 2005, the proposal increases the taxable income 
level for the 10-percent regular income tax rate brackets for 
unmarried individuals from $6,000 to $7,000 and for married 
individuals filing jointly from $12,000 to $14,000. The taxable 
income levels for the 10-percent regular income tax rate 
bracket will be adjusted annually for inflation for taxable 
years beginning after December 31, 2003.
      For taxable years beginning after December 31, 2005, the 
taxable income levels for the 10-percent rate bracket will 
revert to the levels allowed under present law. Therefore, for 
2006 and 2007, the levels will revert to $6,000 for unmarried 
individuals and $12,000 for married individuals filing jointly. 
In 2008, the taxable income levels for the 10-percent regular 
income tax rate brackets will be $7,000 for unmarried 
individuals and $14,000 for married individuals filing jointly. 
The taxable income levels for the 10-percent rate bracket will 
be adjusted annually for inflation for taxable years beginning 
after December 31, 2008.

Reduction of other regular income tax rates

      The House bill accelerates the reductions in the regular 
income tax rates in excess of the 15-percent regular income tax 
rate that are scheduled for 2004 and 2006. Therefore, for 2003 
and thereafter, the regular income tax rates in excess of 15 
percent under the bill are 25 percent, 28 percent, 33 percent, 
and 35 percent.

Alternative minimum tax exemption amounts

      The House bill increases the AMT exemption amount for 
married taxpayers filing a joint return and surviving spouses 
to $64,000, and for unmarried taxpayers to $43,250, for taxable 
years beginning in 2003, 2004, and 2005.

Effective date

      The House bill provision is effective for taxable years 
beginning after December 31, 2002 and before January 1, 2006.

                            SENATE AMENDMENT

Ten-percent regular income tax rate

      The Senate amendment accelerates the scheduled increase 
in the taxable income levels for the 10-percent rate bracket. 
Specifically, beginning in 2003, the Senate amendment increases 
the taxable income level for the 10-percent regular income tax 
rate brackets for single individuals from $6,000 to $7,000 and 
for married individuals filing jointly from $12,000 to $14,000. 
The taxable income levels for the 10-percent regular income tax 
rate bracket will be adjusted annually for inflation for 
taxable years beginning after December 31, 2003.

Reduction of other regular income tax rates

      The Senate amendment accelerates the reductions in the 
regular income tax rates in excess of the 15-percent regular 
income tax rate that are scheduled for 2004 and 2006. 
Therefore, for 2003 and thereafter, the regular income tax 
rates in excess of 15 percent under the bill are 25 percent, 28 
percent, 33 percent, and 35 percent.

Alternative minimum tax exemption amounts

      The Senate amendment increases the AMT exemption amount 
for married taxpayers filing a joint return and surviving 
spouses to $60,500, and for unmarried taxpayers to $41,500, for 
taxable years beginning in 2003, 2004 and 2005.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2002 
and before January 1, 2006.

                          CONFERENCE AGREEMENT

Ten-percent regular income tax rate

      The conference agreement accelerates the increase in the 
taxable income levels for the 10-percent rate bracket now 
scheduled for 2008 to be effective in 2003 and 2004. 
Specifically, for 2003 and 2004, the conference agreement 
increases the taxable income level for the 10-percent regular 
income tax rate brackets for unmarried individuals from $6,000 
to $7,000 and for married individuals filing jointly from 
$12,000 to $14,000. The taxable income levels for the 10-
percent regular income tax rate bracket will be adjusted 
annually for inflation for taxable years beginning after 
December 31, 2003.
      For taxable years beginning after December 31, 2004, the 
taxable income levels for the 10-percent rate bracket will 
revert to the levels allowed under present law. Therefore, for 
2005, 2006, and 2007, the levels will revert to $6,000 for 
unmarried individuals and $12,000 for married individuals 
filing jointly. In 2008, the taxable income levels for the 10-
percent regular income tax rate brackets will be $7,000 for 
unmarried individuals and $14,000 for married individuals 
filing jointly. The taxable income levels for the 10-percent 
rate bracket will be adjusted annually for inflation for 
taxable years beginning after December 31, 2008.

Reduction of other regular income tax rates

      The conference agreement follows the House bill and the 
Senate amendment.

Alternative minimum tax exemption amounts

      The conference agreement increases the AMT exemption 
amount for married taxpayers filing a joint return and 
surviving spouses to $58,000, and for unmarried taxpayers to 
$40,250 for taxable years beginning in 2003 and 2004.

Effective date

      The conference agreement generally is effective for 
taxable years beginning after December 31, 2002. The conferees 
recognize that withholding at statutorily mandated rates (such 
as pursuant to backup withholding under section 3406) has 
already occurred. The conferees intend that taxpayers who have 
been overwithheld as a consequence of this obtain a refund of 
this overwithholding through the normal process of filing an 
income tax return, and not through the payor. In addition, the 
conferees anticipate that the Treasury will provide a brief, 
reasonable period of transition for payors to implement these 
changes in these statutorily mandated withholding rates.

               II. Depreciation and Expensing Provisions


A. Special Depreciation Allowance for Certain Property (Sec. 201 of the 
                  House Bill and Sec. 168 of the Code)


                              PRESENT LAW

In general

      A taxpayer is allowed to recover, through annual 
depreciation deductions, the cost of certain property used in a 
trade or business or for the production of income. The amount 
of the depreciation deduction allowed with respect to tangible 
property for a taxable year is determined under the modified 
accelerated cost recovery system (``MACRS''). Under MACRS, 
different types of property generally are assigned applicable 
recovery periods and depreciation methods. The recovery periods 
applicable to most tangible personal property (generally 
tangible property other than residential rental property and 
nonresidential real property) range from 3 to 25 years. The 
depreciation methods generally applicable to tangible personal 
property are the 200-percent and 150-percent declining balance 
methods, switching to the straight-line method for the taxable 
year in which the depreciation deduction would be maximized.
      Section 280F limits the annual depreciation deductions 
with respect to passenger automobiles to specified dollar 
amounts, indexed for inflation.
      Section 167(f)(1) provides that capitalized computer 
software costs, other than computer software to which section 
197 applies, are recovered ratably over 36 months.
      In lieu of depreciation, a taxpayer with a sufficiently 
small amount of annual investment generally may elect to deduct 
up to $25,000 of the cost of qualifying property placed in 
service for the taxable year (sec. 179). In general, qualifying 
property is defined as depreciable tangible personal property 
that is purchased for use in the active conduct of a trade or 
business.

Additional first year depreciation deduction

      The Job Creation and Worker Assistance Act of 2002 \11\ 
(``JCWAA'') allows an additional first-year depreciation 
deduction equal to 30 percent of the adjusted basis of 
qualified property.\12\ The amount of the additional first-year 
depreciation deduction is not affected by a short taxable year. 
The additional first-year depreciation deduction is allowed for 
both regular tax and alternative minimum tax purposes for the 
taxable year in which the property is placed in service.\13\ 
The basis of the property and the depreciation allowances in 
the year of purchase and later years are appropriately adjusted 
to reflect the additional first-year depreciation deduction. In 
addition, there are no adjustments to the allowable amount of 
depreciation for purposes of computing a taxpayer's alternative 
minimum taxable income with respect to property to which the 
provision applies. A taxpayer is allowed to elect out of the 
additional first-year depreciation for any class of property 
for any taxable year.
---------------------------------------------------------------------------
    \11\ Pub. Law No. 107-147, sec. 101 (2002).
    \12\ The additional first-year depreciation deduction is subject to 
the general rules regarding whether an item is deductible under section 
162 or subject to capitalization under section 263 or section 263A.
    \13\ However, the additional first-year depreciation deduction is 
not allowed for purposes of computing earnings and profits.
---------------------------------------------------------------------------
      In order for property to qualify for the additional 
first-year depreciation deduction it must meet all of the 
following requirements. First, the property must be property 
(1) to which MACRS applies with an applicable recovery period 
of 20 years or less, (2) water utility property (as defined in 
section 168(e)(5)), (3) computer software other than computer 
software covered by section 197, or (4) qualified leasehold 
improvement property (as defined in section 168(k)(3)).\14\ 
Second, the original use \15\ of the property must commence 
with the taxpayer on or after September 11, 2001.\16\ Third, 
the taxpayer must purchase the property within the applicable 
time period. Finally, the property must be placed in service 
before January 1, 2005. An extension of the placed in service 
date of one year (i.e., to January 1, 2006) is provided for 
certain property with a recovery period of ten years or longer 
and certain transportation property.\17\ Transportation 
property is defined as tangible personal property used in the 
trade or business of transporting persons or property.
---------------------------------------------------------------------------
    \14\ A special rule precludes the additional first-year 
depreciation deduction for any property that is required to be 
depreciated under the alternative depreciation system of MACRS.
    \15\ The term ``original use'' means the first use to which the 
property is put, whether or not such use corresponds to the use of such 
property by the taxpayer.
    If in the normal course of its business a taxpayer sells fractional 
interests in property to unrelated third parties, then the original use 
of such property begins with the first user of each fractional interest 
(i.e., each fractional owner is considered the original user of its 
proportionate share of the property).
    \16\ A special rule applies in the case of certain leased property. 
In the case of any property that is originally placed in service by a 
person and that is sold to the taxpayer and leased back to such person 
by the taxpayer within three months after the date that the property 
was placed in service, the property would be treated as originally 
placed in service by the taxpayer not earlier than the date that the 
property is used under the leaseback.
    If property is originally placed in service by a lessor (including 
by operation of section 168(k)(2)(D)(i)), such property is sold within 
three months after the date that the property was placed in service, 
and the user of such property does not change, then the property is 
treated as originally placed in service by the taxpayer not earlier 
than the date of such sale. A technical correction may be needed so the 
statute reflects this intent.
    \17\ In order for property to qualify for the extended placed in 
service date, the property is required to have a production period 
exceeding two years or an estimated production period exceeding one 
year and a cost exceeding $1 million.
---------------------------------------------------------------------------
      The applicable time period for acquired property is (1) 
after September 10, 2001 and before September 11, 2004, but 
only if no binding written contract for the acquisition is in 
effect before September 11, 2001, or (2) pursuant to a binding 
written contract which was entered into after September 10, 
2001, and before September 11, 2004.\18\ With respect to 
property that is manufactured, constructed, or produced by the 
taxpayer for use by the taxpayer, the taxpayer must begin the 
manufacture, construction, or production of the property after 
September 10, 2001, and before September 11, 2004. Property 
that is manufactured, constructed, or produced for the taxpayer 
by another person under a contract that is entered into prior 
to the manufacture, construction, or production of the property 
is considered to be manufactured, constructed, or produced by 
the taxpayer. For property eligible for the extended placed in 
service date, a special rule limits the amount of costs 
eligible for the additional first year depreciation. With 
respect to such property, only the portion of the basis that is 
properly attributable to the costs incurred before September 
11, 2004 (``progress expenditures'') is eligible for the 
additional first-year depreciation.\19\
---------------------------------------------------------------------------
    \18\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire 
a component of the property is in effect prior to September 11, 2001.
    \19\ For purposes of determining the amount of eligible progress 
expenditures, it is intended that rules similar to sec. 46(d)(3) as in 
effect prior to the Tax Reform Act of 1986 shall apply.
---------------------------------------------------------------------------
      Property does not qualify for the additional first-year 
depreciation deduction when the user of such property (or a 
related party) would not have been eligible for the additional 
first-year depreciation deduction if the user (or a related 
party) were treated as the owner.\20\ For example, if a 
taxpayer sells to a related party property that was under 
construction prior to September 11, 2001, the property does not 
qualify for the additional first-year depreciation deduction. 
Similarly, if a taxpayer sells to a related party property that 
was subject to a binding written contract prior to September 
11, 2001, the property does not qualify for the additional 
first-year depreciation deduction. As a further example, if a 
taxpayer (the lessee) sells property in a sale-leaseback 
arrangement, and the property otherwise would not have 
qualified for the additional first-year depreciation deduction 
if it were owned by the taxpayer-lessee, then the lessor is not 
entitled to the additional first-year depreciation deduction.
---------------------------------------------------------------------------
    \20\ A technical correction may be needed so that the statute 
reflects this intent.
---------------------------------------------------------------------------
      The limitation on the amount of depreciation deductions 
allowed with respect to certain passenger automobiles (sec. 
280F) is increased in the first year by $4,600 for automobiles 
that qualify (and do not elect out of the increased first year 
deduction). The $4,600 increase is not indexed for inflation.

                               HOUSE BILL

      The House bill provides an additional first-year 
depreciation deduction equal to 50 percent of the adjusted 
basis of qualified property.\21\ Qualified property is defined 
in the same manner as for purposes of the 30-percent additional 
first-year depreciation deduction provided by the JCWAA except 
that the applicable time period for acquisition (or self 
construction) of the property is modified. In addition, 
property must be placed in service before January 1, 2006 to 
qualify.\22\ Property for which the 50-percent additional first 
year depreciation deduction is claimed is not eligible for the 
30-percent additional first year depreciation deduction.
---------------------------------------------------------------------------
    \21\ A taxpayer is permitted to elect out of the 50 percent 
additional first-year depreciation deduction for any class of property 
for any taxable year.
    \22\ An extension of the placed in service date of one year (i.e., 
January 1, 2007) is provided for certain property with a recovery 
period of ten years or longer and certain transportation property as 
defined for purposes of the JCWAA.
---------------------------------------------------------------------------
      Under the House bill, in order to qualify the property 
must be acquired after May 5, 2003 and before January 1, 2006, 
and no binding written contract for the acquisition is in 
effect before May 6, 2003.\23\ With respect to property that is 
manufactured, constructed, or produced by the taxpayer for use 
by the taxpayer, the taxpayer must begin the manufacture, 
construction, or production of the property after May 5, 2003. 
For property eligible for the extended placed in service date 
(i.e., certain property with a recovery period of ten years or 
longer and certain transportation property), a special rule 
limits the amount of costs eligible for the additional first 
year depreciation. With respect to such property, only progress 
expenditures properly attributable to the costs incurred before 
January 1, 2006 shall be eligible for the additional first year 
depreciation.\24\
---------------------------------------------------------------------------
    \23\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire 
a component of the property is in effect prior to May 6, 2003. However, 
no additional first-year depreciation is permitted on any such 
component. No inference is intended as to the proper treatment of 
components placed in service under the 30% additional first-year 
depreciation provided by the JCWAA.
    \24\ For purposes of determining the amount of eligible progress 
expenditures, it is intended that rules similar to sec. 46(d)(3) as in 
effect prior to the Tax Reform Act of 1986 shall apply.
---------------------------------------------------------------------------
      The Committee wishes to clarify that the adjusted basis 
of qualified property acquired by a taxpayer in a like kind 
exchange or an involuntary conversion is eligible for the 
additional first year depreciation deduction.
      The House bill also increases the limitation on the 
amount of depreciation deductions allowed with respect to 
certain passenger automobiles (sec. 280F of the Code) in the 
first year by $9,200 (in lieu of the $4,600 provided under the 
JCWAA) for automobiles that qualify (and do not elect out of 
the increased first year deduction). The $9,200 increase is not 
indexed for inflation.
      For property eligible for the present law 30-percent 
additional first year depreciation, the House bill extends the 
date of the placed in service requirement to property placed in 
service prior to January 1, 2006 (from January 1, 2005). Thus, 
property otherwise qualifying for the 30-percent additional 
first year depreciation deduction will now qualify if placed in 
service prior to January 1, 2006. The House bill also extends 
the placed in service date requirement for certain property 
with a recovery period of ten years or longer and certain 
transportation property to property placed in service prior to 
January 1, 2007 (instead of January 1, 2006). In addition, 
progress expenditures eligible for the 30-percent additional 
first year depreciation is extended to include costs incurred 
prior to January 1, 2006 (instead of September 11, 2004).
      Effective date.--The House bill applies to property 
placed in service after May 5, 2003.

                            SENATE AMENDMENT

      No provision.

                          CONFERENCE AGREEMENT

      The conference agreement follows the House bill provision 
with the following modifications. The conference agreement 
terminates the provision one year earlier than under the House 
bill provision. Thus, all references to January 1, 2007, and 
January 1, 2006, are modified to January 1, 2006, and January 
1, 2005, respectively. In addition, the conference agreement 
provides that the increase on the amount of depreciation 
deductions allowed with respect to certain passenger 
automobiles (sec. 280F of the Code) in the first year is $7,650 
for automobiles that qualify. The $7,650 increase is not 
indexed for inflation.
      Effective date.--The conference agreement applies to 
taxable years ending after May 5, 2003.

B. Increase Section 179 Expensing (Sec. 202 of the House Bill, Sec. 107 
           of the Senate Amendment, and Sec. 179 of the Code)


                              PRESENT LAW

      Present law provides that, in lieu of depreciation, a 
taxpayer with a sufficiently small amount of annual investment 
may elect to deduct up to $25,000 (for taxable years beginning 
in 2003 and thereafter) of the cost of qualifying property 
placed in service for the taxable year (sec. 179).\25\ In 
general, qualifying property is defined as depreciable tangible 
personal property that is purchased for use in the active 
conduct of a trade or business. The $25,000 amount is reduced 
(but not below zero) by the amount by which the cost of 
qualifying property placed in service during the taxable year 
exceeds $200,000. An election to expense these items generally 
is made on the taxpayer's original return for the taxable year 
to which the election relates, and may be revoked only with the 
consent of the Commissioner.\26\ In general, taxpayers may not 
elect to expense off-the-shelf computer software.\27\
---------------------------------------------------------------------------
    \25\ Additional section 179 incentives are provided with respect to 
a qualified property used by a business in the New York Liberty Zone 
(sec. 1400(f)) or an empowerment zone (sec. 1397A).
    \26\ Section 179(c)(2). A taxpayer may make the election on the 
original return (whether or not the return is timely), or on an amended 
return filed by the due date (including extensions) for filing the 
return for the tax year the property was placed in service. If the 
taxpayer timely filed an original return without making the election, 
the taxpayer may still make the election by filing an amended return 
within six months of the due date of the return (excluding extensions). 
Treas. Reg. sec. 1.179-5.
    \27\ Section 179(d)(1) requires that property be tangible to be 
eligible for expensing; in general, computer software is intangible 
property.
---------------------------------------------------------------------------
      The amount eligible to be expensed for a taxable year may 
not exceed the taxable income for a taxable year that is 
derived from the active conduct of a trade or business 
(determined without regard to this provision). Any amount that 
is not allowed as a deduction because of the taxable income 
limitation may be carried forward to succeeding taxable years 
(subject to similar limitations). No general business credit 
under section 38 is allowed with respect to any amount for 
which a deduction is allowed under section 179.

                               HOUSE BILL

      The House bill provision provides that the maximum dollar 
amount that may be deducted under section 179 is increased to 
$100,000 for property placed in service in taxable years 
beginning in 2003, 2004, 2005, 2006, and 2007. In addition, the 
$200,000 amount is increased to $400,000 for property placed in 
service in taxable years beginning in 2003, 2004, 2005, 2006 
and 2007. The dollar limitations are indexed annually for 
inflation for taxable years beginning after 2003 and before 
2008. The provision also includes off-the-shelf computer 
software placed in service in a taxable year beginning in 2003, 
2004, 2005, 2006, or 2007, as qualifying property. With respect 
to a taxable year beginning after 2002 and before 2008, the 
provision permits taxpayers to make or revoke expensing 
elections on amended returns without the consent of the 
Commissioner.
      Effective date.--The provision is effective for taxable 
years beginning after December 31, 2002.

                            SENATE AMENDMENT

      The Senate amendment is the same as the House bill.

                          CONFERENCE AGREEMENT

      The conference agreement follows the House bill and the 
Senate amendment, with modifications. The conference agreement 
provides that the increase in the dollar limitations, as well 
as the provision relating to off-the-shelf computer software, 
apply for property placed in service in taxable years beginning 
in 2003, 2004, and 2005. The conference agreement provides that 
the dollar limitations are indexed annually for inflation for 
taxable years beginning after 2003 and before 2006. With 
respect to a taxable year beginning after 2002 and before 2006, 
the conference agreement permits taxpayers to make or revoke 
expensing elections on amended returns without the consent of 
the Commissioner.
      Effective date.--Same as the House bill and the Senate 
amendment.

 C. Five-Year Carryback of Net Operating Losses (Sec. 203 of the House 
                 Bill and Secs. 172 and 56 of the Code)


                              PRESENT LAW

      A net operating loss (``NOL'') is, generally, the amount 
by which a taxpayer's allowable deductions exceed the 
taxpayer's gross income. A carryback of an NOL generally 
results in the refund of Federal income tax for the carryback 
year. A carryforward of an NOL reduces Federal income tax for 
the carryforward year.
      In general, an NOL may be carried back two years and 
carried forward 20 years to offset taxable income in such 
years.\28\ Different rules apply with respect to NOLs arising 
in certain circumstances. For example, a three-year carryback 
applies with respect to NOLs (1) arising from casualty or theft 
losses of individuals, or (2) attributable to Presidentially 
declared disasters for taxpayers engaged in a farming business 
or a small business. A five-year carryback period applies to 
NOLs from a farming loss (regardless of whether the loss was 
incurred in a Presidentially declared disaster area). Special 
rules also apply to real estate investment trusts (no 
carryback), specified liability losses (10-year carryback), and 
excess interest losses (no carryback to any year preceding a 
corporate equity reduction transaction).
---------------------------------------------------------------------------
    \28\ Sec. 172.
---------------------------------------------------------------------------
      The alternative minimum tax rules provide that a 
taxpayer's NOL deduction cannot reduce the taxpayer's 
alternative minimum taxable income (``AMTI'') by more than 90 
percent of the AMTI (determined without regard to the NOL 
deduction).
      Section 202 of the Job Creation and Worker Assistance Act 
of 2002 \29\ (``JCWAA'') provided a temporary extension of the 
general NOL carryback period to five years (from two years) for 
NOLs arising in taxable years ending in 2001 and 2002. In 
addition, the five-year carryback period applies to NOLs from 
these years that qualify under present law for a three-year 
carryback period (i.e., NOLs arising from casualty or theft 
losses of individuals or attributable to certain Presidentially 
declared disaster areas).
---------------------------------------------------------------------------
    \29\ Pub. L. No. 107-147.
---------------------------------------------------------------------------
      A taxpayer can elect to forgo the five-year carryback 
period. The election to forgo the five-year carryback period is 
made in the manner prescribed by the Secretary of the Treasury 
and must be made by the due date of the return (including 
extensions) for the year of the loss. The election is 
irrevocable. If a taxpayer elects to forgo the five-year 
carryback period, then the losses are subject to the rules that 
otherwise would apply under section 172 absent the 
provision.\30\
---------------------------------------------------------------------------
    \30\ Because JCWAA was enacted after some taxpayers had filed tax 
returns for years affected by the provision, a technical correction is 
needed to provide for a period of time in which prior decisions 
regarding the NOL carryback may be reviewed. Similarly, a technical 
correction is needed to modify the carryback adjustment procedures of 
sec. 6411 for NOLs arising in 2001 and 2002. These issues were 
addressed in a letter dated April 15, 2002, sent by the Chairmen and 
Ranking Members of the House Ways and Means Committee and Senate 
Finance Committee, as well as in guidance issued by the IRS pursuant to 
the Congressional letter (Rev. Proc. 2002-40, 2002-23 I.R.B. 1096, June 
10, 2002).
---------------------------------------------------------------------------
      JCWAA also provided that an NOL deduction attributable to 
NOL carrybacks arising in taxable years ending in 2001 and 
2002, as well as NOL carryforwards to these taxable years, may 
offset 100 percent of a taxpayer's AMTI.\31\
---------------------------------------------------------------------------
    \31\ Section 172(b)(2) should be appropriately applied in computing 
AMTI to take proper account of the order that the NOL carryovers and 
carrybacks are used as a result of this provision. See section 
56(d)(1)(B)(ii).
---------------------------------------------------------------------------

                               HOUSE BILL

      The provision extends the provisions of the five-year 
carryback of NOLs enacted in JCWAA to NOLs arising in taxable 
years ending in 2003, 2004, and 2005.\32\
---------------------------------------------------------------------------
    \32\ Because certain taxpayers may have already filed tax returns 
(or in the process of filing tax returns) for taxable years ending in 
2003, the proposal contains special rules to provide until November 1, 
2003 in which prior decisions regarding the NOL carryback may be 
reviewed by taxpayers.
---------------------------------------------------------------------------
      The provision also allows an NOL deduction attributable 
to NOL carrybacks arising in taxable years ending in 2003, 
2004, and 2005, as well as NOL carryforwards to these taxable 
years, to offset 100 percent of a taxpayer's AMTI.
      Effective date.--The five-year carryback provision is 
effective for net operating losses generated in taxable years 
ending in 2003, 2004 and 2005. The provision relating to AMTI 
is effective for NOL carrybacks arising in, and NOL 
carryforwards to, taxable years ending in 2003, 2004 and 2005.

                            SENATE AMENDMENT

      No provision.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the House bill 
provision.

              III. Capital Gains and Dividends Provisions


 A. Reduce Individual Capital Gains Rates (Sec. 301 of the House Bill 
                       and Sec. 1(h) of the Code)


                              PRESENT LAW

      In general, gain or loss reflected in the value of an 
asset is not recognized for income tax purposes until a 
taxpayer disposes of the asset. On the sale or exchange of a 
capital asset, any gain generally is included in income. Any 
net capital gain of an individual is taxed at maximum rates 
lower than the rates applicable to ordinary income. Net capital 
gain is the excess of the net long-term capital gain for the 
taxable year over the net short-term capital loss for the year. 
Gain or loss is treated as long-term if the asset is held for 
more than one year.
      Capital losses generally are deductible in full against 
capital gains. In addition, individual taxpayers may deduct 
capital losses against up to $3,000 of ordinary income in each 
year. Any remaining unused capital losses may be carried 
forward indefinitely to another taxable year.
      A capital asset generally means any property except (1) 
inventory, stock in trade, or property held primarily for sale 
to customers in the ordinary course of the taxpayer's trade or 
business, (2) depreciable or real property used in the 
taxpayer's trade or business, (3) specified literary or 
artistic property, (4) business accounts or notes receivable, 
(5) certain U.S. publications, (6) certain commodity derivative 
financial instruments, (7) hedging transactions, and (8) 
business supplies. In addition, the net gain from the 
disposition of certain property used in the taxpayer's trade or 
business is treated as long-term capital gain. Gain from the 
disposition of depreciable personal property is not treated as 
capital gain to the extent of all previous depreciation 
allowances. Gain from the disposition of depreciable real 
property is generally not treated as capital gain to the extent 
of the depreciation allowances in excess of the allowances that 
would have been available under the straight-line method of 
depreciation.
      The maximum rate of tax on the adjusted net capital gain 
of an individual is 20 percent. In addition, any adjusted net 
capital gain which otherwise would be taxed at a 15-percent 
rate is taxed at a 10-percent rate. These rates apply for 
purposes of both the regular tax and the alternative minimum 
tax.
      The ``adjusted net capital gain'' of an individual is the 
net capital gain reduced (but not below zero) by the sum of the 
28-percent rate gain and the unrecaptured section 1250 gain. 
The net capital gain is reduced by the amount of gain that the 
individual treats as investment income for purposes of 
determining the investment interest limitation under section 
163(d).
      The term ``28-percent rate gain'' means the amount of net 
gain attributable to long-term capital gains and losses from 
the sale or exchange of collectibles (as defined in section 
408(m) without regard to paragraph (3) thereof), an amount of 
gain equal to the amount of gain excluded from gross income 
under section 1202 (relating to certain small business 
stock),\33\ the net short-term capital loss for the taxable 
year, and any long-term capital loss carryover to the taxable 
year.
---------------------------------------------------------------------------
    \33\ This results in a maximum effective regular tax rate on 
qualified gain from small business stock of 14 percent.
---------------------------------------------------------------------------
      ``Unrecaptured section 1250 gain'' means any long-term 
capital gain from the sale or exchange of section 1250 property 
(i.e., depreciable real estate) held more than one year to the 
extent of the gain that would have been treated as ordinary 
income if section 1250 applied to all depreciation, reduced by 
the net loss (if any) attributable to the items taken into 
account in computing 28-percent rate gain. The amount of 
unrecaptured section 1250 gain (before the reduction for the 
net loss) attributable to the disposition of property to which 
section 1231 applies shall not exceed the net section 1231 gain 
for the year.
      The unrecaptured section 1250 gain is taxed at a maximum 
rate of 25 percent, and the 28-percent rate gain is taxed at a 
maximum rate of 28 percent. Any amount of unrecaptured section 
1250 gain or 28-percent rate gain otherwise taxed at a 15-
percent rate is taxed at the 15-percent rate.
      Any gain from the sale or exchange of property held more 
than five years that would otherwise be taxed at the 10-percent 
rate is taxed at an 8-percent rate. Any gain from the sale or 
exchange of property held more than five years and the holding 
period for which begins after December 31, 2000, which would 
otherwise be taxed at a 20-percent rate is taxed at an 18-
percent rate.

                               HOUSE BILL

      The House bill reduces the 10- and 20 percent rates on 
the adjusted net capital gain to five and 15 percent, 
respectively. These lower rates apply to both the regular tax 
and the alternative minimum tax. The lower rates apply to 
assets held more than one year.
      Effective date.--The provision applies to taxable years 
ending on or after May 6, 2003, and beginning before January 1, 
2013. For taxable years that include May 6, 2003, the lower 
rates apply to amounts properly taken into account for the 
portion of the year on or after that date. This generally has 
the effect of applying the lower rates to capital assets sold 
or exchanged (and installment payments received) on or after 
May 6, 2003. In the case of gain and loss taken into account by 
a pass-through entity, the date taken into account by the 
entity is the appropriate date for applying this rule.

                            SENATE AMENDMENT

      No provision.

                          CONFERENCE AGREEMENT

      The conference agreement follows the House bill, except 
that the 5-percent tax rate is reduced to zero percent for 
taxable years beginning after December 31, 2007.
      Effective date.--The effective date is the same as the 
House bill, except that the provision does not apply to taxable 
years beginning after December 31, 2008.

 B. Treatment of Dividend Income of Individuals (Sec. 302 of the House 
   Bill, Sec. 201 of the Senate Amendment, and Sec. 1(h) of the Code)


                              PRESENT LAW

      Under present law, dividends received by an individual 
are included in gross income and taxed as ordinary income at 
rates up to 38.6 percent.\34\
---------------------------------------------------------------------------
    \34\ Section 105 of the bill reduces the maximum rate to 35 
percent.
---------------------------------------------------------------------------
      The rate of tax on the net capital gain of an individual 
generally is 20 percent (10 percent \35\ with respect to income 
which would otherwise be taxed at the 10- or 15-percent 
rate).\36\ Net capital gain means net gain from the sale or 
exchange of capital assets held for more than one year in 
excess of net loss from the sale or exchange of capital assets 
held not more than one year.
---------------------------------------------------------------------------
    \35\ An eight percent rate applies to property held more than five 
years.
    \36\ Section 301 of the bill reduces the capital gain rates to five 
percent (zero percent for taxable years beginning after 2007) and 15 
percent, respectively.
---------------------------------------------------------------------------

                               HOUSE BILL

      Under the House bill, dividends received by an individual 
shareholder from domestic corporations are taxed at the same 
rates that apply to net capital gain. This treatment applies 
for purposes of both the regular tax and the alternative 
minimum tax. Thus, under the provision, dividends will be taxed 
at rates of five and 15 percent.\37\
---------------------------------------------------------------------------
    \37\ Payments in lieu of dividends are not eligible for the 
exclusion. See sections 6042(a) and 6045(d) relating to statements 
required to be furnished by brokers regarding these payments.
---------------------------------------------------------------------------
      If a shareholder does not hold a share of stock for more 
than 45 days during the 90-day period beginning 45 days before 
the ex-dividend date (as measured under section 246(c)),\38\ 
dividends received on the stock are not eligible for the 
reduced rates. Also, the reduced rates are not available for 
dividends to the extent that the taxpayer is obligated to make 
related payments with respect to positions in substantially 
similar or related property.
---------------------------------------------------------------------------
    \38\ In the case of preferred stock, the periods are doubled.
---------------------------------------------------------------------------
      If an individual receives an extraordinary dividend 
(within the meaning of section 1059(c)) eligible for the 
reduced rates with respect to any share of stock, any loss on 
the sale of the stock is treated as a long-term capital loss to 
the extent of the dividend.
      A dividend is treated as investment income for purposes 
of determining the amount of deductible investment interest 
only if the taxpayer elects to treat the dividend as not 
eligible for the reduced rates.
      The amount of dividends qualifying for reduced rates that 
may be paid by a regulated investment company (``RIC'') or real 
estate investment trust (``REIT''), for any taxable year that 
the aggregate qualifying dividends received by the RIC or REIT 
are less than 95 percent of its gross income (as specially 
computed), may not exceed the amount of the aggregate 
qualifying dividends received by the company or trust.
      The reduced rates do not apply to dividends received from 
an organization that was exempt from tax under section 501 or 
was a tax-exempt farmers' cooperative in either the taxable 
year of the distribution or the preceding taxable year; 
dividends received from a mutual savings bank that received a 
deduction under section 591; or deductible dividends paid on 
employer securities.
      The tax rate for the accumulated earnings tax (sec. 531) 
and the personal holding company tax (sec. 541) is reduced to 
15 percent.
      Amounts treated as ordinary income on the disposition of 
certain preferred stock (sec. 306) are treated as dividends for 
purposes of applying the reduced rates.
      The collapsible corporation rules (sec. 341) are 
repealed.
      Effective date.--The provision is effective for taxable 
years beginning after December 31, 2002, and beginning before 
January 1, 2013.

                            SENATE AMENDMENT

      Under the Senate amendment, an individual may exclude 
from gross income dividends received with respect to stock of a 
domestic corporation, and stock of a foreign corporation that 
is regularly tradable on an established securities market.
      For taxable years beginning in 2003, 50 percent of the 
dividend may be excluded from income. For taxable years 
beginning after 2006, the exclusion no longer applies.
      If a shareholder does not hold a share of stock for more 
than 45 days during the 90-day period beginning 45 days before 
the ex-dividend date (as measured under section 246(c)),\39\ 
dividends received on the stock are not eligible for the 
exclusion. Also, the exclusion is not available for dividends 
to the extent that the taxpayer is obligated to make related 
payments with respect to positions in substantially similar or 
related property.
---------------------------------------------------------------------------
    \39\ In the case of preferred stock, the periods are doubled.
---------------------------------------------------------------------------
      If an individual receives an extraordinary dividend 
(within the meaning of section 1059(c)) eligible for the 
exclusion with respect to any share of stock, the basis of the 
share is reduced by the amount of the dividend excludable from 
income.
      A dividend is treated as investment income for purposes 
of determining the amount of deductible investment interest 
only if the taxpayer elects to treat the dividend as not 
eligible for the exclusion.
      The amount of dividends qualifying for the exclusion that 
may be paid by a RIC or REIT, for any taxable year that the 
aggregate qualifying dividends received by the company or trust 
are less than 95 percent of its gross income (as specially 
computed), may not exceed the amount of such aggregate 
dividends received by the company or trust.
      The exclusion does not apply to dividends received from 
an organization that was exempt from tax under section 501 or 
was a tax-exempt farmers' cooperative in either the taxable 
year of the distribution or the preceding taxable year; 
dividends received from a mutual savings bank that received a 
deduction under section 591; deductible dividends paid on 
employer securities; or dividends received from a foreign 
corporation that was a foreign investment company (as defined 
in section 1246(b)), a passive foreign investment company (as 
defined in section 1297), or a foreign personal holding company 
(as defined in section 552) in either the taxable year of the 
distribution or the preceding taxable year.
      In the case of a nonresident alien, the exclusion applies 
only for purposes of determining the taxes imposed pursuant to 
sections 871(b) and 877.
      No foreign tax credit, or deduction with respect to taxes 
paid, is allowable with respect to dividends excluded under 
this provision.
      Dividends excluded under the proposal are included in 
modified adjusted gross income for purposes of the provisions 
of the Code determining the amount of any income inclusion, 
exclusion, deduction or credit based on the amount of that 
income.\40\ Also in determining eligibility for the earned 
income credit, any dividends excluded from gross income under 
this provision are included in disqualified income for purposes 
of the determining whether the individual has excessive 
investment income.
---------------------------------------------------------------------------
    \40\ These provisions include sections 86, 135, 137, 219, 221, 222, 
408A, 469, 530, and the nonrefundable personal credits.
---------------------------------------------------------------------------
      The tax rate for the accumulated earnings tax (sec. 531) 
and the personal holding company tax (sec. 541) is the taxable 
percent (i.e., 100 percent less the excludable percentage 
applicable to dividends received in the taxable year) of the 
highest individual tax rate.
      Amounts treated as ordinary income on the disposition of 
certain preferred stock (sec. 306) are treated as dividends for 
purposes of the exclusion.
      The collapsible corporation rules (sec. 341) are 
repealed.
      Effective date.--The provision is effective for taxable 
years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement follows the House bill taxing 
dividends at the same rates as net capital gain with the 
following modifications:
      The 45-day holding period requirement is increased to 60 
days during the 120-day period beginning 60 days before the ex-
dividend date.
      Qualified dividend income includes otherwise qualified 
dividends received from qualified foreign corporations. The 
term ``qualified foreign corporation'' includes a foreign 
corporation that is eligible for the benefits of a 
comprehensive income tax treaty with the United States which 
the Treasury Department determines to be satisfactory for 
purposes of this provision, and which includes an exchange of 
information program. The conferees do not believe that the 
current income tax treaty between the United States and 
Barbados is satisfactory for this purpose because that treaty 
may operate to provide benefits that are intended for the 
purpose of mitigating or eliminating double taxation to 
corporations that are not at risk of double taxation. The 
conferees intend that, until the Treasury Department issues 
guidance regarding the determination of treaties as 
satisfactory for this purpose, a foreign corporation will be 
considered to be a qualified foreign corporation if it is 
eligible for the benefits of a comprehensive income tax treaty 
with the United States that includes an exchange of information 
program other than the current U.S.-Barbados income tax treaty. 
The conferees further intend that a company will be eligible 
for benefits of a comprehensive income tax treaty within the 
meaning of this provision if it would qualify for the benefits 
of the treaty with respect to substantially all of its income 
in the taxable year in which the dividend is paid.
      In addition, a foreign corporation is treated as a 
qualified foreign corporation with respect to any dividend paid 
by the corporation with respect to stock that is readily 
tradable on an established securities market in the United 
States.\41\
---------------------------------------------------------------------------
    \41\ For this purpose, a share shall be treated as so traded if an 
American Depository Receipt (ADR) backed by such share is so traded.
---------------------------------------------------------------------------
      Dividends received from a foreign corporation that was a 
foreign investment company (as defined in section 1246(b)), a 
passive foreign investment company (as defined in section 
1297), or a foreign personal holding company (as defined in 
section 552) in either the taxable year of the distribution or 
the preceding taxable year are not qualified dividends.
      Special rules apply in determining a taxpayer's foreign 
tax credit limitation under section 904 in the case of 
qualified dividend income. For these purposes, rules similar to 
the rules of section 904(b)(2)(B) concerning adjustments to the 
foreign tax credit limitation to reflect any capital gain rate 
differential will apply to any qualified dividend income. 
Additionally, it is anticipated that regulations promulgated 
under this provision will coordinate the operation of the rules 
applicable to qualified dividend income and capital gain.
      In the case of a REIT, an amount equal to the excess of 
the income subject to the taxes imposed by section 857(b)(1) 
and the regulations prescribed under section 337(d) for the 
preceding taxable year over the amount of these taxes for the 
preceding taxable year is treated as qualified dividend income.
      In the case of brokers and dealers who engage in 
securities lending transactions, short sales, or other similar 
transactions on behalf of their customers in the normal course 
of their trade or business, the conferees intend that the IRS 
will exercise its authority under section 6724(a) to waive 
penalties where dealers and brokers attempt in good faith to 
comply with the information reporting requirements under 
sections 6042 and 6045, but are unable to reasonably comply 
because of the period necessary to conform their information 
reporting systems to the retroactive rate reductions on 
qualified dividends provided by the conference agreement. In 
addition, the conferees expect that individual taxpayers who 
receive payments in lieu of dividends from these transactions 
may treat the payments as dividend income to the extent that 
the payments are reported to them as dividend income on their 
Forms 1099-DIV received for calendar year 2003, unless they 
know or have reason to know that the payments are in fact 
payments in lieu of dividends rather than actual dividends. The 
conferees expect that the Treasury Department will issue 
guidance as rapidly as possible on information reporting with 
respect to payments in lieu of dividends made to individuals.
      The conference agreement provides that the amendment to 
section 306 treating certain ordinary income as a dividend for 
purposes of the rate computation under section 1(h) may also 
apply to such other provisions as the Secretary may provide, 
including provisions at the corporate level.
      Effective date.--The conference agreement applies to 
taxable years beginning after December 31, 2002, and beginning 
before January 1, 2009.

                     IV. Corporate Estimated Taxes


 A. Modification to Corporate Estimated Tax Requirements (Sec. 401 of 
                            the House Bill)


                              PRESENT LAW

      In general, corporations are required to make quarterly 
estimated tax payments of their income tax liability (section 
6655). For a corporation whose taxable year is a calendar year, 
these estimated tax payments must be made by April 15, June 15, 
September 15, and December 15.

                               HOUSE BILL

      With respect to corporate estimated tax payments due on 
September 15, 2003, 52 percent is required to be paid by 
October 1, 2003.
      Effective date.--The provision is effective on the date 
of enactment.

                            SENATE AMENDMENT

      No provision.

                          CONFERENCE AGREEMENT

      With respect to corporate estimated tax payments due on 
September 15, 2003, 25 percent is required to be paid by 
October 1, 2003.
      Effective date.--The provision is effective on the date 
of enactment.

                         V. Revenue Provisions


             A. Provisions Designed To Curtail Tax Shelters


1. Clarification of the economic substance doctrine (sec. 301 of the 
        Senate amendment and sec. 7701 of the Code)

                              PRESENT LAW

In general

      The Code provides specific rules regarding the 
computation of taxable income, including the amount, timing, 
source, and character of items of income, gain, loss and 
deduction. These rules are designed to provide for the 
computation of taxable income in a manner that provides for a 
degree of specificity to both taxpayers and the government. 
Taxpayers generally may plan their transactions in reliance on 
these rules to determine the federal income tax consequences 
arising from the transactions.
      In addition to the statutory provisions, courts have 
developed several doctrines that can be applied to deny the tax 
benefits of tax motivated transactions, notwithstanding that 
the transaction may satisfy the literal requirements of a 
specific tax provision. The common-law doctrines are not 
entirely distinguishable, and their application to a given set 
of facts is often blurred by the courts and the IRS. Although 
these doctrines serve an important role in the administration 
of the tax system, invocation of these doctrines can be seen as 
at odds with an objective, ``rule-based'' system of taxation. 
Nonetheless, courts have applied the doctrines to deny tax 
benefits arising from certain transactions.\42\
---------------------------------------------------------------------------
    \42\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d 231 (3d 
Cir. 1998), aff'g 73 T.C.M. (CCH) 2189 (1997), cert. denied 526 U.S. 
1017 (1999).
---------------------------------------------------------------------------
      A common-law doctrine applied with increasing frequency 
is the ``economic substance'' doctrine. In general, this 
doctrine denies tax benefits arising from transactions that do 
not result in a meaningful change to the taxpayer's economic 
position other than a purported reduction in federal income 
tax.\43\
---------------------------------------------------------------------------
    \43\ Closely related doctrines also applied by the courts 
(sometimes interchangeable with the economic substance doctrine) 
include the ``sham transaction doctrine'' and the ``business purpose 
doctrine''. See, e.g., Knetsch v. United States, 364 U.S. 361 (1960) 
(denying interest deductions on a ``sham transaction'' whose only 
purpose was to create the deductions).
---------------------------------------------------------------------------
            Economic substance doctrine
      Courts generally deny claimed tax benefits if the 
transaction that gives rise to those benefits lacks economic 
substance independent of tax considerations--notwithstanding 
that the purported activity actually occurred. The tax court 
has described the doctrine as follows:

          The tax law * * * requires that the intended 
        transactions have economic substance separate and 
        distinct from economic benefit achieved solely by tax 
        reduction. The doctrine of economic substance becomes 
        applicable, and a judicial remedy is warranted, where a 
        taxpayer seeks to claim tax benefits, unintended by 
        Congress, by means of transactions that serve no 
        economic purpose other than tax savings.\44\
---------------------------------------------------------------------------
    \44\ ACM Partnership v. Commissioner, 73 T.C.M. at 2215.
---------------------------------------------------------------------------
            Business purpose doctrine
      Another common law doctrine that overlays and is often 
considered together with (if not part and parcel of) the 
economic substance doctrine is the business purpose doctrine. 
The business purpose test is a subjective inquiry into the 
motives of the taxpayer--that is, whether the taxpayer intended 
the transaction to serve some useful non-tax purpose. In making 
this determination, some courts have bifurcated a transaction 
in which independent activities with non-tax objectives have 
been combined with an unrelated item having only tax-avoidance 
objectives in order to disallow the tax benefits of the overall 
transaction.\45\
---------------------------------------------------------------------------
    \45\ ACM Partnership v. Commissioner, 157 F.3d at 256 n.48.
---------------------------------------------------------------------------

Application by the courts

            Elements of the doctrine
      There is a lack of uniformity regarding the proper 
application of the economic substance doctrine. Some courts 
apply a conjunctive test that requires a taxpayer to establish 
the presence of both economic substance (i.e., the objective 
component) and business purpose (i.e., the subjective 
component) in order for the transaction to sustain court 
scrutiny.\46\ A narrower approach used by some courts is to 
invoke the economic substance doctrine only after a 
determination that the transaction lacks both a business 
purpose and economic substance (i.e., the existence of either a 
business purpose or economic substance would be sufficient to 
respect the transaction).\47\ A third approach regards economic 
substance and business purpose as ``simply more precise factors 
to consider'' in determining whether a transaction has any 
practical economic effects other than the creation of tax 
benefits.\48\
---------------------------------------------------------------------------
    \46\ See, e.g., Pasternak v. Commissioner, 990 F.2d 893, 898 (6th 
Cir. 1993) (``The threshold question is whether the transaction has 
economic substance. If the answer is yes, the question becomes whether 
the taxpayer was motivated by profit to participate in the 
transaction.'')
    \47\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d 89, 
91-92 (4th Cir. 1985) (``To treat a transaction as a sham, the court 
must find that the taxpayer was motivated by no business purposes other 
than obtaining tax benefits in entering the transaction, and, second, 
that the transaction has no economic substance because no reasonable 
possibility of a profit exists.''); IES Industries v. United States, 
253 F.3d 350, 358 (8th Cir. 2001) (``In determining whether a 
transaction is a sham for tax purposes [under the Eighth Circuit test], 
a transaction will be characterized as a sham if it is not motivated by 
any economic purpose out of tax considerations (the business purpose 
test), and if it is without economic substance because no real 
potential for profit exists'' (the economic substance test).'') As 
noted earlier, the economic substance doctrine and the sham transaction 
doctrine are similar and sometimes are applied interchangeably. For a 
more detailed discussion of the sham transaction doctrine, see, e.g., 
Joint Committee on Taxation, Study of Present-Law Penalty and Interest 
Provisions as Required by Section 3801 of the Internal Revenue Service 
Restructuring and Reform Act of 1998 (including Provisions Relating to 
Corporate Tax Shelters) (JCS-3-99) at 182.
    \48\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d at 247; 
James v. Commissioner, 899 F.2d 905, 908 (10th Cir. 1995); Sacks v. 
Commissioner, 69 F.3d 982, 985 (9th Cir. 1995) (``Instead, the 
consideration of business purpose and economic substance are simply 
more precise factors to consider * * * . We have repeatedly and 
carefully noted that this formulation cannot be used as a `rigid two-
step analysis'.'').
---------------------------------------------------------------------------
            Profit potential
      There also is a lack of uniformity regarding the 
necessity and level of profit potential necessary to establish 
economic substance. Since the time of Gregory, several courts 
have denied tax benefits on the grounds that the subject 
transactions lacked profit potential.\49\ In addition, some 
courts have applied the economic substance doctrine to disallow 
tax benefits in transactions in which a taxpayer was exposed to 
risk and the transaction had a profit potential, but the court 
concluded that the economic risks and profit potential were 
insignificant when compared to the tax benefits.\50\ Under this 
analysis, the taxpayer's profit potential must be more than 
nominal. Conversely, other courts view the application of the 
economic substance doctrine as requiring an objective 
determination of whether a ``reasonable possibility of profit'' 
from the transaction existed apart from the tax benefits.\51\ 
In these cases, in assessing whether a reasonable possibility 
of profit exists, it is sufficient if there is a nominal amount 
of pre-tax profit as measured against expected net tax 
benefits.
---------------------------------------------------------------------------
    \49\ See, e.g., Knetsch, 364 U.S. at 361; Goldstein v. 
Commissioner, 364 F.2d 734 (2d Cir. 1966) (holding that an 
unprofitable, leveraged acquisition of Treasury bills, and accompanying 
prepaid interest deduction, lacked economic substance); Ginsburg v. 
Commissioner, 35 T.C.M. (CCH) 860 (1976) (holding that a leveraged 
cattle-breeding program lacked economic substance).
    \50\ See, e.g., Goldstein v. Commissioner, 364 F.2d at 739-40 
(disallowing deduction even though taxpayer had a possibility of small 
gain or loss by owning Treasury bills); Sheldon v. Commissioner, 94 
T.C. 738, 768 (1990) (stating, ``potential for gain * * * is 
infinitesimally nominal and vastly insignificant when considered in 
comparison with the claimed deductions'').
    \51\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d at 94 
(the economic substance inquiry requires an objective determination of 
whether a reasonable possibility of profit from the transaction existed 
apart from tax benefits); Compaq Computer Corp. v. Commissioner, 277 
F.3d at 781 (applied the same test, citing Rice's Toyota World); IES 
Industries v. United States, 253 F.3d at 354 (the application of the 
objective economic substance test involves determining whether there 
was a ``reasonable possibility of profit * * * apart from tax 
benefits.'').
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

In general

      The Senate amendment clarifies and enhances the 
application of the economic substance doctrine. The Senate 
amendment provides that a transaction has economic substance 
(and thus satisfies the economic substance doctrine) only if 
the taxpayer establishes that (1) the transaction changes in a 
meaningful way (apart from Federal income tax consequences) the 
taxpayer's economic position, and (2) the taxpayer has a 
substantial non-tax purpose for entering into such transaction 
and the transaction is a reasonable means of accomplishing such 
purpose.\52\
---------------------------------------------------------------------------
    \52\ If the tax benefits are clearly contemplated and expected by 
the language and purpose of the relevant authority, it is not intended 
that such tax benefits be disallowed if the only reason for such 
disallowance is that the transaction fails the economic substance 
doctrine as defined in this provision.
---------------------------------------------------------------------------
      The Senate amendment does not change current law 
standards used by courts in determining when to utilize an 
economic substance analysis. Also, the Senate amendment does 
not alter the court's ability to aggregate or disaggregate a 
transaction when applying the doctrine. The Senate amendment 
provides a uniform definition of economic substance, but does 
not alter court flexibility in other respects.

Conjunctive analysis

      The Senate amendment clarifies that the economic 
substance doctrine involves a conjunctive analysis--there must 
be an objective inquiry regarding the effects of the 
transaction on the taxpayer's economic position, as well as a 
subjective inquiry regarding the taxpayer's motives for 
engaging in the transaction. Under the Senate amendment, a 
transaction must satisfy both tests--i.e., it must change in a 
meaningful way (apart from Federal income tax consequences) the 
taxpayer's economic position, and the taxpayer must have a 
substantial non-tax purpose for entering into such transaction 
(and the transaction is a reasonable means of accomplishing 
such purpose)--in order to satisfy the economic substance 
doctrine. This clarification eliminates the disparity that 
exists among the circuits regarding the application of the 
doctrine, and modifies its application in those circuits in 
which either a change in economic position or a non-tax 
business purpose (without having both) is sufficient to satisfy 
the economic substance doctrine.

Non-tax business purpose

      The Senate amendment provides that a taxpayer's non-tax 
purpose for entering into a transaction (the second prong in 
the analysis) must be ``substantial,'' and that the transaction 
must be ``a reasonable means'' of accomplishing such purpose. 
Under this formulation, the non-tax purpose for the transaction 
must bear a reasonable relationship to the taxpayer's normal 
business operations or investment activities.\53\
---------------------------------------------------------------------------
    \53\ See, Martin McMahon Jr., Economic Substance, Purposive 
Activity, and Corporate Tax Shelters, 94 Tax Notes 1017, 1023 (Feb. 25, 
2002) (advocates ``confining the most rigorous application of business 
purpose, economic substance, and purposive activity tests to 
transactions outside the ordinary course of the taxpayer's business--
those transactions that do not appear to contribute to any business 
activity or objective that the taxpayer may have had apart from tax 
planning but are merely loss generators.''); Mark P. Gergen, The Common 
Knowledge of Tax Abuse, 54 SMU L. Rev. 131, 140 (Winter 2001) (``The 
message is that you can pick up tax gold if you find it in the street 
while going about your business, but you cannot go hunting for it.'').
---------------------------------------------------------------------------
      In determining whether a taxpayer has a substantial non-
tax business purpose, an objective of achieving a favorable 
accounting treatment for financial reporting purposes will not 
be treated as having a substantial non-tax purpose if the 
origin of such financial accounting benefit is a reduction of 
income tax. Furthermore, a transaction that is expected to 
increase financial accounting income as a result of generating 
tax deductions or losses without a corresponding financial 
accounting charge (i.e., a permanent book-tax difference) \54\ 
should not be considered to have a substantial non-tax purpose 
unless a substantial non-tax purpose exists apart from the 
financial accounting benefits.\55\
---------------------------------------------------------------------------
    \54\ This includes tax deductions or losses that are anticipated to 
be recognized in a period subsequent to the period the financial 
accounting benefit is recognized. For example, FAS 109 in some cases 
permits the recognition of financial accounting benefits prior to the 
period in which the tax benefits are recognized for income tax 
purposes.
    \55\ Claiming that a financial accounting benefit constitutes a 
substantial non-tax purpose fails to consider the origin of the 
accounting benefit (i.e., reduction of taxes) and significantly 
diminishes the purpose for having a substantial non-tax purpose 
requirement. See, e.g., American Electric Power, Inc. v. U.S., 136 F. 
Supp. 2d 762, 791-92 (S.D. Ohio, 2001), aff'd by 2003 Fed. App. para. 
0125 (CCH) (6th Cir. 2003) (``AEP's intended use of the cash flows 
generated by the [corporate-owned life insurance] plan is irrelevant to 
the subjective prong of the economic substance analysis. If a 
legitimate business purpose for the use of the tax savings `were 
sufficient to breathe substance into a transaction whose only purpose 
was to reduce taxes, [then] every sham tax-shelter device might 
succeed,' '' citing Winn-Dixie v. Commissioner, 113 T.C. 254, 287 
(1999)).
---------------------------------------------------------------------------
      By requiring that a transaction be a ``reasonable means'' 
of accomplishing its non-tax purpose, the Senate amendment 
broadens the ability of the courts to bifurcate a transaction 
in which independent activities with non-tax objectives are 
combined with an unrelated item having only tax-avoidance 
objectives in order to disallow the tax benefits of the overall 
transaction.

Profit potential

      Under the Senate amendment, a taxpayer may rely on 
factors other than profit potential to demonstrate that a 
transaction results in a meaningful change in the taxpayer's 
economic position; the Senate amendment merely sets forth a 
minimum threshold of profit potential if that test is relied on 
to demonstrate a meaningful change in economic position. If a 
taxpayer relies on a profit potential, however, the present 
value of the reasonably expected pre-tax profit must be 
substantial in relation to the present value of the expected 
net tax benefits that would be allowed if the transaction were 
respected.\56\ Moreover, the profit potential must exceed a 
risk-free rate of return. In addition, in determining pre-tax 
profit, fees and other transaction expenses and foreign taxes 
are treated as expenses.
---------------------------------------------------------------------------
    \56\ Thus, a ``reasonable possibility of profit'' will not be 
sufficient to establish that a transaction has economic substance.
---------------------------------------------------------------------------
      A lessor of tangible property subject to a qualified 
lease shall be considered to have satisfied the profit test 
with respect to the leased property. For this purpose, a 
``qualified lease'' is a lease that satisfies the factors for 
advance ruling purposes as provided by the Treasury 
Department.\57\ In applying the profit test to the lessor of 
tangible property, certain deductions and other applicable tax 
credits (such as the rehabilitation tax credit and the low 
income housing tax credit) are not taken into account in 
measuring tax benefits. Thus, a traditional leveraged lease is 
not affected by the Senate amendment to the extent it meets the 
present law standards.
---------------------------------------------------------------------------
    \57\ See Rev. Proc. 2001-28, 2001-19 I.R.B. 1156 which provides 
guidelines that must be present for a lease to be eligible for advance 
ruling purposes. It is intended that a lease that satisfies Treasury 
Department guidelines for advance ruling purposes would be treated as a 
qualified lease.
---------------------------------------------------------------------------

Transactions with tax-indifferent parties

      The Senate amendment also provides special rules for 
transactions with tax-indifferent parties. For this purpose, a 
tax-indifferent party means any person or entity not subject to 
Federal income tax, or any person to whom an item would have no 
substantial impact on its income tax liability. Under these 
rules, the form of a financing transaction will not be 
respected if the present value of the tax deductions to be 
claimed is substantially in excess of the present value of the 
anticipated economic returns to the lender. Also, the form of a 
transaction with a tax-indifferent party will not be respected 
if it results in an allocation of income or gain to the tax-
indifferent party in excess of the tax-indifferent party's 
economic gain or income or if the transaction results in the 
shifting of basis on account of overstating the income or gain 
of the tax-indifferent party.

Other rules

      The Secretary may prescribe regulations which provide (1) 
exemptions from the application of the Senate amendment, and 
(2) other rules as may be necessary or appropriate to carry out 
the purposes of the Senate amendment.
      No inference is intended as to the proper application of 
the economic substance doctrine under present law. In addition, 
except with respect to the economic substance doctrine, the 
Senate amendment shall not be construed as altering or 
supplanting any other common law doctrine (including the sham 
transaction doctrine), and the Senate amendment shall be 
construed as being additive to any such other doctrine.

Effective date

      The provision applies to transactions entered into on or 
after May 8, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Penalty for failure to disclose reportable transactions (sec. 302 of 
        the Senate amendment 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.\58\
---------------------------------------------------------------------------
    \58\ On 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.
---------------------------------------------------------------------------
      There are six categories of reportable transactions. The 
first category is any transaction that is the same as (or 
substantially similar to)\59\ 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'').\60\
---------------------------------------------------------------------------
    \59\ The 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).
    \60\ Treas. Reg. sec. 1.6011-4(b)(2).
---------------------------------------------------------------------------
      The second category is any transaction that is offered 
under conditions of confidentiality. In general, if a 
taxpayer's disclosure of the structure or tax aspects of the 
transaction is limited in any way by an express or implied 
understanding or agreement with or for the benefit of any 
person who makes or provides a statement, oral or written, as 
to the potential tax consequences that may result from the 
transaction, it is considered offered under conditions of 
confidentiality (whether or not the understanding is legally 
binding).\61\
---------------------------------------------------------------------------
    \61\ Treas. Reg. sec. 1.6011-4(b)(3).
---------------------------------------------------------------------------
      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.\62\
---------------------------------------------------------------------------
    \62\ Treas. Reg. sec. 1.6011-4(b)(4).
---------------------------------------------------------------------------
      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.\63\
---------------------------------------------------------------------------
    \63\ Treas. 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.
---------------------------------------------------------------------------
      The fifth category of reportable transactions refers to 
any transaction done by certain taxpayers \64\ 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.\65\
---------------------------------------------------------------------------
    \64\ The 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.
    \65\ Treas. 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.
---------------------------------------------------------------------------
      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.\66\
---------------------------------------------------------------------------
    \66\ Treas. Reg. sec. 1.6011-4(b)(7).
---------------------------------------------------------------------------
      Under present law, there is no specific penalty for 
failing to disclose a reportable transaction; however, such a 
failure may 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.\67\
---------------------------------------------------------------------------
    \67\ Section 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. On December 31, 
2002, the Treasury Department and IRS issued proposed regulations under 
sections 6662 and 6664 (REG-126016-01) 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.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

In general

      The Senate amendment creates a new penalty for any person 
who fails to include with any return or statement any required 
information 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 Senate amendment does not define the terms ``listed 
transaction'' \68\ or ``reportable transaction,'' nor does the 
Senate amendment explain the type of information that must be 
disclosed in order to avoid the imposition of a penalty. 
Rather, the Senate amendment authorizes the Treasury Department 
to define a ``listed transaction'' and a ``reportable 
transaction'' under section 6011.
---------------------------------------------------------------------------
    \68\ The 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.
---------------------------------------------------------------------------

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, a non-disclosed reportable avoidance 
transaction,\69\ or a transaction that lacks economic 
substance) must disclose the imposition 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).
---------------------------------------------------------------------------
    \69\ A reportable avoidance transaction is a reportable transaction 
with a significant tax avoidance purpose.
---------------------------------------------------------------------------

Effective date

      The provision is effective for returns and statements the 
due date for which is after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Modifications to the accuracy-related penalties for listed 
        transactions and reportable transactions having a significant 
        tax avoidance purpose (sec. 303 of the Senate amendment 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.\70\ 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.\71\
---------------------------------------------------------------------------
    \70\ Sec. 6662.
    \71\ Sec. 6662(d)(2)(B).
---------------------------------------------------------------------------
      Special rules apply with respect to tax shelters.\72\ 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.
---------------------------------------------------------------------------
    \72\ Sec. 6662(d)(2)(C).
---------------------------------------------------------------------------
      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.\73\ 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-percent likelihood that the tax 
treatment of the item will be upheld if challenged'' by the 
IRS.\74\
---------------------------------------------------------------------------
    \73\ Sec. 6664(c).
    \74\ Treas. Reg. sec. 1.6662-4(g)(4)(i)(B); Treas. Reg. sec. 
1.6664-4(c).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

In general

      The Senate amendment 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'').\75\ The penalty rate and 
defenses available to avoid the penalty vary depending on 
whether the transaction was adequately disclosed.
---------------------------------------------------------------------------
    \75\ The terms ``reportable transaction'' and ``listed 
transaction'' have the same meanings as used for purposes of the 
penalty for failing to disclose reportable transactions.
---------------------------------------------------------------------------
            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 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 the Senate amendment, 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),\76\ 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.
---------------------------------------------------------------------------
    \76\ For 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.
---------------------------------------------------------------------------
      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 Senate amendment with 
respect to any portion of an understatement if it show 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,\77\ (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.
---------------------------------------------------------------------------
    \77\ See the previous discussion regarding the penalty for failing 
to disclose a reportable transaction.
---------------------------------------------------------------------------
      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 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 \78\ and who participates in the organization, 
management, promotion or sale of the transaction or is related 
(within the meaning of section 267 or 707) to any person who so 
participates, (2) is compensated directly or indirectly \79\ 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 continuing 
financial interest with respect to the transaction.
---------------------------------------------------------------------------
    \78\ The 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).
    \79\ This 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.
---------------------------------------------------------------------------
      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.\80\ 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.
---------------------------------------------------------------------------
    \80\ 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).
---------------------------------------------------------------------------
            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.

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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Penalty for understatements from transactions lacking economic 
        substance (sec. 304 of the Senate amendment and sec. 6662B of 
        the Code)

                              PRESENT LAW

      An 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.\81\ The amount of 
any understatement 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.
---------------------------------------------------------------------------
    \81\ Sec. 6662.
---------------------------------------------------------------------------
      Special rules apply with respect to tax shelters.\82\ 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.
---------------------------------------------------------------------------
    \82\ Sec. 6662(d)(2)(C).
---------------------------------------------------------------------------
      The 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. \83\ 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-percent likelihood that the tax treatment of 
the item will be upheld if challenged'' by the IRS. \84\
---------------------------------------------------------------------------
    \83\ Sec. 6664(c).
    \84\ Treas. Reg. sec. 1.6662-4(g)(4)(i)(B); Treas. Reg. sec. 
1.6664-4(c).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment imposes a penalty for an 
understatement attributable to any transaction that lacks 
economic substance (referred to in the statute as a ``non-
economic substance transaction understatement'').\85\ The 
penalty rate is 40 percent (reduced to 20 percent if the 
taxpayer adequately discloses the relevant facts in accordance 
with regulations prescribed under section 6011). No exceptions 
(including the reasonable cause or rescission rules) to the 
penalty would be available under the Senate amendment (i.e., 
the penalty is a strict-liability penalty).
---------------------------------------------------------------------------
    \85\ Thus, unlike the new accuracy-related penalty under section 
6662A (which applies only to listed and reportable avoidance 
transactions), the new penalty under this provision applies to any 
transaction that lacks economic substance.
---------------------------------------------------------------------------
      A ``non-economic substance transaction'' means any 
transaction if (1) the transaction lacks economic substance (as 
defined in the earlier Senate amendment provision regarding the 
economic substance doctrine),\86\ (2) the transaction was not 
respected under the rules relating to transactions with tax-
indifferent parties (as described in the earlier Senate 
amendment provision regarding the economic substance 
doctrine),\87\ or (3) any similar rule of law. For this 
purpose, a similar rule of law would include, for example, an 
understatement attributable to a transaction that is determined 
to be a sham transaction.
---------------------------------------------------------------------------
    \86\ The provision provides that a transaction has economic 
substance only if: (1) the transaction changes in a meaningful way 
(apart from Federal income tax effects) the taxpayer's economic 
position, and (2) the transaction has a substantial non-tax purpose for 
entering into such transaction and is a reasonable means of 
accomplishing such purpose.
    \87\ The provision provides that the form of a transaction that 
involves a tax-indifferent party will not be respected in certain 
circumstances.
---------------------------------------------------------------------------
      For purposes of the Senate amendment, the calculation of 
an ``understatement'' is made in the same manner as in the 
separate Senate amendment provision relating to accuracy-
related penalties for listed and reportable avoidance 
transactions (new sec. 6662A). Thus, the amount of the 
understatement under the Senate amendment would be 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),\88\ 
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. 
In essence, the penalty will apply to the amount of any 
understatement attributable solely to a non-economic substance 
transaction.
---------------------------------------------------------------------------
    \88\ For 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 that would (without regard to 
section 1211) be allowed for such year, would be treated as an increase 
in taxable income.
---------------------------------------------------------------------------
      Except as provided in regulations, the taxpayer's 
treatment of an item will not take into account any amendment 
or supplement to a return if the amendment or supplement is 
filed after the earlier of the date the taxpayer is first 
contacted regarding an examination of the return or such other 
date as specified by the Secretary.
      A public entity that is required to pay a penalty under 
the Senate amendment (regardless of whether the transaction was 
disclosed) 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 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 a penalty (regardless of whether the transaction was 
disclosed) 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.
      Any understatement to which a penalty is imposed under 
the Senate amendment will not be subject to the accuracy-
related penalty under section 6662 or under new 6662A 
(accuracy-related penalties for listed and reportable avoidance 
transactions). However, an understatement under this provision 
would be taken into account 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 will not apply to any 
portion of an understatement to which a fraud penalty is 
applied under section 6663.
      Effective date.--The provision applies to transactions 
entered into on or after May 8, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Modifications to the substantial understatement penalty (sec. 305 of 
        the Senate amendment 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).\89\
---------------------------------------------------------------------------
    \89\ Sec. 6662(a) and (d)(1)(A).
---------------------------------------------------------------------------

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.\90\
---------------------------------------------------------------------------
    \90\ Sec. 6662(d)(2)(B).
---------------------------------------------------------------------------
      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.\91\
---------------------------------------------------------------------------
    \91\ Sec. 6662(d)(2)(D).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Definition of substantial understatement

      The Senate amendment modifies the definition of 
``substantial'' for corporate taxpayers. Under the Senate 
amendment, 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 Senate amendment 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 Senate amendment 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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Tax shelter exception to confidentiality privileges relating to 
        taxpayer communications (sec. 306 of the Senate amendment 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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment 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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

7. Disclosure of reportable transactions by material advisors (secs. 
        307 and 308 of the Senate amendment 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.\92\ A ``tax shelter'' means 
any investment with respect to which the tax shelter ratio \93\ 
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 at least five 
investors).\94\
---------------------------------------------------------------------------
    \92\ Sec. 6111(a).
    \93\ The 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.
    \94\ Sec. 6111(c).
---------------------------------------------------------------------------
      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.\95\
---------------------------------------------------------------------------
    \95\ Sec. 6111(d).
---------------------------------------------------------------------------
      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,''\96\ 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.\97\ Certain 
exceptions are provided with respect to the second category of 
transactions.\98\
---------------------------------------------------------------------------
    \96\ Treas. Reg. sec. 301.6111-2(b)(2).
    \97\ Treas. Reg. sec. 301.6111-2(b)(3).
    \98\ Treas. Reg. sec. 301.6111-2(b)(4).
---------------------------------------------------------------------------
      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 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.\99\
---------------------------------------------------------------------------
    \99\ The 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).
---------------------------------------------------------------------------

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.\100\ 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.
---------------------------------------------------------------------------
    \100\ Sec. 6707.
---------------------------------------------------------------------------
      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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Disclosure of reportable transactions by material advisors

      The Senate amendment repeals the present law rules with 
respect to registration of tax shelters. Instead, the Senate 
amendment requires each material advisor with respect to any 
reportable transaction (including any listed transaction) \101\ 
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.
---------------------------------------------------------------------------
    \101\ The terms ``reportable transaction'' and ``listed 
transaction'' have the same meaning as previously described in 
connection with the taxpayer-related provisions.
---------------------------------------------------------------------------
      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 expected 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.\102\
---------------------------------------------------------------------------
    \102\ See the previous discussion regarding the disclosure 
requirements under new section 6707A.
---------------------------------------------------------------------------
      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 Senate amendment repeals the present law penalty for 
failure to register tax shelters. Instead, the Senate amendment 
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).\103\ 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.
---------------------------------------------------------------------------
    \103\ The terms ``reportable transaction'' and ``listed 
transaction'' have the same meaning as previously described in 
connection with the taxpayer-related provisions.
---------------------------------------------------------------------------
      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.\104\ 
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, the penalty cannot be 
rescinded by a revenue agent, an Appeals officer, or 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 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.
---------------------------------------------------------------------------
    \104\ The 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.
---------------------------------------------------------------------------

Effective date

      The Senate amendment 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 Senate amendment imposing a 
penalty for failing to disclose reportable transactions applies 
to returns the due date for which is after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

8. Investor lists and modification of penalty for failure to maintain 
        investor lists (secs. 307 and 309 of the Senate amendment and 
        secs. 6112 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).\105\ Recently issued regulations under section 
6112 contain rules regarding the list maintenance 
requirements.\106\ In general, the regulations apply to 
transactions that are potentially abusive tax shelters entered 
into, or acquired after, February 28, 2003.\107\
---------------------------------------------------------------------------
    \105\ Sec. 6112.
    \106\ Treas. Reg. sec. 301-6112-1.
    \107\ 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.
---------------------------------------------------------------------------
      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.\108\ A 
material advisor is defined as 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.\109\ For listed transactions 
(as defined in the regulations under section 6011), the minimum 
fees are reduced to $25,000 and $10,000, respectively.
---------------------------------------------------------------------------
    \108\ Treas. Reg. sec. 301.6112-1(c)(1).
    \109\ Treas. Reg. sec. 301.6112-1(c)(2) and (3).
---------------------------------------------------------------------------
      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).\110\
---------------------------------------------------------------------------
    \110\ Treas. Reg. sec. 301.6112-1(b).
---------------------------------------------------------------------------
      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.\111\
---------------------------------------------------------------------------
    \111\ Sec. 6112(c)(2).
---------------------------------------------------------------------------

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).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Investor lists

      Each material advisor \112\ with respect to a reportable 
transaction (including a listed transaction) \113\ 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 Senate 
amendment 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.
---------------------------------------------------------------------------
    \112\ The term ``material advisor'' has the same meaning as when 
used in connection with the requirement to file an information return 
under section 6111.
    \113\ The terms ``reportable transaction'' and ``listed 
transaction'' have the same meaning as previously described in 
connection with the taxpayer-related provisions.
---------------------------------------------------------------------------

Penalty for failing to maintain investor lists

      The Senate amendment 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.\114\
---------------------------------------------------------------------------
    \114\ In no event will failure to maintain a list be considered 
reasonable cause for failing to make a list available to the Secretary.
---------------------------------------------------------------------------

Effective date

      The Senate amendment 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 Senate amendment imposing a penalty 
for failing to maintain investor lists applies to requests made 
after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

9. Actions to enjoin conduct with respect to tax shelters and 
        reportable transactions (sec. 310 of the Senate amendment and 
        sec. 7408 of the Code)

                              PRESENT LAW

      The Code authorizes civil action to enjoin any person 
from promoting abusive tax shelters or aiding or abetting the 
understatement of tax liability.\115\
---------------------------------------------------------------------------
    \115\ Sec. 7408.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment expands this rule so that 
injunctions may also be sought with respect to the requirements 
relating to the reporting of reportable transactions \116\ and 
the keeping of lists of investors by material advisors.\117\ 
Thus, under the Senate amendment, 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.
---------------------------------------------------------------------------
    \116\ Sec. 6707, as amended by other provisions of this bill.
    \117\ Sec. 6708, as amended by other provisions of this bill.
---------------------------------------------------------------------------
      Effective date.--The provision is effective on the day 
after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

10. Understatement of taxpayer's liability by income tax return 
        preparer (sec. 311 of the Senate amendment 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 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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment alters the standards of conduct that 
must be met to avoid imposition of the first penalty. The 
Senate amendment 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 Senate amendment 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 Senate amendment 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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

11. Penalty for failure to report interests in foreign financial 
        accounts (sec. 312 of the Senate amendment and sec. 5321 of 
        Title 31, United States Code)

                              PRESENT LAW

      The Secretary of the Treasury must require 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.\118\ 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.
---------------------------------------------------------------------------
    \118\ 31 U.S.C. 5314.
---------------------------------------------------------------------------
      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.\119\ 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 increased 
to $500,000 and the maximum length of imprisonment is increased 
to 10 years.\120\
---------------------------------------------------------------------------
    \119\ 31 U.S.C. 5321(a)(5).
    \120\ 31 U.S.C. 5322.
---------------------------------------------------------------------------
      On April 26, 2002, the Secretary of the Treasury 
submitted to the Congress a report on these reporting 
requirements.\121\ This report, which was statutorily 
required,\122\ 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.
---------------------------------------------------------------------------
    \121\ 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.
    \122\ Sec. 361(b) of the USA PATRIOT Act of 2001 (Pub. L. 107-56).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment 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 is effective with respect 
to failures to report occurring on or after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

12. Frivolous tax returns and submissions (sec. 313 of the Senate 
        amendment 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 \123\ 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)).
---------------------------------------------------------------------------
    \123\ Because in general the Tax Court is the only pre-payment 
forum available to taxpayers, it deals with most of the frivolous, 
groundless, or dilatory arguments raised in tax cases.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment modifies the 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 Senate amendment also modifies present law with 
respect to certain submissions that raise frivolous arguments 
or that are intended to delay or impede tax administration. The 
submissions to which the Senate amendment applies are requests 
for a collection due process hearing, installment agreements, 
offers-in-compromise, and taxpayer assistance orders. First, 
the Senate amendment permits the IRS to dismiss such requests. 
Second, the Senate amendment permits the IRS to impose a 
penalty of up to $5,000 for such requests, unless the taxpayer 
withdraws the request after being given an opportunity to do 
so.
      The Senate amendment requires the IRS to publish a list 
of positions, arguments, requests, and submissions 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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

13. Penalties on promoters of tax shelters (sec. 314 of the Senate 
        amendment 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.\124\ 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 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.
---------------------------------------------------------------------------
    \124\ Sec. 6700.
---------------------------------------------------------------------------
      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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment 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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

14. Extend statute of limitations for certain undisclosed transactions 
        (sec. 315 of the Senate amendment and sec. 6501 of the Code)

                              PRESENT LAW

      In general, the Code requires that taxes be assessed 
within three years \125\ after the date a return is filed.\126\ 
If there has been a substantial omission of items of gross 
income that total 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.\127\ 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.\128\
---------------------------------------------------------------------------
    \125\ Sec. 6501(a).
    \126\ For 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)).
    \127\ Sec. 6501(e).
    \128\ Sec. 6501(c).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the statute of limitations 
to six years with respect to the entire tax return \129\ if a 
taxpayer required to disclose a listed transaction \130\ fails 
to do so in the manner required. For example, if a taxpayer 
entered into a transaction in 2005 that becomes a listed 
transaction in 2006 and the taxpayer fails to disclose such 
transaction in the manner required by Treasury regulations, the 
2005 tax return will be subject to a six-year statute of 
limitations.\131\
---------------------------------------------------------------------------
    \129\ The tax year extended is the tax year the transaction is 
entered into.
    \130\ The term ``listed transaction'' has the same meaning as 
described in a previous provision regarding the penalty for failure to 
disclose reportable transactions.
    \131\ However, if the Treasury Department lists a transaction in a 
year subsequent to the year 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 transaction 
becoming a listed transaction, this provision does not re-open the 
statute of limitations for such year.
---------------------------------------------------------------------------
      Effective date.--The provision is effective for 
transactions entered into in taxable years beginning after the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

15. Deny deduction for interest paid to IRS on underpayments involving 
        certain tax-motivated transactions (sec. 316 of the Senate 
        amendment and sec. 163 of the Code)

                              PRESENT LAW

      In general, corporations may deduct interest paid or 
accrued within a taxable year on indebtedness.\132\ Interest on 
indebtedness to the Federal government attributable to an 
underpayment of tax generally may be deducted pursuant to this 
provision.
---------------------------------------------------------------------------
    \132\ Sec. 163(a).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment 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 undisclosed reportable avoidance 
transaction, (2) an undisclosed listed transaction, or (3) a 
transaction that lacks economic substance.\133\
---------------------------------------------------------------------------
    \133\ The definitions of these transactions are the same as those 
previously described in connection with the provision to modify the 
accuracy-related penalty for listed and certain reportable transactions 
and the provision to impose a penalty on understatements attributable 
to transactions that lack economic substance.
---------------------------------------------------------------------------
      Effective date.--The provision is effective for 
underpayments attributable to transactions entered into in 
taxable years beginning after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

            B. Enron-Related Tax Shelter Related Provisions


1. Limitation on transfer and importation of built-in losses (sec. 321 
        of the Senate amendment and secs. 362 and 334 of the Code)

                              PRESENT LAW

      Generally, no gain or loss is recognized when one or more 
persons transfer property to a corporation in exchange for 
stock and immediately after the exchange such person or persons 
control the corporation.\134\ The transferor's basis in the 
stock of the controlled corporation is the same as the basis of 
the property contributed to the controlled corporation, 
increased by the amount of any gain (or dividend) recognized by 
the transferor on the exchange, and reduced by the amount of 
any money or property received, and by the amount of any loss 
recognized by the transferor.\135\
---------------------------------------------------------------------------
    \134\ Sec. 351.
    \135\ Sec. 358.
---------------------------------------------------------------------------
      The basis of property received by a corporation, whether 
from domestic or foreign transferors, in a tax-free 
incorporation, reorganization, or liquidation of a subsidiary 
corporation is the same as the adjusted basis in the hands of 
the transferor, adjusted for gain or loss recognized by the 
transferor.\136\
---------------------------------------------------------------------------
    \136\ Secs. 334(b) and 362(a) and (b).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Importation of built-in losses

      The Senate amendment provides that if a net built-in loss 
is imported into the U.S in a tax-free organization or 
reorganization from persons not subject to U.S. tax, the basis 
of each property so transferred is its fair market value.\137\ 
A similar rule applies in the case of the tax-free liquidation 
by a domestic corporation of its foreign subsidiary.
---------------------------------------------------------------------------
    \137\ The Senate amendment also applies to transfers from a tax-
exempt organization where gain or loss would not be subject to tax if 
the property were sold by the organization.
---------------------------------------------------------------------------
      Under the Senate amendment, a net built-in loss is 
treated as imported into the U.S. if the aggregate adjusted 
bases of property received by a transferee corporation exceeds 
the fair market value of the properties transferred. Thus, for 
example, if in a tax-free incorporation, some properties are 
received by a corporation from U.S. persons subject to tax, and 
some properties are received from foreign persons not subject 
to U.S. tax, this provision applies to limit the adjusted basis 
of each property received from the foreign persons to the fair 
market value of the property. In the case of a transfer by a 
partnership (either domestic or foreign), this provision 
applies as if the properties had been transferred by each of 
the partners in proportion to their interests in the 
partnership.

Limitation on transfer of built-in-losses in section 351 transactions

      The Senate amendment provides that if the aggregate 
adjusted bases of property contributed by a transferor (or by a 
control group of which the transferor is a member) to a 
corporation exceed the aggregate fair market value of the 
property transferred in a tax-free incorporation, the 
transferee's aggregate basis of the properties is limited to 
the aggregate fair market value of the transferred property. 
Under the Senate amendment, any required basis reduction is 
allocated among the transferred properties in proportion to 
their built-in-loss immediately before the transaction. In the 
case of a transfer in which the transferor owns at least 80 
percent of the vote and value of the stock of the transferee 
corporation, any basis reduction required by the provision is 
made to the stock received by the transferor and not to the 
assets transferred.

Effective date

      The provision applies to transactions after February 13, 
2003.

                           CONFERENCE REPORT

      The conference agreement does not include the Senate 
amendment provision.

2. No reduction of basis under section 734 in stock held by partnership 
        in corporate partner (sec. 322 of the Senate amendment and sec. 
        755 of the Code)

                              PRESENT LAW

In general

      Generally, a partner and the partnership do not recognize 
gain or loss on a contribution of property to a 
partnership.\138\ Similarly, a partner and the partnership 
generally do not recognize gain or loss on the distribution of 
partnership property.\139\ This includes current distributions 
and distributions in liquidation of a partner's interest.
---------------------------------------------------------------------------
    \138\ Sec. 721(a).
    \139\ Sec. 731(a) and (b).
---------------------------------------------------------------------------

Basis of property distributed in liquidation

      The basis of property distributed in liquidation of a 
partner's interest is equal to the partner's tax basis in its 
partnership interest (reduced by any money distributed in the 
same transaction).\140\ Thus, the partnership's tax basis in 
the distributed property is adjusted (increased or decreased) 
to reflect the partner's tax basis in the partnership interest.
---------------------------------------------------------------------------
    \140\ Sec. 732(b).
---------------------------------------------------------------------------

Election to adjust basis of partnership property

      When a partnership distributes partnership property, 
generally, the basis of partnership property is not adjusted to 
reflect the effects of the distribution or transfer. The 
partnership is permitted, however, to make an election 
(referred to as a 754 election) to adjust the basis of 
partnership property in the case of a distribution of 
partnership property.\141\ The effect of the 754 election is 
that the partnership adjusts the basis of its remaining 
property to reflect any change in basis of the distributed 
property in the hands of the distributee partner resulting from 
the distribution transaction. Such a change could be a basis 
increase due to gain recognition, or a basis decrease due to 
the partner's adjusted basis in its partnership interest 
exceeding the adjusted basis of the property received. If the 
754 election is made, it applies to the taxable year with 
respect to which such election was filed and all subsequent 
taxable years.
---------------------------------------------------------------------------
    \141\ Sec. 754.
---------------------------------------------------------------------------
      In the case of a distribution of partnership property to 
a partner with respect to which the 754 election is in effect, 
the partnership increases the basis of partnership property by 
(1) any gain recognized by the distributee partner (2) the 
excess of the adjusted basis of the distributed property to the 
partnership immediately before its distribution over the basis 
of the property to the distributee partner, and decreases the 
basis of partnership property by (1) any loss recognized by the 
distributee partner and (2) the excess of the basis of the 
property to the distributee partner over the adjusted basis of 
the distributed property to the partnership immediately before 
the distribution.
      The allocation of the increase or decrease in basis of 
partnership property is made in a manner which has the effect 
of reducing the difference between the fair market value and 
the adjusted basis of partnership properties.\142\ In addition, 
the allocation rules require that any increase or decrease in 
basis be allocated to partnership property of a like character 
to the property distributed. For this purpose, the two 
categories of assets are (1) capital assets and depreciable and 
real property used in the trade or business held for more than 
one year, and (2) any other property.\143\
---------------------------------------------------------------------------
    \142\ Sec. 755(a).
    \143\ Sec. 755(b).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides that in applying the basis 
allocation rules to a distribution in liquidation of a 
partner's interest, a partnership is precluded from decreasing 
the basis of corporate stock of a partner or a related person. 
Any decrease in basis that, absent the proposal, would have 
been allocated to the stock is allocated to other partnership 
assets. If the decrease in basis exceeds the basis of the other 
partnership assets, then gain is recognized by the partnership 
in the amount of the excess.
      Effective date.--The provision applies to distributions 
after February 13, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Repeal of special rules for FASITs (sec. 323 of the Senate amendment 
        and secs. 860H through 860L of the Code)

                              PRESENT LAW

Financial asset securitization investment trusts

      In 1996, Congress created a new type of statutory entity 
called a ``financial asset securitization trust'' (``FASIT'') 
that facilitates the securitization of debt obligations such as 
credit card receivables, home equity loans, and auto 
loans.\144\ A FASIT generally is not taxable; the FASIT's 
taxable income or net loss flows through to the owner of the 
FASIT.
---------------------------------------------------------------------------
    \144\ Sections 860H through 860L.
---------------------------------------------------------------------------
      The ownership interest of a FASIT generally is required 
to be entirely held by a single domestic C corporation. In 
addition, a FASIT generally may hold only qualified debt 
obligations, and certain other specified assets, and is subject 
to certain restrictions on its activities. An entity that 
qualifies as a FASIT can issue one or more classes of 
instruments that meet certain specified requirements and treat 
those instruments as debt for Federal income tax purposes. 
Instruments issued by a FASIT bearing yields to maturity over 
five percentage points above the yield to maturity on specified 
United States government obligations (i.e., ``high-yield 
interests'') must be held, directly or indirectly, only by 
domestic C corporations that are not exempt from income tax.
            Qualification as a FASIT
      To qualify as a FASIT, an entity must: (1) make an 
election to be treated as a FASIT for the year of the election 
and all subsequent years;\145\ (2) have assets substantially 
all of which (including assets that the FASIT is treated as 
owning because they support regular interests) are specified 
types called ``permitted assets;'' (3) have non-ownership 
interests be certain specified types of debt instruments called 
``regular interests''; (4) have a single ownership interest 
which is held by an ``eligible holder''; and (5) not qualify as 
a regulated investment company (``RIC''). Any entity, including 
a corporation, partnership, or trust may be treated as a FASIT. 
In addition, a segregated pool of assets may qualify as a 
FASIT.
---------------------------------------------------------------------------
    \145\ Once an election to be a FASIT is made, the election applies 
from the date specified in the election and all subsequent years until 
the entity ceases to be a FASIT. If an election to be a FASIT is made 
after the initial year of an entity, all of the assets in the entity at 
the time of the FASIT election are deemed contributed to the FASIT at 
that time and, accordingly, any gain (but not loss) on such assets will 
be recognized at that time.
---------------------------------------------------------------------------
      An entity ceases qualifying as a FASIT if the entity's 
owner ceases being an eligible corporation. Loss of FASIT 
status is treated as if all of the regular interests of the 
FASIT were retired and then reissued without the application of 
the rule that deems regular interests of a FASIT to be debt.
            Permitted assets
      For an entity or arrangement to qualify as a FASIT, 
substantially all of its assets must consist of the following 
``permitted assets'': (1) cash and cash equivalents; (2) 
certain permitted debt instruments; (3) certain foreclosure 
property; (4) certain instruments or contracts that represent a 
hedge or guarantee of debt held or issued by the FASIT; (5) 
contract rights to acquire permitted debt instruments or 
hedges; and (6) a regular interest in another FASIT. Permitted 
assets may be acquired at any time by a FASIT, including any 
time after its formation.
            ``Regular interests'' of a FASIT
      ``Regular interests'' of a FASIT are treated as debt for 
Federal income tax purposes, regardless of whether instruments 
with similar terms issued by non-FASITs might be characterized 
as equity under general tax principles. To be treated as a 
``regular interest'', an instrument must have fixed terms and 
must: (1) unconditionally entitle the holder to receive a 
specified principal amount; (2) pay interest that is based on 
(a) fixed rates, or (b) except as provided by regulations 
issued by the Treasury Secretary, variable rates permitted with 
respect to REMIC interests under section 860G(a)(1)(B)(i); (3) 
have a term to maturity of no more than 30 years, except as 
permitted by Treasury regulations; (4) be issued to the public 
with a premium of not more than 25 percent of its stated 
principal amount; and (5) have a yield to maturity determined 
on the date of issue of less than five percentage points above 
the applicable Federal rate (``AFR'') for the calendar month in 
which the instrument is issued.
            Permitted ownership holder
      A permitted holder of the ownership interest in a FASIT 
generally is a non-exempt (i.e., taxable) domestic C 
corporation, other than a corporation that qualifies as a RIC, 
REIT, REMIC, or cooperative.
            Transfers to FASITs
      In general, gain (but not loss) is recognized immediately 
by the owner of the FASIT upon the transfer of assets to a 
FASIT. Where property is acquired by a FASIT from someone other 
than the FASIT's owner (or a person related to the FASIT's 
owner), the property is treated as being first acquired by the 
FASIT's owner for the FASIT's cost in acquiring the asset from 
the non-owner and then transferred by the owner to the FASIT.
      Valuation rules.--In general, except in the case of debt 
instruments, the value of FASIT assets is their fair market 
value. Similarly, in the case of debt instruments that are 
traded on an established securities market, the market price is 
used for purposes of determining the amount of gain realized 
upon contribution of such assets to a FASIT. However, in the 
case of debt instruments that are not traded on an established 
securities market, special valuation rules apply for purposes 
of computing gain on the transfer of such debt instruments to a 
FASIT. Under these rules, the value of such debt instruments is 
the sum of the present values of the reasonably expected cash 
flows from such obligations discounted over the weighted 
average life of such assets. The discount rate is 120 percent 
of the AFR, compounded semiannually, or such other rate that 
the Treasury Secretary shall prescribe by regulations.
            Taxation of a FASIT
      A FASIT generally is not subject to tax. Instead, all of 
the FASIT's assets and liabilities are treated as assets and 
liabilities of the FASIT's owner and any income, gain, 
deduction or loss of the FASIT is allocable directly to its 
owner. Accordingly, income tax rules applicable to a FASIT 
(e.g., related party rules, sec. 871(h), sec. 165(g)(2)) are to 
be applied in the same manner as they apply to the FASIT's 
owner. The taxable income of a FASIT is calculated using an 
accrual method of accounting. The constant yield method and 
principles that apply for purposes of determining original 
issue discount (``OID'') accrual on debt obligations whose 
principal is subject to acceleration apply to all debt 
obligations held by a FASIT to calculate the FASIT's interest 
and discount income and premium deductions or adjustments.
            Taxation of holders of FASIT regular interests
      In general, a holder of a regular interest is taxed in 
the same manner as a holder of any other debt instrument, 
except that the regular interest holder is required to account 
for income relating to the interest on an accrual method of 
accounting, regardless of the method of accounting otherwise 
used by the holder.
            Taxation of holders of FASIT ownership interests
      Because all of the assets and liabilities of a FASIT are 
treated as assets and liabilities of the holder of a FASIT 
ownership interest, the ownership interest holder takes into 
account all of the FASIT's income, gain, deduction, or loss in 
computing its taxable income or net loss for the taxable year. 
The character of the income to the holder of an ownership 
interest is the same as its character to the FASIT, except tax-
exempt interest is included in the income of the holder as 
ordinary income.
      Although the recognition of losses on assets contributed 
to the FASIT is not allowed upon contribution of the assets, 
such losses may be allowed to the FASIT owner upon their 
disposition by the FASIT. Furthermore, the holder of a FASIT 
ownership interest is not permitted to offset taxable income 
from the FASIT ownership interest (including gain or loss from 
the sale of the ownership interest in the FASIT) with other 
losses of the holder. In addition, any net operating loss 
carryover of the FASIT owner shall be computed by disregarding 
any income arising by reason of a disallowed loss. Where the 
holder of a FASIT ownership interest is a member of a 
consolidated group, this rule applies to the consolidated group 
of corporations of which the holder is a member as if the group 
were a single taxpayer.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment repeals the special rules for 
FASITs. The Senate amendment provides a transition period for 
existing FASITs, pursuant to which the repeal of the FASIT 
rules would not apply to any FASIT in existence on the date of 
enactment to the extent that regular interests issued by the 
FASIT prior to such date continue to remain outstanding in 
accordance with their original terms.
      Effective date.--Except as provided by the transition 
period for existing FASITs, the Senate amendment provision is 
effective after February 13, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Expanded disallowance of deduction for interest on convertible debt 
        (sec. 324 of the Senate amendment and sec. 163 of the Code)

                              PRESENT LAW

      Whether an instrument qualifies for tax purposes as debt 
or equity is determined under all the facts and circumstances 
based on principles developed in case law. If an instrument 
qualifies as equity, the issuer generally does not receive a 
deduction for dividends paid and the holder generally includes 
such dividends in income (although corporate holders generally 
may obtain a dividends-received deduction of at least 70 
percent of the amount of the dividend). If an instrument 
qualifies as debt, the issuer may receive a deduction for 
accrued interest and the holder generally includes interest in 
income, subject to certain limitations.
      Original issue discount (``OID'') on a debt instrument is 
the excess of the stated redemption price at maturity over the 
issue price of the instrument. An issuer of a debt instrument 
with OID generally accrues and deducts the discount as interest 
over the life of the instrument even though interest may not be 
paid until the instrument matures. The holder of such a debt 
instrument also generally includes the OID in income on an 
accrual basis.
      Under present law, no deduction is allowed for interest 
or OID on a debt instrument issued by a corporation (or issued 
by a partnership to the extent of its corporate partners) that 
is payable in equity of the issuer or a related party (within 
the meaning of sections 267(b) and 707(b)), including a debt 
instrument a substantial portion of which is mandatorily 
convertible or convertible at the issuer's option into equity 
of the issuer or a related party.\146\ In addition, a debt 
instrument is treated as payable in equity if a substantial 
portion of the principal or interest is required to be 
determined, or may be determined at the option of the issuer or 
related party, by reference to the value of equity of the 
issuer or related party.\147\ A debt instrument also is treated 
as payable in equity if it is part of an arrangement that is 
designed to result in the payment of the debt instrument with 
or by reference to such equity, such as in the case of certain 
issuances of a forward contract in connection with the issuance 
of debt, nonrecourse debt that is secured principally by such 
equity, or certain debt instruments that are paid in, converted 
to, or determined with reference to the value of equity if it 
may be so required at the option of the holder or a related 
party and there is a substantial certainty that option will be 
exercised.\148\
---------------------------------------------------------------------------
    \146\ Sec. 163(l), enacted in the Taxpayer Relief Act of 1997, Pub. 
L. No. 105-34, sec. 1005(a).
    \147\ Sec. 163(l)(3)(B).
    \148\ Sec. 163(l)(3)(C).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment expands the present-law disallowance 
of interest deductions on certain convertible or equity-linked 
corporate debt that is payable in, or by reference to the value 
of, equity. Under the Senate amendment, the disallowance is 
expanded to include interest on corporate debt that is payable 
in, or by reference to the value of, any equity held by the 
issuer (or by any related party) in any other person, without 
regard to whether such equity represents more than a 50-percent 
ownership interest in such person. However, the Senate 
amendment does not apply to debt that is issued by an active 
dealer in securities (or by a related party) if the debt is 
payable in, or by reference to the value of, equity that is 
held by the securities dealer in its capacity as a dealer in 
securities.
      Effective date.--The Senate amendment provision applies 
to debt instruments that are issued after February 13, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Expanded authority to disallow tax benefits under section 269 (sec. 
        325 of the Senate amendment and sec. 269 of the Code)

                              PRESENT LAW

      Section 269 provides that if a taxpayer acquires, 
directly or indirectly, control (defined as at least 50 percent 
of vote or value) of a corporation, and the principal purpose 
of the acquisition is the evasion or avoidance of Federal 
income tax by securing the benefit of a deduction, credit, or 
other allowance that would not otherwise have been available, 
the Secretary may disallow such tax benefits.\149\ Similarly, 
if a corporation acquires, directly or indirectly, property of 
another corporation (not controlled, directly or indirectly, by 
the acquiring corporation or its stockholders immediately 
before the acquisition), the basis of such property is 
determined by reference to the basis in the hands of the 
transferor corporation, and the principal purpose of the 
acquisition is the evasion or avoidance of Federal income tax 
by securing a tax benefit that would not otherwise have been 
available, the Secretary may disallow such tax benefits.\150\
---------------------------------------------------------------------------
    \149\ Sec. 269(a)(1).
    \149\ Sec. 269(a)(2).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment expands section 269 by repealing (1) 
the requirement that the acquisition of stock be sufficient to 
obtain control of the corporation, and (2) the requirement that 
the acquisition of property be from a corporation not 
controlled by the acquirer. Thus, under the provision, section 
269 disallows the tax benefits of (1) any acquisition of stock 
in a corporation,\151\ and (2) any acquisition by a corporation 
of property from a corporation in which the basis of such 
property is determined by reference to the basis in the hands 
of the transferor corporation, if the principal purpose of such 
acquisition is the of evasion or avoidance of Federal income 
tax.
---------------------------------------------------------------------------
    \151\ In this regard, the provision applies regardless of whether 
an acquisition results in an increase in the acquiror's ownership 
percentage in a corportion or involves the issuance of actual stock 
certificates or shares by a corporation to the acquiror.
---------------------------------------------------------------------------
      Effective date.--The provision applies to stock and 
property acquired after February 13, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Modification of controlled foreign corporation--passive foreign 
        investment company coordination rules (sec. 326 of the Senate 
        amendment and sec. 1297 of the Code)

                              PRESENT LAW

      The United States employs a ``worldwide'' tax system, 
under which domestic corporations generally are taxed on all 
income, whether derived in the United States or abroad. Income 
earned by a domestic parent corporation from foreign operations 
conducted by foreign corporate subsidiaries generally is 
subject to U.S. tax when the income is distributed as a 
dividend to the domestic corporation. Until such repatriation, 
the U.S. tax on such income generally is deferred. However, 
certain anti-deferral regimes may cause the domestic parent 
corporation to be taxed on a current basis in the United States 
with respect to certain categories of passive or highly mobile 
income earned by its foreign subsidiaries, regardless of 
whether the income has been distributed as a dividend to the 
domestic parent corporation. The main anti-deferral regimes in 
this context are the controlled foreign corporation rules of 
subpart F \152\ and the passive foreign investment company 
rules.\153\ A foreign tax credit generally is available to 
offset, in whole or in part, the U.S. tax owed on foreign-
source income, whether earned directly by the domestic 
corporation, repatriated as an actual dividend, or included 
under one of the anti-deferral regimes.\154\
---------------------------------------------------------------------------
    \152\ Secs. 951-964.
    \153\ Secs. 1291-1298.
    \154\ Secs. 901, 902, 960, 1291(g).
---------------------------------------------------------------------------
      Generally, income earned indirectly by a domestic 
corporation through a foreign corporation is subject to U.S. 
tax only when the income is distributed to the domestic 
corporation, because corporations generally are treated as 
separate taxable persons for Federal tax purposes. However, 
this deferral of U.S. tax is limited by anti-deferral regimes 
that impose current U.S. tax on certain types of income earned 
by certain corporations, in order to prevent taxpayers from 
avoiding U.S. tax by shifting passive or other highly mobile 
income into low-tax jurisdictions. Deferral of U.S. tax is 
considered appropriate, on the other hand, with respect to most 
types of active business income earned abroad.
      Subpart F,\155\ applicable to controlled foreign 
corporations and their shareholders, is the main anti-deferral 
regime of relevance to a U.S.-based multinational corporate 
group. A controlled foreign corporation generally is defined as 
any foreign corporation if U.S. persons own (directly, 
indirectly, or constructively) more than 50 percent of the 
corporation's stock (measured by vote or value), taking into 
account only those U.S. persons that own at least 10 percent of 
the stock (measured by vote only).\156\ Under the subpart F 
rules, the United States generally taxes the U.S. 10-percent 
shareholders of a controlled foreign corporation on their pro 
rata shares of certain income of the controlled foreign 
corporation (referred to as ``subpart F income''), without 
regard to whether the income is distributed to the 
shareholders.\157\
---------------------------------------------------------------------------
    \155\ Secs. 951-964.
    \156\ Secs. 951(b), 957, 958.
    \157\ Sec. 951(a).
---------------------------------------------------------------------------
      Subpart F income generally includes passive income and 
other income that is readily movable from one taxing 
jurisdiction to another. Subpart F income consists of foreign 
base company income,\158\ insurance income,\159\ and certain 
income relating to international boycotts and other violations 
of public policy.\160\ Foreign base company income consists of 
foreign personal holding company income, which includes passive 
income (e.g., dividends, interest, rents, and royalties), as 
well as a number of categories of non-passive income, including 
foreign base company sales income, foreign base company 
services income, foreign base company shipping income and 
foreign base company oil-related income.\161\
---------------------------------------------------------------------------
    \158\ Sec. 954.
    \159\ Sec. 953.
    \160\ Sec. 952(a)(3)-(5).
    \161\ Sec. 954.
---------------------------------------------------------------------------
      In effect, the United States treats the U.S. 10-percent 
shareholders of a controlled foreign corporation as having 
received a current distribution out of the corporation's 
subpart F income. In addition, the U.S. 10-percent shareholders 
of a controlled foreign corporation are required to include 
currently in income for U.S. tax purposes their pro rata shares 
of the corporation's earnings invested in U.S. property.\162\
---------------------------------------------------------------------------
    \162\ Secs. 951(a)(1)(B), 956.
---------------------------------------------------------------------------
      The Tax Reform Act of 1986 established an additional 
anti-deferral regime, for passive foreign investment companies. 
A passive foreign investment company generally is defined as 
any foreign corporation if 75 percent or more of its gross 
income for the taxable year consists of passive income, or 50 
percent or more of its assets consists of assets that produce, 
or are held for the production of, passive income.\163\ 
Alternative sets of income inclusion rules apply to U.S. 
persons that are shareholders in a passive foreign investment 
company, regardless of their percentage ownership in the 
company. One set of rules applies to passive foreign investment 
companies that are ``qualified electing funds,'' under which 
electing U.S. shareholders currently include in gross income 
their respective shares of the company's earnings, with a 
separate election to defer payment of tax, subject to an 
interest charge, on income not currently received.\164\ A 
second set of rules applies to passive foreign investment 
companies that are not qualified electing funds, under which 
U.S. shareholders pay tax on certain income or gain realized 
through the company, plus an interest charge that is 
attributable to the value of deferral.\165\ A third set of 
rules applies to passive foreign investment company stock that 
is marketable, under which electing U.S. shareholders currently 
take into account as income (or loss) the difference between 
the fair market value of the stock as of the close of the 
taxable year and their adjusted basis in such stock (subject to 
certain limitations), often referred to as ``marking to 
market.'' \166\
---------------------------------------------------------------------------
    \163\ Sec. 1297.
    \164\ Sec. 1293-1295.
    \165\ Sec. 1291.
    \166\ Sec. 1296.
---------------------------------------------------------------------------
      Under section 1297(e), which was enacted in 1997 to 
address the overlap of the passive foreign investment company 
rules and subpart F, a controlled foreign corporation generally 
is not also treated as a passive foreign investment company 
with respect to a U.S. shareholder of the corporation. This 
exception applies regardless of the likelihood that the U.S. 
shareholder would actually be taxed under subpart F in the 
event that the controlled foreign corporation earns subpart F 
income. Thus, even in a case in which a controlled foreign 
corporation's subpart F income would be allocated to a 
different shareholder under the subpart F allocation rules, a 
U.S. shareholder would still qualify for the exception from the 
passive foreign investment company rules under section 1297(e).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment adds an exception to section 1297(e) 
for U.S. shareholders that face only a remote likelihood of 
incurring a subpart F inclusion in the event that a controlled 
foreign corporation earns subpart F income, thus preserving the 
potential application of the passive foreign investment company 
rules in such cases.
      Effective date.--The provision is effective for taxable 
years of controlled foreign corporations beginning after 
February 13, 2003, and for taxable years of U.S. shareholders 
in which or with which such taxable years of controlled foreign 
corporations end.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

7. Modify treatment of closely-held REITs (sec. 327 of the Senate 
        amendment and sec. 856 of the Code)

                              PRESENT LAW

      In general, a real estate investment trust (``REIT'') is 
an entity that receives most of its income from passive real 
estate related investments and that receives pass-through 
treatment for income that is distributed to shareholders. If an 
entity meets the qualifications for REIT statusand elects to be 
taxed as a REIT, the portion of its income that is distributed to the 
investors each year generally is taxed to the investors without being 
subjected to tax at the REIT level.
      A REIT must satisfy a number of tests on a year-by-year 
basis that relate to the entity's (1) organizational structure; 
(2) source of income; (3) nature of assets; and (4) 
distribution of income.
      Under the organizational structure test, except for the 
first taxable year for which an entity elects to be a REIT, the 
beneficial ownership of the entity must be held by 100 or more 
persons. Generally, no more than 50 percent of the value of the 
REIT stock can be owned by five or fewer individuals during the 
last half of the taxable year. Certain attribution rules apply 
in making this determination.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The bill imposes as an additional requirement for REIT 
qualification that, except for the first taxable year for which 
an entity elects to be a REIT, no person can own stock of a 
REIT possessing 50 percent or more of the combined voting power 
of all classes of voting stock or 50 percent or more of the 
total value of all classes of stock of the REIT. For purposes 
of determining a person's stock ownership, rules similar to 
attribution rules for REIT qualification under present law 
apply (secs. 856(d)(5) and 856(h)(3)). A special rule prevents 
reattribution in certain circumstances.
      The provision does not apply to ownership by a REIT of 50 
percent or more of the stock (vote or value) of another REIT.
      An exception applies for a limited period of time to 
certain ``incubator REITs'' that meet specified qualifications. 
A penalty is imposed on a corporation's directors if an 
``incubator REIT'' election is made for a principal purpose 
other than as part of a reasonable plan to undertake a going 
public transaction (as defined in the bill).
      Effective date.--The bill is effective for entities 
electing REIT status for taxable years ending after May 8, 
2003. Any entity that elects (or has elected) REIT status for a 
taxable year including May 8, 2003 and which is both a 
controlled entity and has significant business assets or 
activities on such date, will not be subject to the bill. Under 
this rule, a controlled entity with significant business assets 
or activities on May 8, 2003, can be grandfathered even if it 
makes its first REIT election after that date with its return 
for the taxable year including that date.
      For purposes of the transition rules, the significant 
business assets or activities in place on May 8, 2003 must be 
real estate assets and activities of a type that would be 
qualified real estate assets and would produce qualified real 
estate related income for a REIT.

                          CONFERENCE AGREEMENT

      The conference agreement does not contain the Senate 
amendment provision.

                C. Other Corporate Governance Provisions


1. Affirmation of consolidated return regulation authority (sec. 331 of 
            the Senate amendment 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.\167\
---------------------------------------------------------------------------
    \167\ Sec. 1501.
---------------------------------------------------------------------------
      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 the various 
        factors necessary for the determination of such 
        liability, and in order to prevent the avoidance of 
        such tax liability.\168\
---------------------------------------------------------------------------
    \168\ Sec. 1502.
---------------------------------------------------------------------------
      Under this authority, the Treasury Department has issued 
extensive consolidated return regulations.\169\
---------------------------------------------------------------------------
    \169\ 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, 
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.
---------------------------------------------------------------------------
      In the recent case of Rite Aid Corp. v. United 
States,\170\ 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.\171\ The particular provision, known as 
the ``duplicated loss'' provision,\172\ 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.\173\
---------------------------------------------------------------------------
    \170\ 255 F.3d 1357 (Fed. Cir. 2001), reh'g denied, 2001 U.S. App. 
LEXIS 23207 (Fed. Cir. Oct. 3, 2001).
    \171\ Prior 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.''
    \172\ Treas. Reg. Sec. 1.1502-20(c)(1)(iii).
    \173\ Treasury 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 Federal Circuit Court opinion contained language 
discussing the fact that the regulation produced a result 
different than the result that would have obtained if the 
corporations had filed separate returns rather than 
consolidated returns.\174\
---------------------------------------------------------------------------
    \174\ For 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).
---------------------------------------------------------------------------
      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.'' \175\ 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.'' \176\
---------------------------------------------------------------------------
    \175\ S. 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).
    \176\ 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 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, 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.\177\
---------------------------------------------------------------------------
    \177\ Rite Aid, 255 F.3d at 1360.

      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.\178\
---------------------------------------------------------------------------
    \178\ See Temp. Reg. 1.1502-20T(i)(2). 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).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The bill 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 
there is not a problem that can be addressed in consolidated 
return regulations if application of a particular Code 
provision on a separate taxpayer basis would produce a result 
different from single taxpayer principles that may be used for 
consolidation.
      The bill 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 \179\ to the extent the subsidiary 
had net operating losses or built in losses that could be used 
later outside the group.\180\
---------------------------------------------------------------------------
    \179\ Treas. Reg. Sec. 1.1502-20(c)(1)(iii).
    \180\ The provision is not intended to overrule the current 
Treasury Department regulations, which allow taxpayers 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).
---------------------------------------------------------------------------
      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.\181\
---------------------------------------------------------------------------
    \181\ See, e.g., Notice 2002-11, 2002-7 I.R.B. 526 (Feb. 19, 2002); 
T.D. 8984, 67 F.R. 11034 (Mar.12, 2002); REG-102740-02, 67 F.R. 11070 
(Mar.12, 2002); see also Notice 2002-18, 2002-12 I.R.B. 644 (Mar. 25, 
2002). 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.
---------------------------------------------------------------------------
      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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Chief Executive Officer required to sign corporate income tax 
        returns (sec. 332 of the Senate amendment and sec. 6062 of the 
        Code)

                              PRESENT LAW

      The Code requires \182\ 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.
---------------------------------------------------------------------------
    \182\ Sec. 6062.
---------------------------------------------------------------------------
      The Code also imposes \183\ 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 \184\ ($500,000 
in the case of a corporation) or imprisonment of not more than 
three years, or both, together with the costs of prosecution.
---------------------------------------------------------------------------
    \183\ Sec. 7206.
    \184\ Pursuant to 18 U.S.C. 3571, the maximum fine for an 
individual convicted of a felony is $250,000.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment requires that the chief executive 
officer of a corporation sign that corporation's income tax 
returns.\185\ If the corporation does not have a chief 
executive officer, the IRS may designate another officer of the 
corporation; otherwise, no other person is permitted to sign 
the income tax return of a corporation. 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 or when a corporation has 
multiple chief executive officers. It is intended that, in 
every instance, the highest ranking corporate officer 
(regardless of title) sign the tax return.
---------------------------------------------------------------------------
    \185\ Because the provision amends section 6062, it applies only to 
the Form 1120 itself (or its equivalent) and any disclosures required 
under section 6662 or related provisions. It does not apply to any 
other schedules or attachments.
---------------------------------------------------------------------------
      The provision does not apply to the income tax returns of 
mutual funds;\186\ they are required to be signed as under 
present law.
---------------------------------------------------------------------------
    \186\ The provision does, however, apply to the income tax returns 
of mutual fund management companies and advisors.
---------------------------------------------------------------------------
      Effective date.--The provision is effective for returns 
filed after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment.

3. Denial of deduction for certain fines, penalties, and other amounts 
        (sec. 333 of the Senate amendment 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.'' 
\187\
---------------------------------------------------------------------------
    \187\ S. Rep. 91-552, 91st Cong, 1st Sess., 273-74 (1969), 
referring to Tank Truck Rentals, Inc. v. Commissioner, 356 U.S. 30 
(1958).
---------------------------------------------------------------------------
      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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment modifies the rules regarding the 
determination whether payments are nondeductible payments of 
fines or penalties under section 162(f). In particular, the 
bill 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 
investigation or inquiry into the potential violation of any 
law \188\ are nondeductible under any provision of the income 
tax provisions.\189\ The bill 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.\190\
---------------------------------------------------------------------------
    \188\ The bill 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 raised an issue of 
compliance and a payment is required in settlement of such issue, the 
bill would affect that payment.
    \189\ The bill provides that such amounts are nondeductible under 
chapter 1 of the Internal Revenue Code.
    \190\ The bill 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).
---------------------------------------------------------------------------
      It is intended that a payment will be treated as 
restitution only if the payment is required to be paid to the 
specific persons, or in relation to the specific property, 
actually harmed by the conduct of the taxpayer that resulted in 
the payment. Thus, a payment to or with respect to a class 
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.\191\ 
Restitution is limited to the amount that bears a substantial 
quantitative relationship to the harm 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.
---------------------------------------------------------------------------
    \191\ Similarly, a payment to a charitable organization benefitting 
a 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.
---------------------------------------------------------------------------
      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 self-
regulatory powers as part of performing an essential 
governmental function are similarly subject to the provision. 
The exception for payments that the taxpayer establishes are 
restitution likewise applies in these cases.
      No inference is intended as to the treatment of payments 
as nondeductible fines or penalties under present law. In 
particular, the Senate amendment is not intended to limit the 
scope of present-law section 162(f) or the regulations 
thereunder.
      Effective date.--The Senate amendment is effective for 
amounts paid or incurred on or after April 28, 2003; however 
the proposal 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.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Denial of deduction for punitive damages (sec. 334 of the Senate 
        amendment 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.\192\ 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.\193\ In addition, no 
deduction is allowed under present law for any fine or similar 
payment made to a government for violation of any law.\194\ 
Furthermore, no deduction is permitted for two-thirds of any 
damage payments made by a taxpayer who is convicted of a 
violation of the Clayton antitrust law or any related antitrust 
law.\195\
---------------------------------------------------------------------------
    \192\ Sec. 162(a).
    \193\ Sec. 162(c).
    \194\ Sec. 162(f).
    \195\ Sec. 162(g).
---------------------------------------------------------------------------
      In general, gross income does not include amounts 
received on account of personal physical injuries and physical 
sickness.\196\ However, this exclusion does not apply to 
punitive damages.\197\
---------------------------------------------------------------------------
    \196\ Sec. 104(a).
    \197\ Sec. 104(a)(2).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment 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 Senate amendment provision is 
effective for punitive damages that are paid or incurred on or 
after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Criminal tax fraud (sec. 335 of the Senate amendment 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 fail 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 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 
\198\ $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.
---------------------------------------------------------------------------
    \198\ Section 7206 states that making fraudulent or false 
statements under the Code is a felony. In addition, this offense is a 
felony pursuant to the classification guidelines of 18 U.S.C. 
3559(a)(5).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Attempt to evade or defeat tax

      The Senate amendment increases the criminal penalty under 
section 7201 of the Code for individuals to $250,000 and for 
corporations to $1,000,000. The Senate amendment increases the 
maximum prison sentence to ten years.

Willful failure to file return, supply information, or pay tax

      The Senate amendment 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 Senate amendment increases the criminal penalty under 
section 7206 of the Code for individuals to $250,000 and for 
corporations to $1,000,000. The Senate amendment increases the 
maximum prison sentence to five years. The Senate amendment 
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.

Effective date

      The provision is effective for offenses committed after 
the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Executive compensation reforms (sec. 336, 337 and 338 of the Senate 
        amendment and sec. 83 and new sec. 409A of the Code)

                              PRESENT LAW

Property transferred in connection with the performance of services

      Section 83 applies to transfers of property in connection 
with the performance of services. Under section 83, if, in 
connection with the performance of services, property is 
transferred to any person other than the person for whom such 
services are performed, the excess of the fair market value of 
such property over the amount (if any) paid for the property is 
includible in income at the first time that the property is 
transferable or not subject to substantial risk of forfeiture.
      Stock granted to an employee (or other service provider) 
is subject to the rules that apply under section 83. When stock 
is vested and transferred to an employee, the excess of the 
fair market value of the stock over the amount, if any, the 
employee pays for the stock is includible in the employee's 
income for the year in which the transfer occurs.
      The income taxation of a nonqualified stock option is 
determined under section 83 and depends on whether the option 
has a readily ascertainable fair market value. If the 
nonqualified option does not have a readily ascertainable fair 
market value at the time of grant, no amount is includible in 
the gross income of the recipient with respect to the option 
until the recipient exercises the option. The transfer of stock 
on exercise of the option is subject to the general rules of 
section 83. That is, if vested stock is received on exercise of 
the option, the excess of the fair market value of the stock 
over the option price is includible in the recipient's gross 
income as ordinary income in the taxable year in which the 
option is exercised. If the stock received on exercise of the 
option is not vested, the excess of the fair market value of 
the stock at the time of vesting over the option price is 
includible in the recipient's income for the year in which 
vesting occurs unless the recipient elects to apply section 83 
at the time of exercise.
      Other forms of stock-based compensation are also subject 
to the rules of section 83.

Nonqualified deferred compensation

      The determination of when amounts deferred under a 
nonqualified deferred compensation arrangement are includible 
in the gross income of the individual earning the compensation 
depends on the facts and circumstances of the arrangement. A 
variety of tax principles and Code provisions may be relevant 
in making this determination, including the doctrine of 
constructive receipt, the economic benefit doctrine,\199\ the 
provisions of section 83 relating generally to transfers of 
property in connection with the performance of services, and 
provisions relating specifically to nonexempt employee trusts 
(sec. 402(b)) and nonqualified annuities (sec. 403(c)).
---------------------------------------------------------------------------
    \199\ See, e.g., Sproull v. Commissioner, 16 T.C. 244 (1951), aff'd 
per curiam, 194 F.2d 541 (6th Cir. 1952); Rev. Rul. 60-31, 1960-1 C.B. 
174.
---------------------------------------------------------------------------
      In general, the time for income inclusion of nonqualified 
deferred compensation depends on whether the arrangement is 
unfunded or funded. If the arrangement is unfunded, then the 
compensation is generally includible in income when it is 
actually or constructively received. If the arrangement is 
funded, then income is includible for the year in which the 
individual's rights are transferable or not subject to a 
substantial risk of forfeiture.
      Nonqualified deferred compensation is generally subject 
to social security and Medicare tax when it is earned (i.e., 
when services are performed), unless the nonqualified deferred 
compensation is subject to a substantial risk of forfeiture. If 
nonqualified deferred compensation is subject to a substantial 
risk of forfeiture, it is subject to social security and 
Medicare tax when the risk of forfeiture is removed (i.e., when 
the right to the nonqualified deferred compensation vests). 
This treatment is not affected by whether the arrangement is 
funded or unfunded, which is relevant in determining when 
amounts are includible in income (and subject to income tax 
withholding).
      In general, an arrangement is considered funded if there 
has been a transfer of property under section 83. Under that 
section, a transfer of property occurs when a person acquires a 
beneficial ownership interest in such property. The term 
``property'' is defined very broadly for purposes of section 
83.\200\ Property includes real and personal property other 
than money or an unfunded and unsecured promise to pay money in 
the future. Property also includes a beneficial interest in 
assets (including money) that are transferred or set aside from 
claims of the creditors of the transferor, for example, in a 
trust or escrow account. Accordingly, if, in connection with 
the performance of services, vested contributions are made to a 
trust on an individual's behalf and the trust assets may be 
used solely to provide future payments to the individual, the 
payment of the contributions to the trust constitutes a 
transfer of property to the individual that is taxable under 
section 83. On the other hand, deferred amounts are generally 
not includible in income in situations where nonqualified 
deferred compensation is payable from general corporate funds 
that are subject to the claims of general creditors, as such 
amounts are treated as unfunded and unsecured promises to pay 
money or property in the future.
---------------------------------------------------------------------------
    \200\ Treas. Reg. sec. 1.83-3(e). This definition in part reflects 
previous IRS rulings on nonqualified deferred compensation.
---------------------------------------------------------------------------
      As discussed above, if the arrangement is unfunded, then 
the compensation is generally includible in income when it is 
actually or constructively received under section 451. Income 
is constructively received when it is credited to an 
individual's account, set apart, or otherwise made available so 
that it can be drawn on at any time. Income is not 
constructively received if the taxpayer's control of its 
receipt is subject to substantial limitations or restrictions. 
A requirement to relinquish a valuable right in order to make 
withdrawals is generally treated as a substantial limitation or 
restriction.

Rabbi trusts

      Arrangements have developed in an effort to provide 
employees with security for nonqualified deferred compensation, 
while still allowing deferral of income inclusion. A ``rabbi 
trust'' is a trust or other fund established by the employer to 
hold assets from which nonqualified deferred compensation 
payments will be made. The trust or fund is generally 
irrevocable and does not permit the employer to use the assets 
for purposes other than to provide nonqualified deferred 
compensation, except that the terms of the trust or fund 
provide that the assets are subject to the claims of the 
employer's creditors in the case of insolvency or bankruptcy.
      As discussed above, for purposes of section 83, property 
includes a beneficial interest in assets set aside from the 
claims of creditors, such as in a trust or fund, but does not 
include an unfunded and unsecured promise to pay money in the 
future. In the case of a rabbi trust, terms providing that the 
assets are subject to the claims of creditors of the employer 
in the case of insolvency or bankruptcy have been the basis for 
the conclusion that the creation of a rabbi trust does not 
cause the related nonqualified deferred compensation 
arrangement to be funded for income tax purposes.\201\ As a 
result, no amount is included in income by reason of the rabbi 
trust; generally income inclusion occurs as payments are made 
from the trust.
---------------------------------------------------------------------------
    \201\ This conclusion was first provided in a 1980 private ruling 
issued by the IRS with respect to an arrangement covering a rabbi; 
hence the popular name ``rabbi trust.'' Priv. Ltr. Rul. 8113107 (Dec. 
31, 1980).
---------------------------------------------------------------------------
      The IRS has issued guidance setting forth model rabbi 
trust provisions.\202\ Revenue Procedure 92-64 provides a safe 
harbor for taxpayers who adopt and maintain grantor trusts in 
connection with unfunded deferred compensation arrangements. 
The model trust language requires that the trust provide that 
all assets of the trust are subject to the claims of the 
general creditors of the company in the event of the company's 
insolvency or bankruptcy.
---------------------------------------------------------------------------
    \202\ Rev. Proc. 92-64, 1992-2 C.B. 422, modified in part by Notice 
2000-56, 2000-2 C.B. 393.
---------------------------------------------------------------------------
      Since the concept of rabbi trusts was developed, 
arrangements have developed which attempt to protect the assets 
from creditors despite the terms of the trust. Arrangements 
also have developed which effectively allow deferred amounts to 
be available to individuals, while still meeting the safe 
harbor requirements set forth by the IRS.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Taxation of nonqualified deferred compensation funded with assets 
        located outside of the United States

      The Senate amendment provides that assets that are 
designated or otherwise available for the use of providing 
nonqualified deferred compensation and are located outside the 
United States (e.g., in a foreign trust, arrangement or 
account) are not treated as subject to the claims of general 
creditors. Therefore, to the extent of such assets, 
nonqualified deferred compensation amounts are not treated as 
unfunded and unsecured promises to pay, but are treated as 
property under section 83 and includible in income when the 
right to the compensation is no longersubject to a substantial 
risk of forfeiture, regardless of when the compensation is paid. No 
inference is intended that nonqualified deferred compensation assets 
located outside of the U.S. would be treated as subject to the claims 
of creditors under present law.
      The Senate amendment does not apply to assets located in 
a foreign jurisdiction if substantially all of the services to 
which the nonqualified deferred compensation relates are 
performed in such foreign jurisdiction.
      The Senate amendment is specifically intended to apply to 
foreign trusts and arrangements that effectively shield from 
the claims of general creditors any assets intended to satisfy 
nonqualified deferred compensation obligations. The Senate 
amendment provides the Secretary of the Treasury authority to 
prescribe regulations as are necessary to carry out the 
provision and to provide additional exceptions for specific 
arrangements which do not result in improper deferral of U.S. 
tax if the assets involved in the arrangement are readily 
accessible in any insolvency or bankruptcy proceeding.

Inclusion in gross income of funded deferred compensation of corporate 
        insiders

      Under the Senate amendment, if an employer maintains a 
funded deferred compensation plan,\203\ compensation of any 
disqualified individual which is deferred under the plan is 
includible in the gross income of the individual or beneficiary 
for the first taxable year in which there is no substantial 
risk of forfeiture.\204\
---------------------------------------------------------------------------
    \203\ A plan includes an agreement or arrangement.
    \204\ Compensation is treated as subject to a substantial risk of 
forfeiture if the rights to such compensation are conditioned upon the 
future performance of substantial services by any individual. If an 
arrangement is treated as a funded deferred compensation plan under the 
provision, amounts may be includible in gross income before they are 
paid or made available. In determining the tax treatment of amounts 
available under the plan, the rules applicable to the taxation of 
annuities apply.
---------------------------------------------------------------------------
      Under the Senate amendment, a plan is treated as a funded 
deferred compensation plan unless (1) the employee's rights to 
the compensation deferred under the plan, and all income 
attributable to such amounts, are no greater than the rights of 
a general creditor of the employer; (2) until made available to 
the participant or beneficiary, all amounts set aside (directly 
or indirectly) for the purposes of paying the deferred 
compensation, and all income attributable to such amounts, 
remain solely the property of the employer and are not 
restricted to the provision of benefits under the plan; (3) at 
all times (not merely after bankruptcy or insolvency), all 
amounts set aside are available to satisfy the claims of the 
employer's general creditors; and (4) investment options under 
which a participant may elect under the nonqualified deferred 
compensation plan are the same as those which may be elected by 
participants of the qualified employer plan that has the fewest 
investment options. Under the Senate amendment, if amounts are 
set aside for the exclusive purpose of paying deferred 
compensation benefits, the plan is treated as a funded plan. 
Amounts set aside in an employer's general assets, even if such 
assets are segregated for bookkeeping or accounting purposes, 
which are not restricted to the payment of deferred 
compensation, and are subject to the claims of general 
creditors, are not treated as funded if the other requirements 
under the provision are satisfied.
      An employee's right to deferred compensation is treated 
as greater than the rights of general creditors unless (1) the 
deferred compensation, and all income attributable to such 
amounts, is payable only upon separation from service, 
disability, death, or at a specified time (or pursuant to a 
fixed schedule) and (2) the plan does not permit the 
acceleration of the time of such payments by reason of any 
event. Amounts payable upon a specified event are not treated 
as amounts payable at a specified time. For example, amounts 
payable when an individual attains age 65 are payable at a 
specified time, while amounts payable when an individual's 
child begins college are payable by reason of an event. 
Disability is defined as under the Social Security Act. Under 
such definition, an individual is considered to be disabled if 
he is unable to engage in any substantial gainful activity by 
reason of any medically determinable physical or mental 
impairment which can be expected to result in death or which 
has lasted or can be expected to last for a continuous period 
of not less than twelve months. A plan which allows payment of 
deferred compensation or earnings other than upon separation 
from service, disability, death, or specified time, or allows 
for any acceleration of payments, is treated as funded and 
compensation deferred under such plan is includible in income 
when the rights to such compensation are not subject to a 
substantial risk of forfeiture.
      Even if an employee's rights are treated as no greater 
than the rights of general creditors in compliance with the 
previously discussed criteria, if the employer and employee 
agree to a modification of the plan that accelerates the time 
for payment of deferred compensation, then all compensation 
previously deferred is includible in gross income for the 
taxable year in which the modification takes effect. In 
addition, upon such a modification, the taxpayer is required to 
pay interest at the underpayment rate on the underpayments that 
would have occurred had the deferred compensation been 
includible in gross income on the earliest date that there is 
no substantial risk of forfeiture of the right to the 
compensation. Such interest is treated as interest on an 
underpayment of tax.
      With respect to amounts set aside in a trust, a plan is 
treated as failing to meet the requirement that amounts set 
aside remain solely the property of the employer and are not 
restricted to the payment of benefits under the plan unless 
certain specified criteria are met: (1) the employee must have 
no beneficial interest in the trust; (2) assets in the trust 
must be available to satisfy the claims of general creditors at 
all times (not merely after bankruptcy or insolvency); and (3) 
no factor can exist which would make it more difficult for 
general creditors to reach the assets in the trust than it 
would be if the trust assets were held directly by the employer 
in the United States. The location of the trust outside of the 
United States is such a prohibited factor, unless substantially 
all of the services to which the nonqualified deferred 
compensation relates are performed in such foreign 
jurisdiction. The Senate amendment provides the Secretary of 
the Treasury authority to provide additional exceptions from 
the requirement for specific arrangements which do not result 
in improper deferral of U.S. tax if the assets involved in the 
arrangement are readily accessible to general creditors. If any 
of the criteria are not satisfied, the trust is treated as a 
funded arrangement and compensation deferred is includible in 
gross income when such compensation is not subject to a 
substantial risk of forfeiture.
      A disqualified individual is any individual who, with 
respect to a corporation, is subject to the requirements of 
section 16(a) of the Securities Act of 1934, or would be 
subject to such requirements if such corporation were an issuer 
of equity securities referred to in that section. Generally, 
disqualified individuals include officers (as defined by 
section 16(a)),\205\ directors, or 10-percent owners of both 
private and publicly-held corporations.
---------------------------------------------------------------------------
    \205\ An officer is defined as the president, principal financial 
officer, principal accounting officer (or, if there is no such 
accounting officer, the controller), any vice-president in charge of a 
principal business unit, division or function (such as sales, 
administration or finance), any other officer who performs a 
policymaking function, or any other person who performs similar 
policymaking functions.
---------------------------------------------------------------------------
      A funded deferred compensation plan does not include a 
qualified retirement plan or annuity, a tax-sheltered annuity, 
a simplified employee pension, a simple retirement account, 
certain plans funded solely by employee contributions, a 
governmental plan, or a plan of a tax-exempt organization. 
Present law rules continue to apply to plans or arrangements 
not subject to the Senate amendment (e.g., secs. 401(a), 
403(b), and 457).
      It is not intended that the Senate amendment change the 
tax treatment of trusts under section 402(b) or of any 
arrangements under which amounts are otherwise includible in 
income. It is not intended that the Senate amendment change the 
rules applicable to an employer's deduction for nonqualified 
deferred compensation.
      The Senate amendment provides the Secretary of the 
Treasury authority to prescribe regulations as are necessary to 
carry out the provision.

Denial of deferral of certain stock option and restricted stock gains

      Under the Senate amendment, gains attributable to stock 
options (including exercises of stock options), vesting of 
restricted stock, and other employer security based 
compensation cannot be deferred by electing to receive a future 
payment in lieu of such amounts. The Senate amendment applies 
even if the future right to payment is treated as an unfunded 
to promise to pay.
      The Senate amendment is not intended to imply that such 
practices result in permissive deferral of income under present 
law.

Effective date

      The Senate amendment relating to nonqualified deferred 
compensation assets located outside of the United States is 
effective for amounts deferred in taxable years beginning after 
December 31, 2003.
      The Senate amendment requiring inclusion in income of 
funded nonqualified deferred compensation of corporate insiders 
is effective for amounts deferred in taxable years beginning 
after December 31, 2003.
      The Senate amendment denying deferral of certain stock 
option and restricted stock gains is effective for exchanges 
after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provisions.

7. Increase in withholding from supplemental wage payments in excess of 
        $1 million (sec. 339 of the Senate amendment and sec. 13273 of 
        the Revenue Reconciliation Act of 1993)

                              PRESENT LAW

      An employer must withhold income taxes from wages paid to 
employees; there are several possible methods for determining 
the amount of income tax to be withheld. The IRS publishes 
tables (Publication 15, ``Circular E'') to be used in 
determining the amount of income tax to be withheld. The tables 
generally reflect the income tax rates under the Code so that 
withholding approximates the ultimate tax liability with 
respect to the wage payments. In some cases, ``supplemental'' 
wage payments (e.g., bonuses or commissions) may be subject to 
withholding at a flat rate,\206\ based on the third lowest 
income tax rate under the Code (27 percent for 2003).\207\
---------------------------------------------------------------------------
    \206\ Sec. 13273 of the Revenue Reconciliation Act of 1993.
    \207\ Sec. 101(c)(11) of the Economic Growth and Tax Relief 
Reconciliation Act of 2001.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, once annual supplemental wage 
payments to an employee exceed $1 million, any additional 
supplemental wage payments to the employee in that year are 
subject to withholding at the highest income tax rate (38.6 
percent for 2003), regardless of any other withholding rules 
and regardless of the employee's Form W-4.
      This rule applies only for purposes of wage withholding; 
other types of withholding (such as pension withholding and 
backup withholding) are not affected.
      Effective date.--The provision is effective with respect 
to payments made after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                      D. International Provisions


1. Impose mark-to-market on individuals who expatriate (sec. 340 of the 
        Senate amendment and secs. 102, 877, 2107, 2501, 7701 and 6039G 
        of the Code)

                              PRESENT LAW

In general

      U.S. citizens and residents generally are subject to U.S. 
income taxation on their worldwide income. The U.S. tax may be 
reduced or offset by a credit allowed for foreign income taxes 
paid with respect to foreign-source income. Nonresidents who 
are not U.S. citizens are taxed at a flat rate of 30 percent 
(or a lower treaty rate) on certain types of passive income 
derived from U.S. sources, and at regular graduated rates on 
net profits derived from a U.S. business.

Income tax rules with respect to expatriates

      An individual who relinquishes his or her U.S. 
citizenship or terminates his or her U.S. residency with a 
principal purpose of avoiding U.S. taxes is subject to an 
alternative method of income taxation for the 10 taxable years 
ending after the expatriation or residency termination under 
section 877. The alternative method of taxation for expatriates 
modifies the rules generally applicable to the taxation of 
nonresident noncitizens in several ways. First, the individual 
is subject to tax on his or her U.S.-source income at the rates 
applicable to U.S. citizens rather than the rates applicable to 
other nonresident noncitizens. Unlike U.S. citizens, however, 
individuals subject to section 877 are not taxed on foreign-
source income. Second, the scope of items treated as U.S.-
source income for section 877 purposes is broader than those 
items generally considered to be U.S.-source income under the 
Code.\208\ Third, individuals subject to section 877 are taxed 
on exchanges of certain types of property that give rise to 
U.S.-source income for property that gives rise to foreign-
source income.\209\ Fourth, an individual subject to section 
877 who contributes property to a controlled foreign 
corporation is treated as receiving income or gain from such 
property directly and is taxable on such income or gain. The 
alternative method of taxation for expatriates applies only if 
it results in a higher U.S. tax liability than would otherwise 
be determined if the individual were taxed as a nonresident 
noncitizen.
---------------------------------------------------------------------------
    \208\ For example, gains on the sale or exchange of personal 
property located in the United States, and gains on the sale or 
exchange of stocks and securities issued by U.S. persons, generally are 
not considered to be U.S.-source income under the Code. Thus, such 
gains would not be taxable to a nonresident noncitizen. However, if an 
individual is subject to the alternative regime under sec. 877, such 
gains are treated as U.S.-source income with respect to that 
individual.
    \209\ For example, a former citizen who is subject to the 
alternative tax regime and who removes appreciated artwork that he or 
she owns from the United States could be subject to immediate U.S. tax 
on the appreciation. In this regard, the removal from the United States 
of appreciated tangible personal property having an aggregate fair 
market value in excess of $250,000 within the 15-year period beginning 
five years prior to the expatriation will be treated as an ``exchange'' 
subject to these rules.
---------------------------------------------------------------------------
      The expatriation tax provisions apply to long-term 
residents of the United States whose U.S. residency is 
terminated. For this purpose, a long-term resident is any 
individual who was a lawful permanent resident of the United 
States for at least 8 out of the 15 taxable years ending with 
the year in which such termination occurs. In applying the 8-
year test, an individual is not considered to be a lawful 
permanent resident for any year in which the individual is 
treated as a resident of another country under a treaty tie-
breaker rule (and the individual does not elect to waive the 
benefits of such treaty).
      Subject to the exceptions described below, an individual 
is treated as having expatriated or terminated residency with a 
principal purpose of avoiding U.S. taxes if either: (1) the 
individual's average annual U.S. Federal income tax liability 
for the 5 taxable years ending before the date of the 
individual's loss of U.S. citizenship or termination of U.S. 
residency is greater than $100,000 (the ``tax liability 
test''), or (2) the individual's net worth as of the date of 
such loss or termination is $500,000 or more (the ``net worth 
test''). The dollar amount thresholds contained in the tax 
liability test and the net worth test are indexed for inflation 
in the case of a loss of citizenship or termination of 
residency occurring in any calendar year after 1996. An 
individual who falls below these thresholds is not 
automatically treated as having a principal purpose of tax 
avoidance, but nevertheless is subject to the expatriation tax 
provisions if the individual's loss of citizenship or 
termination of residency in fact did have as one of its 
principal purposes the avoidance of tax.
      Certain exceptions from the treatment that an individual 
relinquished his or her U.S. citizenship or terminated his or 
her U.S. residency for tax avoidance purposes may also apply. 
For example, a U.S. citizen who loses his or her citizenship 
and who satisfies either the tax liability test or the net 
worth test (described above) can avoid being deemed to have a 
principal purpose of tax avoidance if the individual falls 
within certain categories (such as being a dual citizen) and 
the individual, within one year from the date of loss of 
citizenship, submits a ruling request for a determination by 
the Secretary of the Treasury as to whether such loss had as 
one of its principal purposes the avoidance of taxes.

Estate tax rules with respect to expatriates

      Nonresident noncitizens generally are subject to estate 
tax on certain transfers of U.S.-situated property at 
death.\210\ Such property includes real estate and tangible 
property located within the United States. Moreover, for estate 
tax purposes, stock held by nonresident noncitizens is treated 
as U.S.-situated if issued by a U.S. corporation.
---------------------------------------------------------------------------
    \210\ The Economic Growth and Tax Relief Reconciliation Act of 2001 
(the ``Act'') repealed the estate tax for estates of decedents dying 
after December 31, 2009. However, the Act included a ``sunset'' 
provision, pursuant to which the Act's provisions (including estate tax 
repeal) do not apply to estates of decedents dying after December 31, 
2010.
---------------------------------------------------------------------------
      Special rules apply to U.S. citizens who relinquish their 
citizenship and long-term residents who terminate their U.S. 
residency within the 10 years prior to the date of death, 
unless the loss of status did not have as one its principal 
purposes the avoidance of tax (sec. 2107). Under these rules, 
the decedent's estate includes the proportion of the decedent's 
stock in a foreign corporation that the fair market value of 
the U.S.-situs assets owned by the corporation bears to the 
total assets of the corporation. This rule applies only if (1) 
the decedent owned, directly, at death 10 percent or more of 
the combined voting power of all voting stock of the 
corporation and (2) the decedent owned, directly or indirectly, 
at death more than 50 percent of the total voting stock of the 
corporation or more than 50 percent of the total value of all 
stock of the corporation.
      Taxpayers are deemed to have a principal purpose of tax 
avoidance if they meet the five-year tax liability test or the 
net worth test, discussed above. Exceptions from this tax 
avoidance treatment apply in the same circumstances as those 
described above (relating to certain dual citizens and other 
individuals who submit a timely and complete ruling request 
with the IRS as to whether their expatriation or residency 
termination had a principal purpose of tax avoidance).

Gift tax rules with respect to expatriates

      Nonresident noncitizens generally are subject to gift tax 
on certain transfers by gift of U.S.-situated property. Such 
property includes real estate and tangible property located 
within the United States. Unlike the estate tax rules for U.S. 
stock held by nonresidents, however, nonresident noncitizens 
generally are not subject to U.S. gift tax on the transfer of 
intangibles, such as stock or securities, regardless of where 
such property is situated.
      Special rules apply to U.S. citizens who relinquish their 
U.S. citizenship or long-term residents of the United States 
who terminate their U.S. residency within the 10 years prior to 
the date of transfer, unless such loss did not have as one of 
its principal purposes the avoidance of tax (sec. 2501(a)(3)). 
Under these rules, nonresident noncitizens are subject to gift 
tax on transfers of intangibles, such as stock or securities. 
Taxpayers are deemed to have a principal purpose of tax 
avoidance if they meet the five-year tax liability test or the 
net worth test, discussed above. Exceptions from this tax 
avoidance treatment apply in the same circumstances as those 
described above (relating to certain dual citizens and other 
individuals who submit a timely and complete ruling request 
with the IRS as to whether their expatriation or residency 
termination had a principal purpose of tax avoidance).

Other tax rules with respect to expatriates

      The expatriation tax provisions permit a credit against 
the U.S. tax imposed under such provisions for any foreign 
income, gift, estate, or similar taxes paid with respect to the 
items subject to such taxation. This credit is available only 
against the tax imposed solely as a result of the expatriation 
tax provisions, and is not available to be used to offset any 
other U.S. tax liability.
      In addition, certain information reporting requirements 
apply. Under these rules, a U.S. citizen who loses his or her 
citizenship is required to provide a statement to the State 
Department (or other designated government entity) that 
includes the individual's social security number, forwarding 
foreign address, new country of residence and citizenship, a 
balance sheet in the case of individuals with a net worth of at 
least $500,000, and such other information as the Secretary may 
prescribe. The information statement must be provided no later 
than the earliest day on which the individual (1) renounces the 
individual's U.S. nationality before a diplomatic or consular 
officer of the United States, (2) furnishes to the U.S. 
Department of State a statement of voluntary relinquishment of 
U.S. nationality confirming an act of expatriation, (3) is 
issued a certificate of loss of U.S. nationality by the U.S. 
Department of State, or (4) loses U.S. nationality because the 
individual's certificate of naturalization is canceled by a 
U.S. court. The entity to which such statement is to be 
provided is required to provide to the Secretary of the 
Treasury copies of all statements received and the names of 
individuals who refuse to provide such statements. A long-term 
resident whose U.S. residency is terminated is required to 
attach a similar statement to his or her U.S. income tax return 
for the year of such termination. An individual's failure to 
provide the required statement results in the imposition of a 
penalty for each year the failure continues equal to the 
greater of (1) 5 percent of the individual's expatriation tax 
liability for such year, or (2) $1,000.
      The State Department is required to provide the Secretary 
of the Treasury with a copy of each certificate of loss of 
nationality approved by the State Department. Similarly, the 
agency administering the immigration laws is required to 
provide the Secretary of the Treasury with the name of each 
individual whose status as a lawful permanent resident has been 
revoked or has been determined to have been abandoned. Further, 
the Secretary of the Treasury is required to publish in the 
Federal Register the names of all former U.S. citizens with 
respect to whom it receives the required statements or whose 
names or certificates of loss of nationality it receives under 
the foregoing information-sharing provisions.

Immigration rules with respect to expatriates

      Under U.S. immigration laws, any former U.S. citizen who 
officially renounces his or her U.S. citizenship and who is 
determined by the Attorney General to have renounced for the 
purpose of U.S. tax avoidance is ineligible to receive a U.S. 
visa and will be denied entry into the United States. This 
provision was included as an amendment (the ``Reed amendment'') 
to immigration legislation that was enacted in 1996.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

In general

      The Senate amendment generally subjects certain U.S. 
citizens who relinquish their U.S. citizenship and certain 
long-term U.S. residents who terminate their U.S. residence to 
tax on the net unrealized gain in their property as if such 
property were sold for fair market value on the day before the 
expatriation or residency termination. Gain from the deemed 
sale is taken into account at that time without regard to other 
Code provisions; any loss from the deemed sale generally would 
be taken into account to the extent otherwise provided in the 
Code. Any net gain on the deemed sale is recognized to the 
extent it exceeds $600,000 ($1.2 million in the caseof married 
individuals filing a joint return, both of whom relinquish citizenship 
or terminate residency). The $600,000 amount is increased by a cost of 
living adjustment factor for calendar years after 2003.

Individuals covered

      Under the Senate amendment, the mark-to-market tax 
applies to U.S. citizens who relinquish citizenship and long-
term residents who terminate U.S. residency. An individual is a 
long-term resident if he or she was a lawful permanent resident 
for at least eight out of the 15 taxable years ending with the 
year in which the termination of residency occurs. An 
individual is considered to terminate long-term residency when 
either the individual ceases to be a lawful permanent resident 
(i.e., loses his or her green card status), or the individual 
is treated as a resident of another country under a tax treaty 
and the individual does not waive the benefits of the treaty.
      Exceptions from the mark-to-market tax are provided in 
two situations. The first exception applies to an individual 
who was born with citizenship both in the United States and in 
another country; provided that (1) as of the expatriation date 
the individual continues to be a citizen of, and is taxed as a 
resident of, such other country, and (2) the individual was not 
a resident of the United States for the five taxable years 
ending with the year of expatriation. The second exception 
applies to a U.S. citizen who relinquishes U.S. citizenship 
before reaching age 18 and a half, provided that the individual 
was a resident of the United States for no more than five 
taxable years before such relinquishment.

Election to be treated as a U.S. citizen

      Under the Senate amendment, an individual is permitted to 
make an irrevocable election to continue to be taxed as a U.S. 
citizen with respect to all property that otherwise is covered 
by the expatriation tax. This election is an ``all or nothing'' 
election; an individual is not permitted to elect this 
treatment for some property but not for other property. The 
election, if made, would apply to all property that would be 
subject to the expatriation tax and to any property the basis 
of which is determined by reference to such property. Under 
this election, the individual would continue to pay U.S. income 
taxes at the rates applicable to U.S. citizens following 
expatriation on any income generated by the property and on any 
gain realized on the disposition of the property. In addition, 
the property would continue to be subject to U.S. gift, estate, 
and generation-skipping transfer taxes. In order to make this 
election, the taxpayer would be required to waive any treaty 
rights that would preclude the collection of the tax.
      The individual also would be required to provide security 
to ensure payment of the tax under this election in such form, 
manner, and amount as the Secretary of the Treasury requires. 
The amount of mark-to-market tax that would have been owed but 
for this election (including any interest, penalties, and 
certain other items) shall be a lien in favor of the United 
States on all U.S.-situs property owned by the individual. This 
lien shall arise on the expatriation date and shall continue 
until the tax liability is satisfied, the tax liability has 
become unenforceable by reason of lapse of time, or the 
Secretary is satisfied that no further tax liability may arise 
by reason of this provision. The rules of section 6324A(d)(1), 
(3), and (4) (relating to liens arising in connection with the 
deferral of estate tax under section 6166) apply to liens 
arising under this provision.

Date of relinquishment of citizenship

      Under the Senate amendment, an individual is treated as 
having relinquished U.S. citizenship on the earliest of four 
possible dates: (1) the date that the individual renounces U.S. 
nationality before a diplomatic or consular officer of the 
United States (provided that the voluntary relinquishment is 
later confirmed by the issuance of a certificate of loss of 
nationality); (2) the date that the individual furnishes to the 
State Department a signed statement of voluntary relinquishment 
of U.S. nationality confirming the performance of an 
expatriating act (again, provided that the voluntary 
relinquishment is later confirmed by the issuance of a 
certificate of loss of nationality); (3) the date that the 
State Department issues a certificate of loss of nationality; 
or (4) the date that a U.S. court cancels a naturalized 
citizen's certificate of naturalization.

Deemed sale of property upon expatriation or residency termination

      The deemed sale rule of the Senate amendment generally 
applies to all property interests held by the individual on the 
date of relinquishment of citizenship or termination of 
residency. Special rules apply in the case of trust interests, 
as described below. U.S. real property interests, which remain 
subject to U.S. tax in the hands of nonresident noncitizens, 
generally are excepted from the provision. Regulatory authority 
is granted to the Treasury to except other types of property 
from the provision.
      Under the Senate amendment, an individual who is subject 
to the mark-to-market tax is required to pay a tentative tax 
equal to the amount of tax that would be due for a hypothetical 
short tax year ending on the date the individual relinquished 
citizenship or terminated residency. Thus, the tentative tax is 
based on all income, gain, deductions, loss, and credits of the 
individual for the year through such date, including amounts 
realized from the deemed sale of property. The tentative tax is 
due on the 90th day after the date of relinquishment of 
citizenship or termination of residency.

Retirement plans and similar arrangements

      Subject to certain exceptions, the Senate amendment 
applies to all property interests held by the individual at the 
time of relinquishment of citizenship or termination of 
residency. Accordingly, such property includes an interest in 
an employer-sponsored retirement plan or deferred compensation 
arrangement as well as an interest in an individual retirement 
account or annuity (i.e., an IRA).\211\ However, the Senate 
amendment contains a special rule for an interest in a 
``qualified retirement plan.'' For purposes of the provision, a 
``qualified retirement plan'' includes an employer-sponsored 
qualified plan (sec. 401(a)), a qualified annuity (sec. 
403(a)), a tax-sheltered annuity (sec. 403(b)), an eligible 
deferred compensation plan of a governmental employer (sec. 
457(b)), or an IRA (sec. 408). The special retirement plan rule 
applies also, to the extent provided in regulations, to any 
foreign plan or similar retirement arrangement or program. An 
interest in a trust that is part of a qualified retirement plan 
or other arrangement that is subject to the special retirement 
plan rule is not subject to the rules for interests in trusts 
(discussed below).
---------------------------------------------------------------------------
    \211\ Application of the provision is not limited to an interest 
that meets the definition of property under section 83 (relating to 
property transferred in connection with the performance of services).
---------------------------------------------------------------------------
      Under the special rule, an amount equal to the present 
value of the individual's vested, accrued benefit under a 
qualified retirement plan is treated as having been received by 
the individual as a distribution under the plan on the day 
before the individual's relinquishment of citizenship or 
termination of residency. It is not intended that the plan 
would be deemed to have made a distribution for purposes of the 
tax-favored status of the plan, such as whether a plan may 
permit distributions before a participant has severed 
employment. In the case of any later distribution to the 
individual from the plan, the amount otherwise includible in 
the individual's income as a result of the distribution is 
reduced to reflect the amount previously included in income 
under the special retirement plan rule. The amount of the 
reduction applied to a distribution is the excess of: (1) the 
amount included in income under the special retirement plan 
rule over (2) the total reductions applied to any prior 
distributions. However, under the provision, the retirement 
plan, and any person acting on the plan's behalf, will treat 
any later distribution in the same manner as the distribution 
would be treated without regard to the special retirement plan 
rule.
      It is expected that the Treasury Department will provide 
guidance for determining the present value of an individual's 
vested, accrued benefit under a qualified retirement plan, such 
as the individual's account balance in the case of a defined 
contribution plan or an IRA, or present value determined under 
the qualified joint and survivor annuity rules applicable to a 
defined benefit plan (sec. 417(e)).

Deferral of payment of tax

      Under the Senate amendment, an individual is permitted to 
elect to defer payment of the mark-to-market tax imposed on the 
deemed sale of the property. Interest is charged for the period 
the tax is deferred at a rate two percentage points higher than 
the rate normally applicable to individual underpayments. Under 
this election, the mark-to-market tax attributable to a 
particular property is due when the property is disposed of 
(or, if the property is disposed of in whole or in part in a 
nonrecognition transaction, at such other time as the Secretary 
may prescribe). The mark-to-market tax attributable to a 
particular property is an amount that bears the same ratio to 
the total mark-to-market tax for the year as the gain taken 
into account with respect to such property bears to the total 
gain taken into account under these rules for the year. The 
deferral of the mark-to-market tax may not be extended beyond 
the individual's death.
      In order to elect deferral of the mark-to-market tax, the 
individual is required to provide adequate security to the 
Treasury to ensure that the deferred tax and interest will be 
paid. Other security mechanisms are permitted provided that the 
individual establishes to the satisfaction of the Secretary 
that the security is adequate. In the event that the security 
provided with respect to a particular property subsequently 
becomes inadequate and the individual fails to correct the 
situation, the deferred tax and the interest with respect to 
such property will become due. As afurther condition to making 
the election, the individual is required to consent to the waiver of 
any treaty rights that would preclude the collection of the tax.
      The deferred amount (including any interest, penalties, 
and certain other items) shall be a lien in favor of the United 
States on all U.S.-situs property owned by the individual. This 
lien shall arise on the expatriation date and shall continue 
until the tax liability is satisfied, the tax liability has 
become unenforceable by reason of lapse of time, or the 
Secretary is satisfied that no further tax liability may arise 
by reason of this provision. The rules of section 6324A(d)(1), 
(3), and (4) (relating to liens arising in connection with the 
deferral of estate tax under section 6166) apply to liens 
arising under this provision.

Interests in trusts

      Under the Senate amendment, detailed rules apply to trust 
interests held by an individual at the time of relinquishment 
of citizenship or termination of residency. The treatment of 
trust interests depends on whether the trust is a qualified 
trust. A trust is a qualified trust if a court within the 
United States is able to exercise primary supervision over the 
administration of the trust and one or more U.S. persons have 
the authority to control all substantial decisions of the 
trust.
      Constructive ownership rules apply to a trust beneficiary 
that is a corporation, partnership, trust, or estate. In such 
cases, the shareholders, partners, or beneficiaries of the 
entity are deemed to be the direct beneficiaries of the trust 
for purposes of applying these provisions. In addition, an 
individual who holds (or who is treated as holding) a trust 
instrument at the time of relinquishment of citizenship or 
termination of residency is required to disclose on his or her 
tax return the methodology used to determine his or her 
interest in the trust, and whether such individual knows (or 
has reason to know) that any other beneficiary of the trust 
uses a different method.
      Nonqualified trusts.--If an individual holds an interest 
in a trust that is not a qualified trust, a special rule 
applies for purposes of determining the amount of the mark-to-
market tax due with respect to such trust interest. The 
individual's interest in the trust is treated as a separate 
trust consisting of the trust assets allocable to such 
interest. Such separate trust is treated as having sold its net 
assets as of the date of relinquishment of citizenship or 
termination of residency and having distributed the assets to 
the individual, who then is treated as having recontributed the 
assets to the trust. The individual is subject to the mark-to-
market tax with respect to any net income or gain arising from 
the deemed distribution from the trust.
      The election to defer payment is available for the mark-
to-market tax attributable to a nonqualified trust interest. 
Interest is charged for the period the tax is deferred at a 
rate two percentage points higher than the rate normally 
applicable to individual underpayments. A beneficiary's 
interest in a nonqualified trust is determined under all the 
facts and circumstances, including the trust instrument, 
letters of wishes, and historical patterns of trust 
distributions.
      Qualified trusts.--If an individual has an interest in a 
qualified trust, the amount of unrealized gain allocable to the 
individual's trust interest is calculated at the time of 
expatriation or residency termination. In determining this 
amount, all contingencies and discretionary interests are 
assumed to be resolved in the individual's favor (i.e., the 
individual is allocated the maximum amount that he or she could 
receive). The mark-to-market tax imposed on such gains is 
collected when the individual receives distributions from the 
trust, or if earlier, upon the individual's death. Interest is 
charged for the period the tax is deferred at a rate two 
percentage points higher than the rate normally applicable to 
individual underpayments.
      If an individual has an interest in a qualified trust, 
the individual is subject to the mark-to-market tax upon the 
receipt of distributions from the trust. These distributions 
also may be subject to other U.S. income taxes. If a 
distribution from a qualified trust is made after the 
individual relinquishes citizenship or terminates residency, 
the mark-to-market tax is imposed in an amount equal to the 
amount of the distribution multiplied by the highest tax rate 
generally applicable to trusts and estates, but in no event 
will the tax imposed exceed the deferred tax amount with 
respect to the trust interest. For this purpose, the deferred 
tax amount is equal to (1) the tax calculated with respect to 
the unrealized gain allocable to the trust interest at the time 
of expatriation or residency termination, (2) increased by 
interest thereon, and (3) reduced by any mark-to-market tax 
imposed on prior trust distributions to the individual.
      If any individual's interest in a trust is vested as of 
the expatriation date (e.g., if the individual's interest in 
the trust is non-contingent and non-discretionary), the gain 
allocable to the individual's trust interest is determined 
based on the trust assets allocable to his or her trust 
interest. If the individual's interest in the trust is not 
vested as of the expatriation date (e.g., if the individual's 
trust interest is a contingent or discretionary interest), the 
gain allocable to his or her trust interest is determined based 
on all of the trust assets that could be allocable to his or 
her trust interest, determined by resolving all contingencies 
and discretionary powers in the individual's favor. In the case 
where more than one trust beneficiary is subject to the 
expatriation tax with respect to trust interests that are not 
vested, the rules are intended to apply so that the same 
unrealized gain with respect to assets in the trust is not 
taxed to both individuals.
      Mark-to-market taxes become due if the trust ceases to be 
a qualified trust, the individual disposes of his or her 
qualified trust interest, or the individual dies. In such 
cases, the amount of mark-to-market tax equals the lesser of 
(1) the tax calculated under the rules for nonqualified trust 
interests as of the date of the triggering event, or (2) the 
deferred tax amount with respect to the trust interest as of 
that date.
      The tax that is imposed on distributions from a qualified 
trust generally is deducted and withheld by the trustees. If 
the individual does not agree to waive treaty rights that would 
preclude collection of the tax, the tax with respect to such 
distributions is imposed on the trust, the trustee is 
personally liable for the tax, and any other beneficiary has a 
right of contribution against such individual with respect to 
the tax. Similar rules apply when the qualified trust interest 
is disposed of, the trust ceases to be a qualified trust, or 
the individual dies.

Coordination with present-law alternative tax regime

      The Senate amendment provides a coordination rule with 
the present-law alternative tax regime. Under the provision, 
the expatriation income tax rules under section 877, and the 
expatriation estate and gift tax rules under sections 2107 and 
2501(a)(3) (described above), donot apply to a former citizen 
or former long-term resident whose expatriation or residency 
termination occurs on or after February 5, 2003.

Treatment of gifts and inheritances from a former citizen or former 
        long-term resident

      Under the Senate amendment, the exclusion from income 
provided in section 102 (relating to exclusions from income for 
the value of property acquired by gift or inheritance) does not 
apply to the value of any property received by gift or 
inheritance from a former citizen or former long-term resident 
(i.e., an individual who relinquished U.S. citizenship or 
terminated U.S. residency), subject to the exceptions described 
above relating to certain dual citizens and minors. 
Accordingly, a U.S. taxpayer who receives a gift or inheritance 
from such an individual is required to include the value of 
such gift or inheritance in gross income and is subject to U.S. 
tax on such amount. Having included the value of the property 
in income, the recipient would then take a basis in the 
property equal to that value. The tax does not apply to 
property that is shown on a timely filed gift tax return and 
that is a taxable gift by the former citizen or former long-
term resident, or property that is shown on a timely filed 
estate tax return and included in the gross U.S. estate of the 
former citizen or former long-term resident (regardless of 
whether the tax liability shown on such a return is reduced by 
credits, deductions, or exclusions available under the estate 
and gift tax rules). In addition, the tax does not apply to 
property in cases in which no estate or gift tax return is 
required to be filed, where no such return would have been 
required to be filed if the former citizen or former long-term 
resident had not relinquished citizenship or terminated 
residency, as the case may be. Applicable gifts or bequests 
that are made in trust are treated as made to the beneficiaries 
of the trust in proportion to their respective interests in the 
trust.

Information reporting

      The Senate amendment provides that certain information 
reporting requirements under present law (sec. 6039G) 
applicable to former citizens and former long-term residents 
also apply for purposes of the provision.

Immigration rules

      The Senate amendment amends the immigration rules that 
deny tax-motivated expatriates reentry into the United States 
by removing the requirement that the expatriation be tax-
motivated, and instead denies former citizens reentry into the 
United States if the individual is determined not to be in 
compliance with his or her tax obligations under the 
provision's expatriation tax provisions (regardless of the 
subjective motive for expatriating). For this purpose, the 
provision permits the IRS to disclose certain items of return 
information of an individual, upon written request of the 
Attorney General or his delegate, as is necessary for making a 
determination under section 212(a)(10)(E) of the Immigration 
and Nationality Act. Specifically, the provision would permit 
the IRS to disclose to the agency administering section 
212(a)(10)(E) whether such taxpayer is in compliance with 
section 877A and identify the items of noncompliance. 
Recordkeeping requirements, safeguards, and civil and criminal 
penalties for unauthorized disclosure or inspection would apply 
to return information disclosed under this provision.

Effective date

      The Senate amendment generally is effective for U.S. 
citizens who relinquish citizenship or long-term residents who 
terminate their residency on or after February 5, 2003. The 
provisions relating to gifts and inheritances are effective for 
gifts and inheritances received from former citizens and former 
long-term residents on or after February 5, 2003, whose 
expatriation or residency termination occurs on or after such 
date. The provisions relating to former citizens under U.S. 
immigration laws are effective on or after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Provisions to discourage corporate expatriation (secs. 341-343 of 
        the Senate amendment and secs. 845(a) and 275(a) and new secs. 
        7874 and 5000A of the Code)

            (a) Tax treatment of inverted corporate entities

                              PRESENT LAW

Determination of corporate residence

      The U.S. tax treatment of a multinational corporate group 
depends significantly on whether the top-tier ``parent'' 
corporation of the group is domestic or foreign. For purposes 
of U.S. tax law, a corporation is treated as domestic if it is 
incorporated under the law of the United States or of any 
State. All other corporations (i.e., those incorporated under 
the laws of foreign countries) are treated as foreign. Thus, 
place of incorporation determines whether a corporation is 
treated as domestic or foreign for purposes of U.S. tax law, 
irrespective of other factors that might be thought to bear on 
a corporation's ``nationality,'' such as the location of the 
corporation's management activities, employees, business 
assets, operations, or revenue sources, the exchanges on which 
the corporation's stock is traded, or the residence of the 
corporation's managers and shareholders.

U.S. taxation of domestic corporations

      The United States employs a ``worldwide'' tax system, 
under which domestic corporations generally are taxed on all 
income, whether derived in the United States or abroad. In 
order to mitigate the double taxation that may arise from 
taxing the foreign-source income of a domestic corporation, a 
foreign tax credit for income taxes paid to foreign countries 
is provided to reduce or eliminate the U.S. tax owed on such 
income, subject to certain limitations.
      Income earned by a domestic parent corporation from 
foreign operations conducted by foreign corporate subsidiaries 
generally is subject to U.S. tax when the income is distributed 
as a dividend to the domestic corporation. Until such 
repatriation, the U.S. tax on such income is generally 
deferred. However, certain anti-deferral regimes may cause the 
domestic parent corporation to be taxed on a current basis in 
the United States with respect to certain categories of passive 
or highly mobile income earned by its foreign subsidiaries, 
regardless of whether the income has been distributed as a 
dividend to the domestic parent corporation. The main anti-
deferral regimes in this context are the controlled foreign 
corporation rules of subpart F \212\ and the passive foreign 
investment company rules.\213\ A foreign tax credit is 
generally available to offset, in whole or in part, the U.S. 
tax owed on this foreign-source income, whether repatriated as 
an actual dividend or included under one of the anti-deferral 
regimes.
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    \212\ Secs. 951-964.
    \213\ Secs. 1291-1298.
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U.S. taxation of foreign corporations

      The United States taxes foreign corporations only on 
income that has a sufficient nexus to the United States. Thus, 
a foreign corporation is generally subject to U.S. tax only on 
income that is ``effectively connected'' with the conduct of a 
trade or business in the United States. Such ``effectively 
connected income'' generally is taxed in the same manner and at 
the same rates as the income of a U.S. corporation. An 
applicable tax treaty may limit the imposition of U.S. tax on 
business operations of a foreign corporation to cases in which 
the business is conducted through a ``permanent establishment'' 
in the United States.
      In addition, foreign corporations generally are subject 
to a gross-basis U.S. tax at a flat 30-percent rate on the 
receipt of interest, dividends, rents, royalties, and certain 
similar types of income derived from U.S. sources, subject to 
certain exceptions. The tax generally is collected by means of 
withholding by the person making the payment. This tax may be 
reduced or eliminated under an applicable tax treaty.

U.S. tax treatment of inversion transactions

      Under present law, U.S. corporations may reincorporate in 
foreign jurisdictions and thereby replace the U.S. parent 
corporation of a multinational corporate group with a foreign 
parent corporation. These transactions are commonly referred to 
as ``inversion'' transactions. Inversion transactions may take 
many different forms, including stock inversions, asset 
inversions, and various combinations of and variations on the 
two. Most of the known transactions to date have been stock 
inversions. In one example of a stock inversion, a U.S. 
corporation forms a foreign corporation, which in turn forms a 
domestic merger subsidiary. The domestic merger subsidiary then 
merges into the U.S. corporation, with the U.S. corporation 
surviving, now as a subsidiary of the new foreign corporation. 
The U.S. corporation's shareholders receive shares of the 
foreign corporation and are treated as having exchanged their 
U.S. corporation shares for the foreign corporation shares. An 
asset inversion reaches a similar result, but through a direct 
merger of the top-tier U.S. corporation into a new foreign 
corporation, among other possible forms. An inversion 
transaction may be accompanied or followed by further 
restructuring of the corporate group. For example, in the case 
of a stock inversion, in order to remove income from foreign 
operations from the U.S. taxing jurisdiction, the U.S. 
corporation may transfer some or all of its foreign 
subsidiaries directly to the new foreign parent corporation or 
other related foreign corporations.
      In addition to removing foreign operations from the U.S. 
taxing jurisdiction, the corporate group may derive further 
advantage from the inverted structure by reducing U.S. taxon 
U.S.-source income through various ``earnings stripping'' or other 
transactions. This may include earnings stripping through payment by a 
U.S. corporation of deductible amounts such as interest, royalties, 
rents, or management service fees to the new foreign parent or other 
foreign affiliates. In this respect, the post-inversion structure 
enables the group to employ the same tax-reduction strategies that are 
available to other multinational corporate groups with foreign parents 
and U.S. subsidiaries, subject to the same limitations. These 
limitations under present law include section 163(j), which limits the 
deductibility of certain interest paid to related parties, if the 
payor's debt-equity ratio exceeds 1.5 to 1 and the payor's net interest 
expense exceeds 50 percent of its ``adjusted taxable income.'' More 
generally, section 482 and the regulations thereunder require that all 
transactions between related parties be conducted on terms consistent 
with an ``arm's length'' standard, and permit the Secretary of the 
Treasury to reallocate income and deductions among such parties if that 
standard is not met.
      Inversion transactions may give rise to immediate U.S. 
tax consequences at the shareholder and/or the corporate level, 
depending on the type of inversion. In stock inversions, the 
U.S. shareholders generally recognize gain (but not loss) under 
section 367(a), based on the difference between the fair market 
value of the foreign corporation shares received and the 
adjusted basis of the domestic corporation stock exchanged. To 
the extent that a corporation's share value has declined, and/
or it has many foreign or tax-exempt shareholders, the impact 
of this section 367(a) ``toll charge'' is reduced. The transfer 
of foreign subsidiaries or other assets to the foreign parent 
corporation also may give rise to U.S. tax consequences at the 
corporate level (e.g., gain recognition and earnings and 
profits inclusions under sections 1001, 311(b), 304, 367, 1248 
or other provisions). The tax on any income recognized as a 
result of these restructurings may be reduced or eliminated 
through the use of net operating losses, foreign tax credits, 
and other tax attributes.
      In asset inversions, the U.S. corporation generally 
recognizes gain (but not loss) under section 367(a) as though 
it had sold all of its assets, but the shareholders generally 
do not recognize gain or loss, assuming the transaction meets 
the requirements of a reorganization under section 368.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

In general

      The Senate amendment defines two different types of 
corporate inversion transactions and establishes a different 
set of consequences for each type. Certain partnership 
transactions also are covered.

Transactions involving at least 80 percent identity of stock ownership

      The first type of inversion is a transaction in which, 
pursuant to a plan or a series of related transactions: (1) a 
U.S. corporation becomes a subsidiary of a foreign-incorporated 
entity or otherwise transfers substantially all of its 
properties to such an entity; \214\ (2) the former shareholders 
of the U.S. corporation hold (by reason of holding stock in the 
U.S. corporation) 80 percent or more (by vote or value) of the 
stock of the foreign-incorporated entity after the transaction; 
and (3) the foreign-incorporated entity, considered together 
with all companies connected to it by a chain of greater than 
50 percent ownership (i.e., the ``expanded affiliated group''), 
does not have substantial business activities in the entity's 
country of incorporation, compared to the total worldwide 
business activities of the expanded affiliated group. The 
provision denies the intended tax benefits of this type of 
inversion by deeming the top-tier foreign corporation to be a 
domestic corporation for all purposes of the Code.\215\
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    \214\ It is expected that the Treasury Secretary will issue 
regulations applying the term ``substantially all'' in this context and 
will not be bound in this regard by interpretations of the term in 
other contexts under the Code.
    \215\ Since the top-tier foreign corporation is treated for all 
purposes of the Code as domestic, the shareholder-level ``toll charge'' 
of sec. 367(a) does not apply to these inversion transactions. However, 
with respect to inversion transactions completed before 2004, regulated 
investment companies and certain similar entities are allowed to elect 
to recognize gain as if sec. 367(a) did apply.
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      Except as otherwise provided in regulations, the 
provision does not apply to a direct or indirect acquisition of 
the properties of a U.S. corporation no class of the stock of 
which was traded on an established securities market at any 
time within the four-year period preceding the acquisition. In 
determining whether a transaction would meet the definition of 
an inversion under the provision, stock held by members of the 
expanded affiliated group that includes the foreign 
incorporated entity is disregarded. For example, if the former 
top-tier U.S. corporation receives stock of the foreign 
incorporated entity (e.g., so-called ``hook'' stock), the stock 
would not be considered in determining whether the transaction 
meets the definition. Stock sold in a public offering (whether 
initial or secondary) or private placement related to the 
transaction also is disregarded for these purposes. 
Acquisitions with respect to a domestic corporation or 
partnership are deemed to be ``pursuant to a plan'' if they 
occur within the four-year period beginning on the date which 
is two years before the ownership threshold under the provision 
is met with respect to such corporation or partnership.
      Transfers of properties or liabilities as part of a plan 
a principal purpose of which is to avoid the purposes of the 
provision are disregarded. In addition, the Treasury Secretary 
is granted authority to prevent the avoidance of the purposes 
of the provision, including avoidance through the use of 
related persons, pass-through or other noncorporate entities, 
or other intermediaries, and through transactions designed to 
qualify or disqualify a person as a related person, a member of 
an expanded affiliated group, or a publicly traded corporation. 
Similarly, the Treasury Secretary is granted authority to treat 
certain non-stock instruments as stock, and certain stock as 
not stock, where necessary to carry out the purposes of the 
provision.

Transactions involving greater than 50 percent but less than 80 percent 
        identity of stock ownership

      The second type of inversion is a transaction that would 
meet the definition of an inversion transaction described 
above, except that the 80-percent ownership threshold is not 
met. In such a case, if a greater-than-50-percent ownership 
threshold is met, then a second set of rules applies to the 
inversion. Under these rules, the inversion transaction is 
respected (i.e., the foreign corporation is treated as 
foreign), but: (1) any applicable corporate-level ``toll 
charges'' for establishing the inverted structure may not be 
offset by tax attributes such as net operating losses or 
foreign tax credits; (2) the IRS is given expanded authority to 
monitor related-party transactions that may be used to reduce 
U.S. tax on U.S.-source income going forward; and (3) section 
163(j), relating to ``earnings stripping'' through related-
party debt, is strengthened. These measures generally apply for 
a 10-year period following the inversion transaction. In 
addition, inverting entities are required to provide 
information to shareholders or partners and the IRS with 
respect to the inversion transaction.
      With respect to ``toll charges,'' any applicable 
corporate-level income or gain required to be recognized under 
sections 304, 311(b), 367, 1001, 1248, or any other provision 
with respect to the transfer of controlled foreign corporation 
stock or other assets by a U.S. corporation as part of the 
inversion transaction or after such transaction to a related 
foreign person is taxable, without offset by any tax attributes 
(e.g., net operating losses or foreign tax credits). To the 
extent provided in regulations, this rule will not apply to 
certain transfers of inventory and similar transactions 
conducted in the ordinary course of the taxpayer's business.
      In order to enhance IRS monitoring of related-party 
transactions, the provision establishes a new pre-filing 
procedure. Under this procedure, the taxpayer will be required 
annually to submit an application to the IRS for an agreement 
that all return positions to be taken by the taxpayer with 
respect to related-party transactions comply with all relevant 
provisions of the Code, including sections 163(j), 267(a)(3), 
482, and 845. The Treasury Secretary is given the authority to 
specify the form, content, and supporting information required 
for this application, as well as the timing for its submission.
      The IRS will be required to take one of the following 
three actions within 90 days of receiving a complete 
application from a taxpayer: (1) conclude an agreement with the 
taxpayer that the return positions to be taken with respect to 
related-party transactions comply with all relevant provisions 
of the Code; (2) advise the taxpayer that the IRS is satisfied 
that the application was made in good faith and substantially 
complies with the requirements set forth by the Treasury 
Secretary for such an application, but that the IRS reserves 
substantive judgment as to the tax treatment of the relevant 
transactions pending the normal audit process; or (3) advise 
the taxpayer that the IRS has concluded that the application 
was not made in good faith or does not substantially comply 
with the requirements set forth by the Treasury Secretary.
      In the case of a compliance failure described in (3) 
above (and in cases in which the taxpayer fails to submit an 
application), the following sanctions will apply for the 
taxable year for which the application was required: (1) no 
deductions or additions to basis or cost of goods sold for 
payments to foreign related parties will be permitted; (2) any 
transfers or licenses of intangible property to related foreign 
parties will be disregarded; and (3) any cost-sharing 
arrangements will not be respected. In such a case, the 
taxpayer may seek direct review by the U.S. Tax Court of the 
IRS's determination of compliance failure.
      If the IRS fails to act on the taxpayer's application 
within 90 days of receipt, then the taxpayer will be treated as 
having submitted in good faith an application that 
substantially complies with the above-referenced requirements. 
Thus, the deduction disallowance and other sanctions described 
above will not apply, but the IRS will be able to examine the 
transactions at issue under the normal audit process. The IRS 
is authorized to request that the taxpayer extend this 90-day 
deadline in cases in which the IRS believes that such an 
extension might help the parties to reach an agreement.
      The ``earnings stripping'' rules of section 163(j), which 
deny or defer deductions for certain interest paid to foreign 
related parties, are strengthened for inverted corporations. 
With respect to such corporations, the provision eliminates the 
debt-equity threshold generally applicable under section 163(j) 
and reduces the 50-percent thresholds for ``excess interest 
expense'' and ``excess limitation'' to 25 percent.
      In cases in which a U.S. corporate group acquires 
subsidiaries or other assets from an unrelated inverted 
corporate group, the provisions described above generally do 
not apply to the acquiring U.S. corporate group or its related 
parties (including the newly acquired subsidiaries or assets) 
by reason of acquiring the subsidiaries or assets that were 
connected with the inversion transaction. The Treasury 
Secretary is given authority to issue regulations appropriate 
to carry out the purposes of this provision and to prevent its 
abuse.

Partnership transactions

      Under the proposal, both types of inversion transactions 
include certain partnership transactions. Specifically, both 
parts of the provision apply to transactions in which a 
foreign-incorporated entity acquires substantially all of the 
properties constituting a trade or business of a domestic 
partnership (whether or not publicly traded), if after the 
acquisition at least 80 percent (or more than 50 percent but 
less than 80 percent, as the case may be) of the stock of the 
entity is held by former partners of the partnership (by reason 
of holding their partnership interests), and the ``substantial 
business activities'' test is not met. For purposes of 
determining whether these tests are met, all partnerships that 
are under common control within the meaning of section 482 are 
treated as one partnership, except as provided otherwise in 
regulations. In addition, the modified ``toll charge'' 
provisions apply at the partner level.

Effective date

      The regime applicable to transactions involving at least 
80 percent identity of ownership applies to inversion 
transactions completed after March 20, 2002. The rules for 
inversion transactions involving greater-than-50-percent 
identity of ownership apply to inversion transactions completed 
after 1996 that meet the 50-percent test and to inversion 
transactions completed after 1996 that would have met the 80-
percent test but for the March 20, 2002 date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.
            (b) Excise tax on stock compensation of insiders in 
                    inverted corporations

                              PRESENT LAW

      The income taxation of a nonstatutory \216\ compensatory 
stock option is determined under the rules that apply to 
property transferred in connection with the performance of 
services (sec. 83). If a nonstatutory stock option does not 
have a readily ascertainable fair market value at the time of 
grant, which is generally the case unless the option is 
actively traded on an established market, no amount is included 
in the gross income of the recipient with respect to the option 
until the recipient exercises the option.\217\ Upon exercise of 
such an option, the excess of the fair market value of the 
stock purchased over the option price is included in the 
recipient's gross income as ordinary income in such taxable 
year.
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    \216\ Nonstatutory stock options refer to stock options other than 
incentive stock options and employee stock purchase plans, the taxation 
of which is determined under sections 421-424.
    \217\ If an individual receives a grant of a nonstatutory option 
that has a readily ascertainable fair market value at the time the 
option is granted, the excess of the fair market value of the option 
over the amount paid for the option is included in the recipient's 
gross income as ordinary income in the first taxable year in which the 
option is either transferable or not subject to a substantial risk of 
forfeiture.
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      The tax treatment of other forms of stock-based 
compensation (e.g., restricted stock and stock appreciation 
rights) is also determined under section 83. The excess of the 
fair market value over the amount paid (if any) for such 
property is generally includable in gross income in the first 
taxable year in which the rights to the property are 
transferable or are not subject to substantial risk of 
forfeiture.
      Shareholders are generally required to recognize gain 
upon stock inversion transactions. An inversion transaction is 
generally not a taxable event for holders of stock options and 
other stock-based compensation.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, specified holders of stock 
options and other stock-based compensation are subject to an 
excise tax upon certain inversion transactions. The provision 
imposes a 20 percent excise tax on the value of specified stock 
compensation held (directly or indirectly) by or for the 
benefit of a disqualified individual, or a member of such 
individual's family, at any time during the 12-month period 
beginning six months before the corporation's inversion date. 
Specified stock compensation is treated as held for the benefit 
of a disqualified individual if such compensation is held by an 
entity, e.g., a partnership or trust, in which the individual, 
or a member of the individual's family, has an ownership 
interest.
      A disqualified individual is any individual who, with 
respect to a corporation, is, at any time during the 12-month 
period beginning on the date which is six months before the 
inversion date, subject to the requirements of section 16(a) of 
the Securities and Exchange Act of 1934 with respect to the 
corporation, or any member of the corporation's expanded 
affiliated group,\218\ or would be subject to such requirements 
if the corporation (or member) were an issuer of equity 
securities referred to in section 16(a). Disqualified 
individuals generally include officers (as defined by section 
16(a)),\219\ directors, and 10-percent owners of private and 
publicly-held corporations.
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    \218\ An expanded affiliated group is an affiliated group (under 
section 1504) except that such group is determined without regard to 
the exceptions for certain corporations and is determined applying a 
greater than 50 percent threshold, in lieu of the 80 percent test.
    \219\ An officer is defined as the president, principal financial 
officer, principal accounting officer (or, if there is no such 
accounting officer, the controller), any vice-president in charge of a 
principal business unit, division or function (such as sales, 
administration or finance), any other officer who performs a policy-
making function, or any other person who performs similar policy-making 
functions.
---------------------------------------------------------------------------
      The excise tax is imposed on a disqualified individual of 
an inverted corporation only if gain (if any) is recognized in 
whole or part by any shareholder by reason of either the 80 
percent or 50 percent identity of stock ownership corporate 
inversion transactions previously described in the provision.
      Specified stock compensation subject to the excise tax 
includes any payment \220\ (or right to payment) granted by the 
inverted corporation (or any member of the corporation's 
expanded affiliated group) to any person in connection with the 
performance of services by a disqualified individual for such 
corporation (or member of the corporation's expanded affiliated 
group) if the value of the payment or right is based on, or 
determined by reference to, the value or change in value of 
stock of such corporation (or any member of the corporation's 
expanded affiliated group). In determining whether such 
compensation exists and valuing such compensation, all 
restrictions, other than non-lapse restrictions, are ignored. 
Thus, the excise tax applies, and the value subject to the tax 
is determined, without regard to whether such specified stock 
compensation is subject to a substantial risk of forfeiture or 
is exercisable at the time of the inversion transaction. 
Specified stock compensation includes compensatory stock and 
restricted stock grants, compensatory stock options, and other 
forms of stock-based compensation, including stock appreciation 
rights, phantom stock, and phantom stock options. Specified 
stock compensation also includes nonqualified deferred 
compensation that is treated as though it were invested in 
stock or stock options of the inverting corporation (or 
member). For example, the provision applies to a disqualified 
individual's deferred compensation if company stock is one of 
the actual or deemed investment options under the nonqualified 
deferred compensation plan.
---------------------------------------------------------------------------
    \220\ Under the provision, any transfer of property is treated as a 
payment and any right to a transfer of property is treated as a right 
to a payment.
---------------------------------------------------------------------------
      Specified stock compensation includes a compensation 
arrangement that gives the disqualified individual an economic 
stake substantially similar to that of a corporate shareholder. 
Thus, the excise tax does not apply where a payment is simply 
triggered by a target value of the corporation's stock or where 
a payment depends on a performance measure other than the value 
of the corporation's stock. Similarly, the tax does not apply 
if the amount of the payment is not directly measured by the 
value of the stock or an increase in the value of the stock. 
For example, an arrangement under which a disqualified 
individual is paid a cash bonus of $500,000 if the 
corporation's stock increased in value by 25 percent over two 
years or $1,000,000 if the stock increased by 33 percent over 
two years is not specified stock compensation, even though the 
amount of the bonus generally is keyed to an increase in the 
value of the stock. By contrast, an arrangement under which a 
disqualified individual is paid a cash bonus equal to $10,000 
for every $1 increase in the share price of the corporation's 
stock is subject to the provision because the direct connection 
between the compensation amount and the value of the 
corporation's stock gives the disqualified individual an 
economic stake substantially similar to that of a shareholder.
      The excise tax applies to any such specified stock 
compensation previously granted to a disqualified individual 
but cancelled or cashed-out within the six-month period ending 
with the inversion transaction, and to any specified stock 
compensation awarded in the six-month period beginning with the 
inversion transaction. As a result, for example, if a 
corporation were to cancel outstanding options three months 
before the transaction and then reissue comparable options 
three months after the transaction, the tax applies both to the 
cancelled options and the newly granted options. It is intended 
that the Treasury Secretary issue guidance to avoid double 
counting with respect to specified stock compensation that is 
cancelled and then regranted during the applicable twelve-month 
period.
      Specified stock compensation subject to the tax does not 
include a statutory stock option or any payment or right from a 
qualified retirement plan or annuity, a tax-sheltered annuity, 
a simplified employee pension, or a simple retirement account. 
In addition, under the provision, the excise tax does not apply 
to any stock option that is exercised during the six-month 
period before the inversion or to any stock acquired pursuant 
to such exercise. The excise tax also does not apply to any 
specified stock compensation which is sold, exchanged, 
distributed or cashed-out during such period in a transaction 
in which gain or loss is recognized in full.
      For specified stock compensation held on the inversion 
date, the amount of the tax is determined based on the value of 
the compensation on such date. The tax imposed on specified 
stock compensation cancelled during the six-month period before 
the inversion date is determined based on the value of the 
compensation on the day before such cancellation, while 
specified stock compensation granted after the inversion date 
is valued on the date granted. Under the provision, the 
cancellation of a non-lapse restriction is treated as a grant.
      The value of the specified stock compensation on which 
the excise tax is imposed is the fair value in the case of 
stock options (including warrants and other similar rights to 
acquire stock) and stock appreciation rights and the fair 
market value for all other forms of compensation. For purposes 
of the tax, the fair value of an option (or a warrant or other 
similar right to acquire stock) or a stock appreciation right 
is determined using an appropriate option-pricing model, as 
specified or permitted by the Treasury Secretary, that takes 
into account the stock price at the valuation date; the 
exercise price under the option; the remaining term of the 
option; the volatility of the underlying stock and the expected 
dividends on it; and the risk-free interest rate over the 
remaining term of the option. Options that have no intrinsic 
value (or ``spread'') because the exercise price under the 
option equals or exceeds the fair market value of the stock at 
valuation nevertheless have a fair value and are subject to tax 
under the provision. The value of other forms of compensation, 
such as phantom stock or restricted stock, are the fair market 
value of the stock as of the date of the inversion transaction. 
The value of any deferred compensation that could be valued by 
reference to stock is the amount that the disqualified 
individual would receive if the plan were to distribute all 
such deferred compensation in a single sum on the date of the 
inversion transaction (or the date of cancellation or grant, if 
applicable). It is expected that the Treasury Secretary issue 
guidance on valuation of specified stock compensation, 
including guidance similar to the revenue procedures issued 
under section 280G, except that the guidance would not permit 
the use of a term other than the full remaining term. Pending 
the issuance of guidance, it is intended that taxpayers could 
rely on the revenue procedures issued under section 280G 
(except that the full remaining term must be used).
      The excise tax also applies to any payment by the 
inverted corporation or any member of the expanded affiliated 
group made to an individual, directly or indirectly, in respect 
of the tax. Whether a payment is made in respect of the tax is 
determined under all of the facts and circumstances. Any 
payment made to keep the individual in the same after-tax 
position that the individual would have been in had the tax not 
applied is a payment made in respect of the tax. This includes 
direct payments of the tax and payments to reimburse the 
individual for payment of the tax. It is expected that the 
Treasury Secretary issue guidance on determining when a payment 
is made in respect of the tax and that such guidance would 
include certain factors that give rise to a rebuttable 
presumption that a payment is made in respect of the tax, 
including a rebuttable presumption that if the payment is 
contingent on the inversion transaction, it is made in respect 
to the tax. Any payment made in respect of the tax is 
includible in the income of the individual, but is not 
deductible by the corporation.
      To the extent that a disqualified individual is also a 
covered employee under section 162(m), the $1,000,000 limit on 
the deduction allowed for employee remuneration for such 
employee is reduced by the amount of any payment (including 
reimbursements) made in respect of the tax under the provision. 
As discussed above, this includes direct payments of the tax 
and payments to reimburse the individual for payment of the 
tax.
      The payment of the excise tax has no effect on the 
subsequent tax treatment of any specified stock compensation. 
Thus, the payment of the tax has no effect on the individual's 
basis in any specified stock compensation and no effect on the 
tax treatment for the individual at the time of exercise of an 
option or payment of any specified stock compensation, or at 
the time of any lapse or forfeiture of such specified stock 
compensation. The payment of the tax is not deductible and has 
no effect on any deduction that might be allowed at the time of 
any future exercise or payment.
      Under the provision, the Treasury Secretary is authorized 
to issue regulations as may be necessary or appropriate to 
carry out the purposes of the section.
      Effective date.--The provision is effective as of July 
11, 2002, except that periods before July 11, 2002, are not 
taken into account in applying the tax to specified stock 
compensation held or cancelled during the six-month period 
before the inversion date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.
            (c) Reinsurance of United States risks in foreign 
                    jurisdictions

                              PRESENT LAW

      In the case of a reinsurance agreement between two or 
more related persons, present law provides the Treasury 
Secretary with authority to allocate among the parties or 
recharacterize income (whether investment income, premium or 
otherwise), deductions, assets, reserves, credits and any other 
items related to the reinsurance agreement, or make any other 
adjustment, in order to reflect the proper source and character 
of the items for each party.\221\ For this purpose, related 
persons are defined as in section 482. Thus, persons are 
related if they are organizations, trades or businesses 
(whether or not incorporated, whether or not organized in the 
United States, and whether or not affiliated) that are owned or 
controlled directly or indirectly by the same interests. The 
provision may apply to a contract even if one of the related 
parties is not a domestic company.\222\ In addition, the 
provision also permits such allocation, recharacterization, or 
other adjustments in a case in which one of the parties to a 
reinsurance agreement is, with respect to any contract covered 
by the agreement, in effect an agent of another party to the 
agreement, or a conduit between related persons.
---------------------------------------------------------------------------
    \221\ Sec. 845(a).
    \222\ See S. Rep. No. 97-494, ``Tax Equity and Fiscal 
Responsibility Act of 1982,'' July 12, 1982, 337 (describing provisions 
relating to the repeal of modified coinsurance provisions).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment clarifies the rules of section 845, 
relating to authority for the Treasury Secretary to allocate 
items among the parties to a reinsurance agreement, 
recharacterize items, or make any other adjustment, in order to 
reflect the proper source and character of the items for each 
party. The proposal authorizes such allocation, 
recharacterization, or other adjustment, in order to reflect 
the proper source, character or amount of the item. It is 
intended that this authority\223\ be exercised in a manner 
similar to the authority under section 482 for the Treasury 
Secretary to make adjustments between related parties. It is 
intended that this authority be applied in situations in which 
the related persons (or agents or conduits) are engaged in 
cross-border transactions that require allocation, 
recharacterization, or other adjustments in order to reflect 
the proper source, character or amount of the item or items. No 
inference is intended that present law does not provide this 
authority with respect to reinsurance agreements.
---------------------------------------------------------------------------
    \223\ The authority to allocate, recharacterize or make other 
adjustments was granted in connection with the repeal of provisions 
relating to modified coinsurance transactions.
---------------------------------------------------------------------------
      No regulations have been issued under section 845(a). It 
is expected that the Treasury Secretary will issue regulations 
under section 845(a) to address effectively the allocation of 
income (whether investment income, premium or otherwise) and 
other items, the recharacterization of such items, or any other 
adjustment necessary to reflect the proper amount, source or 
character of the item.
      Effective date.--The provision is effective for any risk 
reinsured after April 11, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Doubling of certain penalties, fines, and interest on underpayments 
        related to certain offshore financial arrangements (sec. 344 of 
        the Senate amendment)

                              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 file tax shown on a return may not reduce the 
penalty for failure to pay 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, therate 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 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, 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 is 
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 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 to 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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment would increase the total amount of 
civil penalties, interest and fines applicable by a factor of 
two 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 arrangement, but did not participate 
in either program.
      Effective date.--The Senate amendment generally is 
effective with respect to a taxpayer's open tax years on or 
after May 8, 2000.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Effectively connected income to include certain foreign source 
        income (sec. 345 of the Senate amendment and sec. 864 of the 
        Code)

                              PRESENT LAW

      Nonresident alien individuals and foreign corporations 
(collectively, foreign persons) are subject to U.S. tax on 
income that is effectively connected with the conduct of a U.S. 
trade or business; the U.S. tax on such income is calculated in 
the same manner and at the same graduated rates as the tax on 
U.S. persons.\224\ Foreign persons also are subject to a 30-
percent gross-basis tax, collected by withholding, on certain 
U.S.-source income, such as interest, dividends and other fixed 
or determinable annual or periodical (``FDAP'') income, that is 
not effectively connected with a U.S. trade or business. This 
30-percent withholding tax may be reduced or eliminated 
pursuant to an applicable tax treaty. Foreign persons generally 
are not subject to U.S. tax on foreign-source income that is 
not effectively connected with a U.S. trade or business.
---------------------------------------------------------------------------
    \224\ Sections 871(b) and 882.
---------------------------------------------------------------------------
      Detailed rules apply for purposes of determining whether 
income is treated as effectively connected with a U.S. trade or 
business (so-called ``U.S.-effectively connected 
income'').\225\ The rules differ depending on whether the 
income at issue is U.S-source or foreign-source income. Under 
these rules, U.S.-source FDAP income, such as U.S.-source 
interest and dividends, and U.S.-source capital gains are 
treated as U.S.-effectively connected income if such income is 
derived from assets used in or held for use in the active 
conduct of a U.S. trade or business, or from business 
activities conducted in the United States. All other types of 
U.S.-source income are treated as U.S.-effectively connected 
income (sometimes referred to as the ``force of attraction 
rule'').
---------------------------------------------------------------------------
    \225\ Section 864(c).
---------------------------------------------------------------------------
      In general, foreign-source income is not treated as U.S.-
effectively connected income.\226\ However, foreign-source 
income, gain, deduction, or loss generally is considered to be 
effectively connected with a U.S. business only if the person 
has an office or other fixed place of business within the 
United States to which such income, gain, deduction, or loss is 
attributable and such income falls into one of three categories 
described below.\227\ For these purposes, income generally is 
not considered attributable to an office or other fixed place 
of business within the United States unless such office or 
fixed place of business is a material factor in the production 
of the income, and such office or fixed place of business 
regularly carries on activities of the type that generate such 
income.\228\
---------------------------------------------------------------------------
    \226\ Section 864(c)(4).
    \227\ Section 864(c)(4)(B).
    \228\ Section 864(c)(5).
---------------------------------------------------------------------------
      The first category consists of rents or royalties for the 
use of patents, copyrights, secret processes, or formulas, good 
will, trademarks, trade brands, franchises, or other like 
intangible properties derived in the active conduct of the U.S. 
trade or business.\229\ The second category consists of 
interest or dividends derived in the active conduct of a 
banking, financing, or similar business within the United 
States, or received by a corporation whose principal business 
is trading in stocks or securities for its own account.\230\ 
Notwithstanding the foregoing, foreign-source income consisting 
of dividends, interest, or royalties is not treated as 
effectively connected if the items are paid by a foreign 
corporation in which the recipient owns, directly, indirectly, 
or constructively, more than 50 percent of the total combined 
voting power of the stock.\231\ The third category consists of 
income, gain, deduction, or loss derived from the sale or 
exchange of inventory or property held by the taxpayer 
primarily for sale to customers in the ordinary course of the 
trade or business where the property is sold or exchanged 
outside the United States through the foreign person's U.S. 
office or other fixed place of business.\232\ Such amounts are 
not treated as effectively connected if the property is sold or 
exchanged for use, consumption, or disposition outside the 
United States and an office or other fixed place of business of 
the taxpayer in a foreign country materially participated in 
the sale or exchange.
---------------------------------------------------------------------------
    \229\ Section 864(c)(4)(B)(i).
    \230\ Section 864(c)(4)(B)(ii).
    \231\ Section 864(c)(4)(D)(i).
    \232\ Section 864(c)(4)(B)(iii).
---------------------------------------------------------------------------
      The Code provides sourcing rules for enumerated types of 
income, including interest, dividends, rents, royalties, and 
personal services income.\233\ For example, interest income 
generally is sourced based on the residence of the obligor. 
Dividend income generally is sourced based on the residence of 
the corporation paying the dividend. Thus, interest paid on 
obligations of foreign persons and dividends paid by foreign 
corporations generally are treated as foreign-source income.
---------------------------------------------------------------------------
    \233\ Sections 861 through 865.
---------------------------------------------------------------------------
      Other types of income are not specifically covered by the 
Code's sourcing rules. For example, fees for accepting or 
confirming letters of credit have been sourced under principles 
analogous to the interest sourcing rules.\234\ In addition, 
under regulations, payments in lieu of dividends and interest 
derived from securities lending transactions are sourced in the 
same manner as interest and dividends, including for purposes 
of determining whether such income is effectively connected 
with a U.S. trade or business.\235\ Moreover, income from 
notional principal contracts (such as interest rate swaps) 
generally is sourced based on the residence of the recipient of 
the income.\236\
---------------------------------------------------------------------------
    \234\ See Bank of America v. United States, 680 F.2d 142 (Ct. Cl. 
1982).
    \235\ Treas. Reg. sec. 1.864-5(b)(2)(ii).
    \236\ Treas. Reg. sec. 1.863-7.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Each category of foreign-source income that is treated as 
effectively connected with a U.S. trade or business is expanded 
to include economic equivalents of such income (i.e., economic 
equivalents of certain foreign-source (1) rents and royalties, 
(2) dividends and interest, and (3) income on sales or 
exchanges of goods in the ordinary course of business). Thus, 
such economic equivalents are treated as U.S.-effectively 
connected income in the same circumstances that foreign-source 
rents, royalties, dividends, interest, or certain inventory 
sales are treated as U.S.-effectively connected income. For 
example, foreign-source interest and dividend equivalents are 
treated as U.S.-effectively connected income if the income is 
attributable to a U.S. office of the foreign person, and such 
income is derived by such foreign person in the active conduct 
of a banking, financing, or similar business within the United 
States, or the foreign person is a corporation whose principal 
business is trading in stocks or securities for its own 
account.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Determination of basis amounts paid from foreign pension plans (sec. 
        346 of the Senate amendment and sec. 72 of the Code)

                              PRESENT LAW

      Distributions from retirement plans are includible in 
gross income under the rules relating to annuities \237\ and, 
thus, are generally includible in income, except to the extent 
the amount received represents investment in the contract 
(i.e., the participant's basis). The participant's basis 
includes amounts contributed by the participant, together with 
certain amounts contributed by the employer, minus the 
aggregate amount (if any) previously distributed to the extent 
that such amount was excludable from gross income. Amounts 
contributed by the employer are included in the calculation of 
the participant's basis to the extent that such amounts were 
includible in the gross income of the participant, or to the 
extent that such amounts would have been excludable from the 
participant's gross income if they had been paid directly to 
the participant at the time they were contributed.
---------------------------------------------------------------------------
    \237\ Sections 72 and 402.
---------------------------------------------------------------------------
      Distributions received by nonresidents from U.S. 
qualified plans and similar arrangements are generally subject 
to tax to the extent that the amount received is otherwise 
includible in gross income (i.e., is in excess of the basis) 
and is from a U.S. source. Employer contributions to qualified 
plans and other payments for services performed outside the 
United States generally are not treated as income from a U.S. 
source, and therefore generally are not subject to U.S. tax.
      Under the 1996 U.S. model income tax treaty and many U.S. 
income tax treaties in force, pension distributions 
beneficially owned by a resident of a treaty country in 
consideration for past employment generally are taxable only by 
the individual recipient's country of residence.\238\ Under the 
1996 U.S. model income tax treaty and some U.S. income tax 
treaties, this exclusive residence-based taxation rule is 
limited to the taxation of amounts that were not previously 
included in taxable income in the other country. For example, 
if a treaty country had imposed tax on a resident individual 
with respect to some portion of a pension plan's earnings, 
subsequent distributions to a resident of the other country 
would not be taxable in that country to the extent the 
distributions were attributable to such amounts.
---------------------------------------------------------------------------
    \238\ Some treaties permit source-country taxation but merely 
reduce the rate of tax imposed on pension benefits.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      An amount distributed from a foreign pension plan is 
included in the calculation of the recipient's basis only to 
the extent that the recipient previously has been subject to 
taxation, either in the United States or the foreign 
jurisdiction, on such amount.
      Effective date.--The Senate amendment provision is 
effective for distributions occurring on or after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Recapture of overall foreign losses on sale of controlled foreign 
        corporation stock (sec. 347 of the Senate amendment and sec. 
        904 of the Code)

                              PRESENT LAW

      U.S. persons may credit foreign taxes against U.S. tax on 
foreign-source income. The amount of foreign tax credits that 
may be claimed in a year is subject to a limitation that 
prevents taxpayers from using foreign tax credits to offset 
U.S. tax on U.S.-source income. The amount of foreign tax 
credits generally is limited to the portion of the taxpayer's 
U.S. tax which the taxpayer's foreign-source taxable income 
(i.e., foreign-source gross income less allocable expenses or 
deductions) bears to the taxpayer's worldwide taxable income 
for the year.\239\ Separate limitations are applied to specific 
categories of income.
---------------------------------------------------------------------------
    \239\ Section 904(a).
---------------------------------------------------------------------------
      Special recapture rules apply in the case of foreign 
losses for purposes of applying the foreign tax credit 
limitation.\240\ Under these rules, losses for any taxable year 
in a limitation category which exceed the aggregate amount of 
foreign income earned in other limitation categories (a so-
called ``overall foreign loss'') are recaptured by resourcing 
foreign-source income earned in a subsequent year as U.S.-
source income.\241\ The amount resourced as U.S.-source income 
generally is limited to the lesser of the amount of the overall 
foreign losses not previously recaptured, or 50 percent of the 
taxpayer's foreign-source income in a given year (the ``50-
percent limit''). Taxpayers may elect to recapture a larger 
percentage of such losses.
---------------------------------------------------------------------------
    \240\ Section 904(f).
    \241\ Section 904(f)(1).
---------------------------------------------------------------------------
      A special recapture rule applies to ensure the recapture 
of an overall foreign loss where property which was used in a 
trade or business predominantly outside the United States is 
disposed of prior to the time the loss has been 
recaptured.\242\ In this regard, dispositions of trade or 
business property used predominantly outside the United States 
are treated as having been recognized as foreign-source income 
(regardless of whether gain would otherwise be recognized upon 
disposition of the assets), in an amount equal to the lesser of 
the excess of the fair market value of such property over its 
adjusted basis, or the amount of unrecaptured overall foreign 
losses. Such foreign-source income is resourced as U.S.-source 
income without regard to the 50-percent limit. For example, if 
a U.S. corporation transfers its foreign branch business assets 
to a foreign corporation in a nontaxable section 351 
transaction, the taxpayer would be treated for purposes of the 
recapture rules as having recognized foreign-source income in 
the year of the transfer in an amount equal to the excess of 
the fair market value of the property disposed over its 
adjusted basis (or the amount of unrecaptured foreign losses, 
if smaller). Such income would be recaptured as U.S.-source 
income to the extent of any prior unrecaptured overall foreign 
losses.\243\
---------------------------------------------------------------------------
    \242\ Section 904(f)(3).
    \243\ Coordination rules apply in the case of losses recaptured 
under the branch loss recapture rules. Section 367(a)(3)(C).
---------------------------------------------------------------------------
      Detailed rules apply in allocating and apportioning 
deductions and losses for foreign tax credit limitation 
purposes. In the case of interest expense, such amounts 
generally are apportioned to all gross income under an asset 
method, under which the taxpayer's assets are characterized as 
producing income in statutory or residual groupings (i.e., 
foreign-source income in the various limitation categories or 
U.S.-source income).\244\ Interest expense is apportioned among 
these groupings based on the relative asset values in each. 
Taxpayers may elect to value assets based on either tax book 
value or fair market value.
---------------------------------------------------------------------------
    \244\ Section 864(e) and Temp. Treas. Reg. sec. 1.861-9T.
---------------------------------------------------------------------------
      Each corporation that is a member of an affiliated group 
is required to apportion its interest expense using 
apportionment fractions determined by reference to all assets 
of the affiliated group. For this purpose, an affiliated group 
generally is defined to include only domestic corporations. 
Stock in a foreign subsidiary, however, is treated as a foreign 
asset that may attract the allocation of U.S. interest expense 
for these purposes. If tax basis is used to value assets, the 
adjusted basis of the stock of certain 10-percent or greater 
owned foreign corporations or other non-affiliated corporations 
must be increased by the amount of earnings and profits of such 
corporation accumulated during the period the U.S. shareholder 
held the stock.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The special recapture rule for overall foreign losses 
that currently applies to dispositions of foreign trade or 
business assets is to apply to the disposition of controlled 
foreign corporation stock. Thus, dispositions of controlled 
foreign corporation stock are recognized as foreign-source 
income in an amount equal to the lesser of the fair market 
value of the stock over its adjusted basis, or the amount of 
prior unrecaptured overall foreign losses. Such income is 
resourced as U.S.-source income for foreign tax credit 
limitation purposes without regard to the 50-percent limit.
      Effective date.--The Senate amendment provision is 
effective as of the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

7. Prevention of mismatching of interest and original issue discount 
        deductions and income inclusions in transactions with related 
        foreign persons (sec. 348 of the Senate amendment and secs. 163 
        and 267 of the Code)

                              PRESENT LAW

      Income earned by a foreign corporation from its foreign 
operations generally is subject to U.S. tax only when such 
income is distributed to any U.S. person that holds stock in 
such corporation. Accordingly, a U.S. person that conducts 
foreign operations through a foreign corporation generally is 
subject to U.S. tax on the income from such operations when the 
income is repatriated to the United States through a dividend 
distribution to the U.S. person. The income is reported on the 
U.S. person's tax return for the year the distribution is 
received, and the United States imposes tax on such income at 
that time. However, certain anti-deferral regimes may cause the 
U.S. person to be taxed on a current basis in the United States 
with respect to certain categories of passive or highly mobile 
income earned by the foreign corporations in which the U.S. 
person holds stock. The main anti-deferral regimes are the 
controlled foreign corporation rules of subpart F (sections 
951-964), the passive foreign investment company rules 
(sections 1291-1298), and the foreign personal holding company 
rules (sections 551-558).
      As a general rule, there is allowed as a deduction all 
interest paid or accrued within the taxable year with respect 
to indebtedness, including the aggregate daily portions of 
original issue discount (``OID'') of the issuer for the days 
during such taxable year. However, if a debt instrument is held 
by a related foreign person, any portion of such OID is not 
allowable as a deduction to the payor of such instrument until 
paid (``related-foreign-person rule''). This related-foreign-
person rule does not apply to the extent that the OID is 
effectively connected with the conduct by such foreign related 
person of a trade or business within the United States (unless 
such OID is exempt from taxation or is subject to a reduced 
rate of taxation under a treaty obligation). Treasury 
regulations further modify the related-foreign-person rule by 
providing that in the case of a debt owed to a foreign personal 
holding company (``FPHC''), controlled foreign corporation 
(``CFC'') or passive foreign investment company (``PFIC''), a 
deduction is allowed for OID as of the day on which the amount 
is includible in the income of the FPHC, CFC or PFIC, 
respectively.
      In the case of unpaid stated interest and expenses of 
related persons, where, by reason of a payee's method of 
accounting, an amount is not includible in the payee's gross 
income until it is paid but the unpaid amounts are deductible 
currently by the payor, the amount generally is allowable as a 
deduction when such amount is includible in the gross income of 
the payee. With respect to stated interest and other expenses 
owed to related foreign corporations, Treasury regulations 
provide a general rule that requires a taxpayer to use the cash 
method of accounting with respect to the deduction of amounts 
owed to such related foreign persons (with an exception for 
income of a related foreign person that is effectively 
connected with the conduct of a U.S. trade or business and that 
is not exempt from taxation or subject to a reduced rate of 
taxation under a treaty obligation). As in the case of OID, the 
Treasury regulations additionally provide that in the case of 
states interest owed to a FPHC, CFC, or PFIC, a deduction is 
allowed as of the day on which the amount is includible in the 
income of the FPHC, CFC or PFIC.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment generally provides that deductions 
for amounts accrued but unpaid (whether by U.S. or foreign 
persons) to related FPHCs, CFCs, or PFICs are allowable only to 
the extent that the amounts accrued by the payor are, for U.S. 
tax purposes, currently included in the income of the direct or 
indirect U.S. owners of the related foreign person. Deductions 
that have accrued but are not allowable under this provision 
are allowed when the amounts are paid.
      Effective date.--The Senate amendment provision is 
effective for payments accrued on or after May 8, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

8. Sale of gasoline and diesel fuel at duty-free sales enterprises 
        (Sec. 349 of the Senate amendment)

                              PRESENT LAW

      A duty-free sales enterprise that meets certain 
conditions may sell and deliver for export from the customs 
territory of the United States duty-free merchandise. Duty-free 
merchandise is merchandise sold by a duty-free sales enterprise 
on which neither federal duty nor federal tax has been assessed 
pending exportation from the customs territory of the United 
States. The duty-free statute does not contain any limitation 
on what goods may qualify for duty-free treatment.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment amends Section 555(b) of the Tariff 
Act of 1930 (19 U.S.C. 1555(b)) to provide that gasoline or 
diesel fuel sold at duty-free enterprises shall be considered 
to entered for consumption into the United States and thus 
ineligible for classification as duty-free merchandise.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

9. Repeal of earned income exclusion for citizens or residents living 
        abroad (sec. 350 of the Senate amendment and sec. 911 of the 
        Code)

                              PRESENT LAW

      U.S. citizens generally are subject to U.S. income tax on 
all their income, whether derived in the United States or 
elsewhere. A U.S. citizen who earns income in a foreign country 
also may be taxed on such income by that foreign country. 
However, the United States generally cedes the primary right to 
tax income derived by a U.S. citizen from sources outside the 
United States to the foreign country where such income is 
derived. Accordingly, a credit against the U.S. income tax 
imposed on foreign source taxable income is provided for 
foreign taxes paid on that income.
      U.S. citizens living abroad may be eligible to exclude 
from their income for U.S. tax purposes certain foreign earned 
income and foreign housing costs. In order to qualify for these 
exclusions, a U.S. citizen must be either: (1) a bona fide 
resident of a foreign country for an uninterrupted period that 
includes an entire taxable year; or (2) present overseas for 
330 days out of any 12-consecutive-month period. In addition, 
the taxpayer must have his or her tax home in a foreign 
country.
      The exclusion for foreign earned income generally applies 
to income earned from sources outside the United States as 
compensation for personal services actually rendered by the 
taxpayer. The maximum exclusion for foreign earned income for a 
taxable year is $80,000 (for 2002 and thereafter). For taxable 
years beginning after 2007, the maximum exclusion amount is 
indexed for inflation.
      The exclusion for housing costs applies to reasonable 
expenses, other than deductible interest and taxes, paid or 
incurred by or on behalf of the taxpayer for housing for the 
taxpayer and his or her spouse and dependents in a foreign 
country. The exclusion amount for housing costs for a taxable 
year is equal to the excess of such housing costs for the 
taxable year over an amount computed pursuant to a specified 
formula. In the case of housing costs that are not paid or 
reimbursed by the taxpayer's employer, the amount that would be 
excludible is treated instead as a deduction.
      The combined earned income exclusion and housing cost 
exclusion may not exceed the taxpayer's total foreign earned 
income. The taxpayer's foreign tax credit is reduced by the 
amount of such credit that is attributable to excluded income.
      Special exclusions apply in the case of taxpayers who 
reside in one of the U.S. possessions.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The exclusion for foreign earned income and the exclusion 
or deduction for housing expenses is repealed.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                      E. Other Revenue Provisions


1. Extension of IRS user fees (sec. 351 of the Senate amendment and new 
        sec. 7529 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. Public Law 104-117 \245\ 
extended the statutory authorization for these user fees \246\ 
through September 30, 2003.
---------------------------------------------------------------------------
    \245\ 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).
    \246\ These user fees were originally enacted in section 10511 of 
the Revenue Act of 1987 (Pub. Law No. 100-203, December 22, 1987).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the statutory authorization 
for these user fees through September 30, 2013. The Senate 
amendment also moves the statutory authorization for these fees 
into the Code.\247\
---------------------------------------------------------------------------
    \247\ The provision also moves 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).
---------------------------------------------------------------------------
      Effective date.--The Senate amendment provision, 
including moving the statutory authorization for these fees 
into the Code and repealing the off-Code statutory 
authorization for these fees, is effective for requests made 
after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Add vaccines against hepatitis A to the list of taxable vaccines 
        (sec. 352 of the Senate amendment and sec. 4132 of the Code)

                              PRESENT LAW

      A manufacturer's excise tax is imposed at the rate of 75 
cents per dose \248\ on the following vaccines routinely 
recommended for administration to children: diphtheria, 
pertussis, tetanus, measles, mumps, rubella, polio, HIB 
(haemophilus influenza type B), hepatitis B, varicella (chicken 
pox), rotavirus gastroenteritis, and streptococcus pneumoniae. 
The tax applied to any vaccine that is a combination of vaccine 
components equals 75 cents times the number of components in 
the combined vaccine.
---------------------------------------------------------------------------
    \248\ Sec. 4131.
---------------------------------------------------------------------------
      Amounts equal to net revenues from this excise tax are 
deposited in the Vaccine Injury Compensation Trust Fund to 
finance compensation awards under the Federal Vaccine Injury 
Compensation Program for individuals who suffer certain 
injuries following administration of the taxable vaccines.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment adds any vaccine against hepatitis A 
to the list of taxable vaccines. The Senate amendment also 
makes a conforming amendment to the trust fund expenditure 
purposes.
      Effective date.--The Senate amendment provision is 
effective for vaccines sold beginning on the first day of the 
first month beginning more than four weeks after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Disallowance of certain partnership loss transfers (sec. 353 of the 
        Senate Amendment and secs. 704, 734, and 743 of the Code)

                              PRESENT LAW

Contributions of property

      Under present law, if a partner contributes property to a 
partnership, no gain or loss generally is recognized to the 
contributing partner at the time of contribution.\249\ The 
partnership takes the property at an adjusted basis equal to 
the contributing partner's adjusted basis in the property.\250\ 
The contributing partner increases its basis in its partnership 
interest by the adjusted basis of the contributed 
property.\251\ Any items of partnership income, gain, loss, and 
deduction with respect to the contributed property is allocated 
among the partners to take into account any built-in gain or 
loss at the time of the contribution.\252\ This rule is 
intended to prevent the transfer of built-in gain or loss from 
the contributing partner to the other partners by generally 
allocating items to the noncontributing partners based on the 
value of their contributions and by allocating to the 
contributing partner the remainder of each item.\253\
---------------------------------------------------------------------------
    \249\ Sec. 721.
    \250\ Sec. 723.
    \251\ Sec. 722.
    \252\  Sec. 704(c)(1)(A).
    \253\ Where there is an insufficient amount of an item to allocate 
to the noncontributing partners, Treasury regulations allow for 
reasonable allocations to remedy this insufficiency. Treas. Reg. sec. 
1-704(c) and (d).
---------------------------------------------------------------------------
      If the contributing partner transfers its partnership 
interest, the built-in gain or loss will be allocated to the 
transferee partner as it would have been allocated to the 
contributing partner.\254\ If the contributing partner's 
interest is liquidated, there is no specific guidance 
preventing the allocation of the built-in loss to the remaining 
partners. Thus, it appears that losses can be ``transferred'' 
to other partners where the contributing partner no longer 
remains a partner.
---------------------------------------------------------------------------
    \254\ Treas. Reg. 1.704-3(a)(7).
---------------------------------------------------------------------------

Transfers of partnership interests

      Under present law, a partnership does not adjust the 
basis of partnership property following the transfer of a 
partnership interest unless the partnership has made a one-time 
election under section 754 to make basis adjustments.\255\ If 
an election is in effect, adjustments are made with respect to 
the transferee partner in order to account for the difference 
between the transferee partner's proportionate share of the 
adjusted basis of the partnership property and the transferee's 
basis in its partnership interest.\256\ These adjustments are 
intended to adjust the basis of partnership property to 
approximate the result of a direct purchase of the property by 
the transferee partner. Under these rules, if a partner 
purchases an interest in a partnership with an existing built-
in loss and no election under section 754 in effect, the 
transferee partner may be allocated a share of the loss when 
the partnership disposes of the property (or depreciates the 
property).
---------------------------------------------------------------------------
    \255\ Sec. 743(a).
    \256\ Sec. 743(b).
---------------------------------------------------------------------------

Distributions of partnership property

      With certain exceptions, partners may receive 
distributions of certain partnership property without 
recognition of gain or loss by either the partner or the 
partnership.\257\ In the case of a distribution in liquidation 
of a partner's interest, the basis of the property distributed 
in the liquidation is equal to the partner's adjusted basis in 
its partnership interest (reduced by any money distributed in 
the transaction).\258\ In a distribution other than in 
liquidation of a partner's interest, the distributee partner's 
basis in the distributed property is equal to the partnership's 
adjusted basis in the property immediately before the 
distribution, but not to exceed the partner's adjusted basis in 
the partnership interest (reduced by any money distributed in 
the same transaction).\259\
---------------------------------------------------------------------------
    \257\ Sec. 731(a) and (b).
    \258\ Sec. 732(b).
    \259\ Sec. 732(a).
---------------------------------------------------------------------------
      Adjustments to the basis of the partnership's 
undistributed properties are not required unless the 
partnership has made the election under section 754 to make 
basis adjustments.\260\ If an election is in effect under 
section 754, adjustments are made by a partnership to increase 
or decrease the remaining partnership assets to reflect any 
increase or decrease in the adjusted basis of the distributed 
properties in the hands of the distributee partner (or gain or 
loss recognized by the disributee partner).\261\ To the extent 
the adjusted basis of the distributed properties increases (or 
loss is recognized), the partnership's adjusted basis in its 
properties is decreased by a like amount; likewise, to the 
extent the adjusted basis of the distributed properties 
decrease (or gain is recognized), the partnership's adjusted 
basis in its properties is increased by a like amount. Under 
these rules, a partnership with no election in effect under 
section 754 may distribute property with an adjusted basis 
lower than the distributee partner's proportionate share of the 
adjusted basis of all partnership property and leave the 
remaining partners with a smaller net built-in gain or a larger 
net built-in loss than before the distribution.
---------------------------------------------------------------------------
    \260\ Sec. 734(a).
    \261\ Sec. 734(b).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Contributions of property

      Under the Senate amendment, a built-in loss may be taken 
into account only by the contributing partner and not by other 
partners. Except as provided in regulations, in determining the 
amount of items allocated to partners other than the 
contributing partner, the basis of the contributed property is 
treated as the fair market value on the date of contribution. 
Thus, if the contributing partner's partnership interest is 
transferred or liquidated, the partnership's adjusted basis in 
the property is based on its fair market value at the date of 
contribution, and the built-in loss will be eliminated.\262\
---------------------------------------------------------------------------
    \262\ It is intended that a corporation succeeding to attributes of 
the contributing corporate partner under section 381 shall be treated 
in the same manner as the contributing partner.
---------------------------------------------------------------------------

Transfers of partnership interests

      The Senate amendment provides that the basis adjustment 
rules under section 743 are mandatory in the case of the 
transfer of a partnership interest with respect to which there 
is a substantial built-in loss (rather than being elective as 
under present law). For this purpose, a substantial built-in 
loss exists if the transferee partner's proportionate share of 
the adjusted basis of the partnership property exceeds by more 
than $250,000 the transferee partner's basis in the partnership 
interest.
      Thus, for example, assume that partner A sells his 
partnership interest to B for its fair market value of $1 
million. Also assume that B's proportionate share of the 
adjusted basis of the partnership assets is $1.3 million. Under 
the bill, section 743(b) applies, so that a $300,000 decrease 
is required to the adjusted basis of the partnership assets 
with respect to B. As a result, B would recognize no gain or 
loss if the partnership immediately sold all its assets for 
their fair market values.

Distribution of partnership property

      The Senate amendment provides that a basis adjustment 
under section 734(b) is required in the case of a distribution 
with respect to which there is a substantial basis reduction. A 
substantial basis reduction means a downward adjustment of more 
than $250,000 that would be made to the basis of partnership 
assets if a section 754 election were in effect.
      Thus, for example, assume that A and B each contributed 
$2.5 million to a newly formed partnership and C contributed $5 
million, and that the partnership purchased LMN stock for $3 
million and XYZ stock for $7 million. Assume that the value of 
each stock declined to $1 million. Assume LMN stock is 
distributed to C in liquidation of its partnership interest. 
Under present law, the basis of LMN stock in C's hands is $5 
million. Under present law, C would recognize a loss of $4 
million if the LMN stock were sold for $1 million.
      Under the Senate amendment, however, there is a 
substantial basis adjustment because the $2 million increase in 
the adjusted basis of LMN stock (sec. 734(b)(2)(B)) is greater 
than $250,000. Thus, the partnership is required to decrease 
the basis of XYZ stock (under section 734(b)(2)) by $2 million 
(the amount by which the basis LMN stock was increased), 
leaving a basis of $5 million. If the XYZ stock were then sold 
by the partnership for $1 million, A and B would each recognize 
a loss of $2 million.
      Effective date.--The provision applies to contributions, 
transfers, and distributions (as the case may be) after the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not contain the provision 
in the Senate amendment.

4. Treatment of stripped bonds to apply to stripped interests in bond 
        and preferred stock funds (sec. 354 of the Senate amendment and 
        secs. 305 and 1286 of the Code)

                              PRESENT LAW

Assignment of income in general

      In general, an ``income stripping'' transaction involves 
a transaction in which the right to receive future income from 
income-producing property is separated from the property 
itself. In such transactions, it may be possible to generate 
artificial losses from the disposition of certain property or 
to defer the recognition of taxable income associated with such 
property.
      Common law has developed a rule (referred to as the 
``assignment of income'' doctrine) that income may not be 
transferred without also transferring the underlying property. 
A leading judicial decision relating to the assignment of 
income doctrine involved a case in which a taxpayer made a gift 
of detachable interest coupons before their due date while 
retaining the bearer bond. The U.S. Supreme Court ruled that 
the donor was taxable on the entire amount of interest when 
paid to the donee on the grounds that the transferor had 
``assigned'' to the donee the right to receive the income.\263\
---------------------------------------------------------------------------
    \263\ Helvering v. Horst, 311 U.S. 112 (1940).
---------------------------------------------------------------------------
      In addition to general common law assignment of income 
principles, specific statutory rules have been enacted to 
address certain specific types of stripping transactions, such 
as transactions involving stripped bonds and stripped preferred 
stock (which are discussed below).\264\ However, there are no 
specific statutory rules that address stripping transactions 
with respect to common stock or other equity interests (other 
than preferred stock).\265\
---------------------------------------------------------------------------
    \264\ Depending on the facts, the IRS also could determine that a 
variety of other Code-based and common law-based authorities could 
apply to income stripping transactions, including: (1) sections 269, 
382, 446(b), 482, 701, or 704 and the regulations thereunder; (2) 
authorities that recharacterize certain assignments or accelerations of 
future payments as financings; (3) business purpose, economic 
substance, and sham transaction doctrines; (4) the step transaction 
doctrine; and (5) the substance-over-form doctrine. See Notice 95-53, 
1995-2 C.B. 334 (accounting for lease strips and other stripping 
transactions).
    \265\ However, in Estate of Stranahan v. Commissioner, 472 F.2d 867 
(6th Cir. 1973), the court held that where a taxpayer sold an interest 
in stock dividends, with no personal obligation to produce the income 
supporting the dividends, the transaction was treated as a sale of an 
income interest.
---------------------------------------------------------------------------

Stripped bonds

      Special rules are provided with respect to the purchaser 
and ``stripper'' of stripped bonds.\266\ A ``stripped bond'' is 
defined as a debt instrument in which there has been a 
separation in ownership between the underlying debt instrument 
and any interest coupon that has not yet become payable.\267\ 
In general, upon the disposition of either the stripped bond or 
the detached interest coupons, the retained portion and the 
portion that is disposed of each is treated as a new bond that 
is purchased at a discount and is payable at a fixed amount on 
a future date. Accordingly, section 1286 treats both the 
stripped bond and the detached interest coupons as individual 
bonds that are newly issued with original issue discount 
(``OID'') on the date of disposition. Consequently, section 
1286 effectively subjects the stripped bond and the detached 
interest coupons to the general OID periodic income inclusion 
rules.
---------------------------------------------------------------------------
    \266\ Sec. 1286.
    \267\ Sec. 1286(e).
---------------------------------------------------------------------------
      A taxpayer who purchases a stripped bond or one or more 
stripped coupons is treated as holding a new bond that is 
issued on the purchase date with OID in an amount that is equal 
to the excess of the stated redemption price at maturity (or in 
the case of a coupon, the amount payable on the due date) over 
the ratable share of the purchase price of the stripped bond or 
coupon, determined on the basis of the respective fair market 
values of the stripped bond and coupons on the purchase 
date.\268\ The OID on the stripped bond or coupon is includible 
in gross income under the general OID periodic income inclusion 
rules.
---------------------------------------------------------------------------
    \268\ Sec. 1286(a).
---------------------------------------------------------------------------
      A taxpayer who strips a bond and disposes of either the 
stripped bond or one or more stripped coupons must allocate his 
basis, immediately before the disposition, in the bond (with 
the coupons attached) between the retained and disposed 
items.\269\ Special rules apply to require that interest or 
market discount accrued on the bond prior to such disposition 
must be included in the taxpayer's gross income (to the extent 
that it had not been previously included in income) at the time 
the stripping occurs, and the taxpayer increases his basis in 
the bond by the amount of such accrued interest or market 
discount. The adjusted basis (as increased by any accrued 
interest or market discount) is then allocated between the 
stripped bond and the stripped interest coupons in relation to 
their respective fair market values. Amounts realized from the 
sale of stripped coupons or bonds constitute income to the 
taxpayer only to the extent such amounts exceed the basis 
allocated to the stripped coupons or bond. With respect to 
retained items (either the detached coupons or stripped bond), 
to the extent that the price payable on maturity, or on the due 
date of the coupons, exceeds the portion of the taxpayer's 
basis allocable to such retained items, the difference is 
treated as OID that is required to be included under the 
general OID periodic income inclusion rules.\270\
---------------------------------------------------------------------------
    \269\ Sec. 1286(b). Similar rules apply in the case of any person 
whose basis in any bond or coupon is determined by reference to the 
basis in the hands of a person who strips the bond.
    \270\ Special rules are provided with respect to stripping 
transactions involving tax-exempt obligations that treat OID (computed 
under the stripping rules) in excess of OID computed on the basis of 
the bond's coupon rate (or higher rate if originally issued at a 
discount) as income from a non-tax-exempt debt instrument (sec. 
1286(d)).
---------------------------------------------------------------------------

Stripped preferred stock

      ``Stripped preferred stock'' is defined as preferred 
stock in which there has been a separation in ownership between 
such stock and any dividend on such stock that has not become 
payable.\271\ A taxpayer who purchases stripped preferred stock 
is required to include in gross income, as ordinary income, the 
amounts that would have been includible if the stripped 
preferred stock was a bond issued on the purchase date with OID 
equal to the excess of the redemption price of the stock over 
the purchase price.\272\ This treatment is extended to any 
taxpayer whose basis in the stock is determined by reference to 
the basis in the hands of the purchaser. A taxpayer who strips 
and disposes the future dividends is treated as having 
purchased the stripped preferred stock on the date of such 
disposition for a purchase price equal to the taxpayer's 
adjusted basis in the stripped preferred stock.\273\
---------------------------------------------------------------------------
    \271\ Sec. 305(e)(5).
    \272\ Sec. 305(e)(1).
    \273\ Sec. 305(e)(3).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment authorizes the Treasury Department 
to promulgate regulations that, in appropriate cases, apply 
rules that are similar to the present-law rules for stripped 
bonds and stripped preferred stock to direct or indirect 
interests in an entity or account substantially all of the 
assets of which consist of bonds (as defined in section 
1286(e)(1)), preferred stock (as defined in section 
305(e)(5)(B)), or any combination thereof. The Senate amendment 
applies only to cases in which the present-law rules for 
stripped bonds and stripped preferred stock do not already 
apply to such interests.
      For example, such Treasury regulations could apply to a 
transaction in which a person effectively strips future 
dividends from shares in a money market mutual fund (and 
disposes either the stripped shares or stripped future 
dividends) by contributing the shares (with the future 
dividends) to a custodial account through which another person 
purchases rights to either the stripped shares or the stripped 
future dividends. However, it is intended that Treasury 
regulations issued under the Senate amendment would not apply 
to certain transactions involving direct or indirect interests 
in an entity or account substantially all the assets of which 
consist of tax-exempt obligations (as defined in section 
1275(a)(3)), such as a tax-exempt bond partnership described in 
Rev. Proc. 2002-68,\274\ modifying and superceding Rev. Proc. 
2002-16.\275\
---------------------------------------------------------------------------
    \274\ 2002-43 I.R.B. 753.
    \275\ 2002-9 I.R.B. 572.
---------------------------------------------------------------------------
      No inference is intended as to the treatment under the 
present-law rules for stripped bonds and stripped preferred 
stock, or under any other provisions or doctrines of present 
law, of interests in an entity or account substantially all of 
the assets of which consist of bonds, preferred stock, or any 
combination thereof. The Treasury regulations, when issued, 
would be applied prospectively, except in cases to prevent 
abuse.
      Effective date.--The Senate amendment provision is 
effective for purchases and dispositions occurring after the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Reporting of taxable mergers and acquisitions (sec. 355 of the 
        Senate amendment and new sec. 6043A of the Code)

                              PRESENT LAW

      Under section 6045 and the regulations thereunder, 
brokers (defined to include stock transfer agents) are required 
to make information returns and to provide corresponding payee 
statements as to sales made on behalf of their customers, 
subject to the penalty provisions of sections 6721-6724. Under 
the regulations issued under section 6045, this requirement 
generally does not apply with respect to taxable transactions 
other than exchanges for cash (e.g., stock inversion 
transactions taxable to shareholders by reason of section 
367(a)).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, if gain or loss is recognized 
in whole or in part by shareholders of a corporation by reason 
of a second corporation's acquisition of the stock or assets of 
the first corporation, then the acquiring corporation (or the 
acquired corporation, if so prescribed by the Treasury 
Secretary) is required to make a return containing:
            (1) A description of the transaction;
            (2) The name and address of each shareholder of the 
        acquired corporation that recognizes gain as a result 
        of the transaction (or would recognize gain, if there 
        was a built-in gain on the shareholder's shares);
            (3) The amount of money and the value of stock or 
        other consideration paid to each shareholder described 
        above; and
            (4) Such other information as the Treasury 
        Secretary may prescribe.
      Alternatively, a stock transfer agent who records 
transfers of stock in such transaction may make the return 
described above in lieu of the second corporation.
      In addition, every person required to make a return 
described above is required to furnish to each shareholder 
whose name is required to be set forth in such return a written 
statement showing:
            (1) The name, address, and phone number of the 
        information contact of the person required to make such 
        return;
            (2) The information required to be shown on that 
        return; and
            (3) Such other information as the Treasury 
        Secretary may prescribe.
      This written statement is required to be furnished to the 
shareholder on or before January 31 of the year following the 
calendar year during which the transaction occurred.
      The present-law penalties for failure to comply with 
information reporting requirements are extended to failures to 
comply with the requirements set forth under this proposal.
      Effective date.--The Senate amendment provision is 
effective for acquisitions after the date of enactment of the 
proposal.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Minimum holding period for foreign tax credit with respect to 
        withholding taxes on income other than dividends (sec. 356 of 
        the Senate amendment and sec. 901 of the Code)

                              PRESENT LAW

      In general, U.S. persons may credit foreign taxes against 
U.S. tax on foreign-source income. The amount of foreign tax 
credits that may be claimed in a year is subject to a 
limitation that prevents taxpayers from using foreign tax 
credits to offset U.S. tax on U.S.-source income. Separate 
limitations are applied to specific categories of income.
      Present law denies a U.S. shareholder the foreign tax 
credits normally available with respect to a dividend from a 
corporation or a regulated investment company (``RIC'') if the 
shareholder has not held the stock for more than 15 days 
(within a 30-day testing period) in the case of common stock or 
more than 45 days (within a 90-day testing period) in the case 
of preferred stock.\276\ The disallowance applies both to 
foreign tax credits for foreign withholding taxes that are paid 
on the dividend where the dividend-paying stock is held for 
less than these holding periods, and to indirect foreign tax 
credits for taxes paid by a lower-tier foreign corporation or a 
RIC where any of the required stock in the chain of ownership 
is held for less than these holding periods. Periods during 
which a taxpayer is protected from risk of loss (e.g., by 
purchasing a put option or entering into a short sale with 
respect to the stock) generally are not counted toward the 
holding period requirement. In the case of a bona fide contract 
to sell stock, a special rule applies for purposes of indirect 
foreign tax credits. The disallowance does not apply to foreign 
tax credits with respect to certain dividends received by 
active dealers in securities. If a taxpayer is denied foreign 
tax credits because the applicable holding period is not 
satisfied, the taxpayer is entitled to a deduction for the 
foreign taxes for which the credit is disallowed.
---------------------------------------------------------------------------
    \276\ Sec. 901(k).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment expands the present-law disallowance 
of foreign tax credits to include credits for gross-basis 
foreign withholding taxes with respect to any item of income or 
gain from property if the taxpayer who receives the income or 
gain has not held the property for more than 15 days (within a 
30-day testing period), exclusive of periods during which the 
taxpayer is protected from risk of loss. The Senate amendment 
does not apply to foreign tax credits that are subject to the 
present-law disallowance with respect to dividends. The Senate 
amendment also does not apply to certain income or gain that is 
received with respect to property held by active dealers. Rules 
similar to the present-law disallowance for foreign tax credits 
with respect to dividends apply to foreign tax credits that are 
subject to the Senate amendment. In addition, the Senate 
amendment authorizes the Treasury Department to issue 
regulations providing that the Senate amendment does not apply 
in appropriate cases.
      Effective date.--The Senate amendment provision is 
effective for amounts that are paid or accrued more than 30 
days after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

7. Qualified tax collection contracts (sec. 357 of the Senate amendment 
        and new sec. 6306 of the Code)

                              PRESENT LAW

      In fiscal years 1996 and 1997, the Congress earmarked $13 
million for IRS to test the use of private debt collection 
companies. There were several constraints on this pilot 
project. First, because both IRS and OMB considered the 
collection of taxes to be an inherently governmental function, 
only government employees were permitted to collect the 
taxes.\277\ The private debt collection companies were utilized 
to assist the IRS in locating and contacting taxpayers, 
reminding them of their outstanding tax liability, and 
suggesting payment options. If the taxpayer agreed at that 
point to make a payment, the taxpayer was transferred from the 
private debt collection company to the IRS. Second, the private 
debt collection companies were paid a flat fee for services 
rendered; the amount that was ultimately collected by the IRS 
was not taken into account in the payment mechanism.
---------------------------------------------------------------------------
    \277\ Sec. 7801(a).
---------------------------------------------------------------------------
      The pilot program was discontinued because of 
disappointing results. GAO reported \278\ that IRS collected 
$3.1 million attributable to the private debt collection 
company efforts; expenses were also $3.1 million. In addition, 
there were lost opportunity costs of $17 million to the IRS 
because collection personnel were diverted from their usual 
collection responsibilities to work on the pilot.
---------------------------------------------------------------------------
    \278\ GAO/GGD-97-129R Issues Affecting IRS' Collection Pilot (July 
18, 1997).
---------------------------------------------------------------------------
      The IRS has in the last several years expressed renewed 
interest in the possible use of private debt collection 
companies; for example, IRS recently revised its extensive 
Request for Information concerning its possible use of private 
debt collection companies.\279\
---------------------------------------------------------------------------
    \279\ TIRNO-03-H-0001 (February 14, 2003), at 
www.procurement.irs.treas.gov. The basic request for information is 104 
pages, and there are 16 additional attachments.
---------------------------------------------------------------------------
      In general, Federal agencies are permitted to enter into 
contracts with private debt collection companies for collection 
services to recover indebtedness owed to the United 
States.\280\ That provision does not apply to the collection of 
debts under the Internal Revenue Code.\281\
---------------------------------------------------------------------------
    \280\ 31 U.S.C. sec. 3718.
    \281\ 31 U.S.C. sec. 3718(f).
---------------------------------------------------------------------------
      On February 3, 2003, the President submitted to the 
Congress his fiscal year 2004 budget proposal,\282\ which 
proposed the use of private debt collection companies to 
collect Federal tax debts.
---------------------------------------------------------------------------
    \282\ See Office of Management and Budget, Budget of the United 
States Government, Fiscal Year 2004 (H. Doc. 108-3, Vol. I), p. 274.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment permits the IRS to use private debt 
collection companies to locate and contact taxpayers owing 
outstanding tax liabilities \283\ of any type \284\ and to 
arrange payment of those taxes by the taxpayers. Several steps 
are involved. First, the private debt collection company 
contacts the taxpayer by letter.\285\ If the taxpayer's last 
known address is incorrect, the private debt collection company 
searches for the correct address. The private debt collection 
company is not permitted to contact either individuals or 
employers to locate a taxpayer. Second, the private debt 
collection company telephones the taxpayer to request full 
payment.\286\ If the taxpayer cannot pay in full immediately, 
the private debt collection company offers the taxpayer an 
installment agreement providing for full payment of the taxes 
over a period of as long as three years. If the taxpayer is 
unable to pay the outstanding tax liability in full over a 
three-year period, the private debt collection company obtains 
financial information from the taxpayer and will provide this 
information to the IRS for further processing and action by the 
IRS.
---------------------------------------------------------------------------
    \283\ There must be an assessment pursuant to section 6201 in order 
for there to be an outstanding tax liability.
    \284\ The Senate amendment generally applies to any type of tax 
imposed under the Internal Revenue Code. It is anticipated that the 
focus in implementing the provision will be: (a) taxpayers who have 
filed a return showing a balance due but who have failed to pay that 
balance in full; and (b) taxpayers who have been assessed additional 
tax by the IRS and who have made several voluntary payments toward 
satisfying their obligation but have not paid in full.
    \285\ Several portions of the provision require that the IRS 
disclose confidential taxpayer information to the private debt 
collection company. Section 6103(n) permits disclosure for ``the 
providing of other services * * * for purposes of tax administration.'' 
Accordingly, no amendment to 6103 is necessary to implement the 
provision. It is intended, however, that the IRS vigorously protect the 
privacy of confidential taxpayer information by disclosing the least 
amount of information possible to contractors consistent with the 
effective operation of the provision.
    \286\ The private debt collection company is not permitted to 
accept payment directly. Payments are required to be processed by IRS 
employees.
---------------------------------------------------------------------------
      The Senate amendment specifies several procedural 
conditions under which the provision would operate. First, 
provisions of the Fair Debt Collection Practices Act apply to 
the private debt collection company. Second, taxpayer 
protections that are statutorily applicable to the IRS are also 
made statutorily applicable to the private sector debt 
collection companies. Third, the private sector debt collection 
companies are required to inform taxpayers of the availability 
of assistance from the Taxpayer Advocate.
      The Senate amendment provides that the United States 
shall not be liable for any act or omission of any person 
performing services under a qualified debt collection contract. 
This is designed to encourage these persons to protect 
taxpayers' rights to the maximum extent possible, since they 
and their employers will be liable for violations; they will 
not be able to transfer liability for violations to the United 
States, which might cause them to be more lax in preventing 
violations.
      The Senate amendment creates a revolving fund from the 
amounts collected by the private debt collection companies. The 
private debt collection companies would be paid out of this 
fund. The provision prohibits the payment of fees for all 
services in excess of 25 percent of the amount collected under 
a tax collection contract.\287\
---------------------------------------------------------------------------
    \287\ It is assumed that there will be competitive bidding for 
these contracts by private sector tax collection agencies and that 
vigorous bidding will drive the overhead costs down.
---------------------------------------------------------------------------
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

8. Extension of customs user fees (sec. 358 of the Senate amendment)

                              PRESENT LAW

      Section 13031 of the Consolidated Omnibus Budget 
Reconciliation Act of 1985 (COBRA) (P.L. 99-272), authorized 
the Secretary of the Treasury to collect certain service fees. 
Section 412 (P.L 107-296) of the Homeland Security Act of 2002 
authorized the Secretary of the Treasury to delegate such 
authority to the Secretary of Homeland Security. Provided for 
under 19 U.S.C. 58c, these fees include: processing fees for 
air and sea passengers, commercial trucks, rail cars, private 
aircraft and vessels, commercial vessels, dutiable mail 
packages, barges and bulk carriers, merchandise, and Customs 
broker permits. COBRA was amended on several occasions but most 
recently by P.L. 103-182 which extended authorization for the 
collection of these fees through fiscal year 2003.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the fees authorized under 
the Consolidated Omnibus Budget Reconciliation Act of 1985 
through December 31, 2013.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

9. Modify qualification rules for tax-exempt property and casualty 
        insurance companies (sec. 359 of the Senate amendment and secs. 
        501 and 831 of the Code)

                              PRESENT LAW

      A property and casualty insurance company is eligible to 
be exempt from Federal income tax if its net written premiums 
or direct written premiums (whichever is greater) for the 
taxable year do not exceed $350,000 (sec. 501(c)(15)).
      A property and casualty insurance company may elect to be 
taxed only on taxable investment income if its net written 
premiums or direct written premiums (whichever is greater) for 
the taxable year exceed $350,000, but do not exceed $1.2 
million (sec. 831(b)).
      For purposes of determining the amount of a company's net 
written premiums or direct written premiums under these rules, 
premiums received by all members of a controlled group of 
corporations of which the company is a part are taken into 
account. For this purpose, a more-than-50-percent threshhold 
applies under the vote and value requirements with respect to 
stock ownership for determining a controlled group, and rules 
treating a life insurance company as part of a separate 
controlled group or as an excluded member of a group do not 
apply (secs. 501(c)(15), 831(b)(2)(B) and 1563).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision modifies the requirements 
for a property and casualty insurance company to be eligible 
for tax-exempt status, and to elect to be taxed only on taxable 
investment income.
      Under the Senate amendment provision, a property and 
casualty insurance company is eligible to be exempt from 
Federal income tax if (a) its gross receipts for the taxable 
year do not exceed $600,000, and (b) the premiums received for 
the taxable year are greater than 50 percent of the gross 
receipts. For purposes of determining gross receipts, the gross 
receipts of all members of a controlled group of corporations 
of which the company is a part are taken into account. The 
provision expands the present-law controlled group rule so that 
it also takes into account gross receipts of foreign and tax-
exempt corporations.
      The Senate amendment provision also provides that a 
property and casualty insurance company may elect to be taxed 
only on taxable investment income if its net written premiums 
or direct written premiums (whichever is greater) do not exceed 
$1.2 million (without regard to whether such premiums exceed 
$350,000) (sec. 831(b)). The provision retains the present-law 
rule that, for purposes of determining the amount of a 
company's net written premiums or direct written premiums under 
this rule, premiums received by all members of a controlled 
group of corporations of which the company is a part are taken 
into account.
      No inference is intended that any company that is not an 
insurance company (i.e., any company that is not a company 
whose primary and predominant business activity during the 
taxable year is the issuing of insurance or annuity contracts 
or the reinsuring of risks underwritten by insurance companies) 
can be eligible for tax-exempt status under present-law section 
501(c)(15), or under the provision. It is intended that IRS 
enforcement activities address the misuse of present-law 
section 501(c)(15).
      Further, it is not intended that the provision permitting 
a property and casualty insurance company to elect to be taxed 
only on taxable investment income become an area of abuse. 
While the bill retains the eligibility test based on premiums 
(rather than gross receipts), it is intended that regulations 
or other Treasury guidance provide for anti-abuse rules so as 
to prevent improper use of the provision, including by 
characterizing as premiums income that is other than premium 
income.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

10. Authorize IRS to enter into installment agreements that provide for 
        partial payment (sec. 360 of the Senate amendment 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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision clarifies 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. The Senate amendment 
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 Senate amendment provision is 
effective for installment agreements entered into on or after 
the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

11. Extend intangible amortization provisions to sports franchises 
        (sec. 361 of the Senate amendment and sec. 197 of the Code)

                              PRESENT LAW

      The purchase price allocated to intangible assets 
(including franchise rights) acquired in connection with the 
acquisition of a trade or business generally must be 
capitalized and amortized over a 15-year period.\288\ These 
rules were enacted in 1993 to minimize disputes regarding the 
proper treatment of acquired intangible assets. The rules do 
not apply to a franchise to engage in professional sports and 
any intangible asset acquired in connection with such a 
franchise.\289\ However, other special rules apply to certain 
of these intangible assets.
---------------------------------------------------------------------------
    \288\ Sec. 197.
    \289\ Sec. 197(e)(6).
---------------------------------------------------------------------------
      Under section 1056, when a franchise to conduct a sports 
enterprise is sold or exchanged, the basis of a player contract 
acquired as part of the transaction is generally limited to the 
adjusted basis of such contract in the hands of the transferor, 
increased by the amount of gain, if any, recognized by the 
transferor on the transfer of the contract. Moreover, not more 
than 50 percent of the consideration from the transaction may 
be allocated to player contracts unless the transferee 
establishes to the satisfaction of the Commissioner that a 
specific allocation in excess of 50 percent is proper. However, 
these basis rules may not apply if a sale or exchange of a 
franchise to conduct a sports enterprise is effected through a 
partnership.\290\ Basis allocated to the franchise or to other 
valuable intangible assets acquired with the franchise may not 
be amortizable if these assets lack a determinable useful life.
---------------------------------------------------------------------------
    \290\ P.D.B. Sports, Ltd. v. Comm., 109 T.C. 423 (1997).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the 15-year recovery period 
for intangible assets to franchises to engage in professional 
sports and any intangible asset acquired in connection with 
such a franchise acquisitions of sports franchises (including 
player contracts). Thus, the same rules for amortization of 
intangibles that apply to other acquisitions under present law 
will apply to acquisitions of sports franchises.
      Effective date.--The Senate amendment provision is 
effective for acquisitions occurring after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

12. Deposits made to suspend the running of interest on potential 
        underpayments (sec. 362 of the Senate amendment 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 taxpayerwins. 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.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

In general

      The Senate amendment 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 paid by the deposited 
amount for the period 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.

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. Thus, the interest 
received on withdrawn deposits will not be eligible for the 
proposed exclusion from income of an individual. Similarly, 
withdrawal of a deposit will not establish a period for which 
interest was allowable at the short-term applicable Federal 
rate for the purpose of establishing a net zero interest rate 
on a similar amount of underpayment for the same period.

Effective date

      The Senate amendment provision applies to deposits made 
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 the taxpayer identifies 
the amount as a deposit made pursuant to this provision.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

13. Clarification of rules for payment of estimated tax for certain 
        deemed asset sales (sec. 363 of the Senate amendment and sec. 
        338 of the Code)

                              PRESENT LAW

      In certain circumstances, taxpayers can make an election 
under section 338(h)(10) to treat a qualifying purchase of 80 
percent of the stock of a target corporation by a corporation 
from a corporation that is a member of an affiliated group (or 
a qualifying purchase of 80 percent of the stock of an S 
corporation by a corporation from S corporation shareholders) 
as a sale of the assets of the target corporation, rather than 
as a stock sale. The election must be made jointly by the buyer 
and seller of the stock and is due by the 15th day of the ninth 
month beginning after the month in which the acquisition date 
occurs. An agreement for the purchase and sale of stock often 
may contain an agreement of the parties to make a section 
338(h)(10) election.
      Section 338(a) also permits a unilateral election by a 
buyer corporation to treat a qualified stock purchase of a 
corporation as a deemed asset acquisition, whether or not the 
seller of the stock is a corporation (or an S corporation is 
the target). In such a case, the seller or sellers recognize 
gain or loss on the stock sale (including any estimated taxes 
with respect to the stock sale), and the target corporation 
recognizes gain or loss on the deemed asset sale.
      Section 338(h)(13) provides that, for purposes of section 
6655 (relating to additions to tax for failure by a corporation 
to pay estimated income tax), tax attributable to a deemed 
asset sale under section 338(a)(1) shall not be taken into 
account.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment clarifies section 338(h)(13) to 
provide that the exception for estimated tax purposes with 
respect to tax attributable to a deemed asset sale does not 
apply with respect to a qualified stock purchase for which an 
election is made under section 338(h)(10).
      Under the Senate amendment, if a transaction eligible for 
the election under section 338(h)(10) occurs, estimated tax 
would be determined based on the stock sale unless and until 
there is an agreement of the parties to make a section 
338(h)(10) election.
      If at the time of the sale there is an agreement of the 
parties to make a section 338(h)(10) election, then estimated 
tax is computed based on an asset sale. If the agreement to 
make a section 338(h)(10) election is concluded after the stock 
sale, such that the original computation was based on a stock 
sale, estimated tax is recomputed based on the asset sale 
election.
      No inference is intended as to present law.
      Effective date.--The Senate amendment is effective for 
transactions that occur after the date of enactment of the 
provision.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

14. Limit deduction for charitable contributions of patents and similar 
        property (sec. 364 of the Senate amendment and sec. 170 of the 
        Code)

                              PRESENT LAW

      In general, a deduction is permitted for charitable 
contributions, subject to certain limitations that depend on 
the type of taxpayer, the property contributed, and the donee 
organization.\291\ The amount of deduction generally equals the 
fair market value of the contributed cash or property on the 
date of the contribution.
---------------------------------------------------------------------------
    \291\ Charitable deductions are provided for income, estate, and 
gift tax purposes. Secs. 170, 2055, and 2522, respectively.
---------------------------------------------------------------------------
      For certain contributions of property, the taxpayer is 
required to reduce the deduction amount by any gain, generally 
resulting in a deduction equal to the taxpayer's basis. This 
rule applies to contributions of: (1) property that, at the 
time of contribution, would have resulted in short-term capital 
gain if the property was sold by the taxpayer on the 
contribution date; (2) tangible personal property that is used 
by the donee in a manner unrelated to the donee's exempt (or 
governmental) purpose; and (3) property to or for the use of a 
private foundation (other than a foundation defined in section 
170(b)(1)(E)).
      Charitable contributions of capital gain property 
generally are deductible at fair market value. Capital gain 
property means any capital asset or property used in the 
taxpayer's trade orbusiness the sale of which at its fair 
market value, at the time of contribution, would have resulted in gain 
that would have been long-term capital gain. Contributions of capital 
gain property are subject to different percentage limitations than 
other contributions of property.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision provides that the amount 
of the deduction for charitable contributions of patents, 
copyrights, trademarks, trade names, trade secrets, know-how, 
software, similar property, or applications or registrations of 
such property may not exceed the taxpayer's basis in the 
contributed property.
      The Senate amendment provision provides the Secretary of 
the Treasury with the authority to issue regulations or other 
guidance to prevent avoidance of the purposes of the provision. 
In general, the provision is intended to prevent taxpayers from 
claiming a deduction in excess of basis with respect to 
charitable contributions of patents or similar property. A 
taxpayer would contravene the purposes of the provision, for 
example, by engaging in transactions or other activity that 
manipulated the basis of the contributed property or changed 
the form of the contributed property in order to increase the 
amount of the deduction. This might occur, for instance, if a 
taxpayer, for the purpose of claiming a larger deduction, 
engaged in activity that increased the basis of the contributed 
property by using related parties, pass-thru entities, or other 
intermediaries or means. The purpose of the provision also 
would be abused if a taxpayer changed the form of the property 
by, for example, embedding the property into a product, 
contributing the product, and claiming a fair market value 
deduction based in part on the fair market value of the 
embedded property. In such a case, any guidance issued by the 
Secretary of the Treasury may provide that the taxpayer is 
required to separate the embedded property from the related 
product and treat the charitable contribution as contributions 
of distinct properties, with each property subject to the 
applicable deduction rules.
      Effective date.--The Senate amendment provision is 
effective for contributions made after May 7, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

15. Extension of provision permitting qualified transfers of excess 
        pension assets to retiree health accounts (sec. 365 of the 
        Senate amendment, sec. 420 of the Code, and secs. 101, 403, and 
        408 of ERISA)

                              PRESENT LAW

      Defined benefit plan assets generally may not revert to 
an employer prior to termination of the plan and satisfaction 
of all plan liabilities. In addition, a reversion may occur 
only if the plan so provides. A reversion prior to plan 
termination may constitute a prohibited transaction and may 
result in plan disqualification. Any assets that revert to the 
employer upon plan termination are includible in the gross 
income of the employer and subject to an excise tax. The excise 
tax rate is 20 percent if the employer maintains a replacement 
plan or makes certain benefit increases in connection with the 
termination; if not, the excise tax rate is 50 percent. Upon 
plan termination, the accrued benefits of all plan participants 
are required to be 100-percent vested.
      A pension plan may provide medical benefits to retired 
employees through a separate account that is part of such plan. 
A qualified transfer of excess assets of a defined benefit plan 
to such a separate account within the plan may be made in order 
to fund retiree health benefits.\292\ A qualified transfer does 
not result in plan disqualification, is not a prohibited 
transaction, and is not treated as a reversion. Thus, 
transferred assets are not includible in the gross income of 
the employer and are not subject to the excise tax on 
reversions. No more than one qualified transfer may be made in 
any taxable year.
---------------------------------------------------------------------------
    \292\ Sec. 420.
---------------------------------------------------------------------------
      Excess assets generally means the excess, if any, of the 
value of the plan's assets \293\ over the greater of (1) the 
plan's full funding limit \294\ or (2) 125 percent of the 
plan's current liability. In addition, excess assets 
transferred in a qualified transfer may not exceed the amount 
reasonably estimated to be the amount that the employer will 
pay out of such account during the taxable year of the transfer 
for qualified current retiree health liabilities. No deduction 
is allowed to the employer for (1) a qualified transfer or (2) 
the payment of qualified current retiree health liabilities out 
of transferred funds (and any income thereon).
---------------------------------------------------------------------------
    \293\ The value of plan assets for this purpose is the lesser of 
fair market value or actuarial value.
    \294\ A plan's full funding limit is the lesser of (1) for years 
beginning before January 1, 2004, the applicable percentage of current 
liability and (2) the plan's accrued liability. The applicable 
percentage of current liability is 170 percent for 2003. The current 
liability full funding limit is repealed for years beginning after 
2003. Under the general sunset provision of EGTRRA, the limit is 
reinstated for years after 2010.
---------------------------------------------------------------------------
      Transferred assets (and any income thereon) must be used 
to pay qualified current retiree health liabilities for the 
taxable year of the transfer. Transferred amounts generally 
must benefit pension plan participants, other than key 
employees, who are entitled upon retirement to receiveretiree 
medical benefits through the separate account. Retiree health benefits 
of key employees may not be paid out of transferred assets.
      Amounts not used to pay qualified current retiree health 
liabilities for the taxable year of the transfer are to be 
returned to the general assets of the plan. These amounts are 
not includible in the gross income of the employer, but are 
treated as an employer reversion and are subject to the 20-
percent reversion tax.
      In order for the transfer to be qualified, accrued 
retirement benefits under the pension plan generally must be 
100-percent vested as if the plan terminated immediately before 
the transfer (or in the case of a participant who separated in 
the one-year period ending on the date of the transfer, 
immediately before the separation).
      In order for a transfer to be qualified, the employer 
generally must maintain retiree health benefit costs at the 
same level for the taxable year of the transfer and the 
following four years.
      In addition, the Employee Retirement Income Security Act 
of 1974 (``ERISA'') provides that, at least 60 days before the 
date of a qualified transfer, the employer must notify the 
Secretary of Labor, the Secretary of the Treasury, employee 
representatives, and the plan administrator of the transfer, 
and the plan administrator must notify each plan participant 
and beneficiary of the transfer.\295\
---------------------------------------------------------------------------
    \295\ ERISA sec. 101(e). ERISA also provides that a qualified 
transfer is not a prohibited transaction under ERISA or a prohibited 
reversion.
---------------------------------------------------------------------------
      No qualified transfer may be made after December 31, 
2005.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment allows qualified transfers of excess 
defined benefit plan assets through December 31, 2013.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

16. Proration rules for life insurance business of property and 
        casualty insurance companies (sec. 366 of the Senate amendment 
        and sec. 832 of the Code)

                              PRESENT LAW

Life insurance company proration rules

      A life insurance company is subject to tax on its life 
insurance company taxable income (LICTI) (sec. 801). LICTI is 
life insurance gross income reduced by life insurance 
deductions. For this purpose, a life insurance company includes 
in gross income any net decrease in reserves, and deducts a net 
increase in reserves. Because deductible reserve increases 
might be viewed as being funded proportionately out of taxable 
and tax-exempt income, the net increase and net decrease in 
reserves are computed by reducing the ending balance of the 
reserve items by the policyholders' share of tax-exempt 
interest (secs. 807(b)(2)(B) and (b)(1)(B)). Similarly, a life 
insurance company is allowed a dividends-received deduction for 
intercorporate dividends from nonaffiliates only in proportion 
to the company's share of such dividends (secs. 805(a)(4), 
812). Fully deductible dividends from affiliates are excluded 
from the application of this proration formula, if such 
dividends are not themselves distributions from tax-exempt 
interest or from dividend income that would not be fully 
deductible if received directly by the taxpayer. In addition, 
the proration rule includes in prorated amounts the increase 
for the taxable year in policy cash values of life insurance 
policies and annuity and endowment contracts.

Property and casualty insurance company proration rules

      The taxable income of a property and casualty insurance 
company is determined as the sum of its underwriting income and 
investment income (as well as gains and other income items), 
reduced by allowable deductions (sec. 832). Underwriting income 
means premiums earned during the taxable year less losses 
incurred and expenses incurred. In calculating its reserve for 
losses incurred, a property and casualty insurance company must 
reduce the amount of losses incurred by 15 percent of (1) the 
insurer's tax-exempt interest, (2) the deductible portion of 
dividends received (with special rules for dividends from 
affiliates), and (3) the increase for the taxable year in the 
cash value of life insurance, endowment or annuity contract 
(sec. 832(b)(5)(B)).
      This 15-percent proration requirement was enacted in 
1986. The reason the provision was adopted was Congress' belief 
that ``it is not appropriate to fund loss reserves on a fully 
deductible basis out of income which may be, in whole or in 
part, exempt from tax. The amount of the reserves that is 
deductible should be reduced by a portion of such tax-exempt 
income to reflect the fact that reserves are generally funded 
in part from tax-exempt interest or from wholly or partially 
deductible dividends.'' \296\
---------------------------------------------------------------------------
    \296\ H.R. Rep. No. 99-426, Report of the Committee on Ways and 
Means on H.R. 3838, The Tax Reform Act of 1985 (99th Cong., 1st 
Sess.,), 670.
---------------------------------------------------------------------------

Property and casualty insurance companies with life insurance reserves

      Present law provides that a life insurance company means 
an insurance company engaged in the business of issuing life 
insurance, annuity, or noncancellable accident and health 
insurance, provided its reserves meet a 50-percent threshhold 
for its reserves (sec. 816). More than 50 percent of its 
reserves must constitute life insurance reserves or reserves 
for noncancellable accident and health policies. An insurance 
company that does not meet this 50-percent threshold for 
reserves generally is subject to tax as a property and casualty 
insurance company. In determining the amount of premiums earned 
for purposes of calculating its taxable income, a property and 
casualty insurance company includes in unearned premiums the 
amount of life insurance reserves determined under the rules 
applicable to life insurance companies (secs. 832(b)(4), 807).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision provides that the life 
insurance company proration rules, rather than the property and 
casualty insurance proration rules, apply with respect to life 
insurance reserves of a property and casualty company.
      Specifically, the Senate amendment provision provides 
that any deduction attributable to life insurance reserves 
included in unearned premiums of a property and casualty 
company under section 832(b)(4) is reduced in the same manner 
as dividends received deductions of a life insurance company 
are reduced under the proration rules of section 
805(a)(4).\297\ In applying the policyholder's share and the 
company's share under this reduction, section 812 applies with 
respect to the life insurance business of the property and 
casualty company. For purposes of applying section 812(d), only 
the gross investment income attributable to the life insurance 
reserves referred to in section 832(b)(4) are taken into 
account. It is expected that Treasury will provide guidance as 
to reasonable methods of attributing gross investment income to 
such life insurance reserves.
---------------------------------------------------------------------------
    \297\ As under present law, the reserve deduction determined under 
section 807 for life insurance reserves included in unearned premiums 
is reduced by the policyholder's share of tax-exempt interest and of 
the increase in policy cash values (sec. 807 (b)(1)(B)).
---------------------------------------------------------------------------
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

17. Modify treatment of transfers to creditors in divisive 
        reorganizations (sec. 367 of the Senate amendment and secs. 357 
        and 361 of the Code)

                              PRESENT LAW

      Section 355 of the Code permits a corporation 
(``distributing'') to separate its businesses by distributing a 
subsidiary tax-free, if certain conditions are met. In cases 
where the distributing corporation contributes property to the 
corporation (``controlled') that is to be distributed, no gain 
or loss is recognized if the property is contributed solely in 
exchange for stock or securities of the controlled corporation 
(which are subsequently distributed to distributing's 
shareholders). The contribution of property to a controlled 
corporation that is followed by a distribution of its stock and 
securities may qualify as a reorganization described in section 
368(a)(1)(D). That section also applies to certain transactions 
that do not involve a distribution under section 355 and that 
are considered ``acquisitive'' rather than ``divisive'' 
reorganizations.
      The contribution in the course of a divisive section 
368(a)(1)(D) reorganization is also subject to the rules of 
section 357(c). That section provides that the transferor 
corporation will recognize gain if the amount of liabilities 
assumed by controlled exceeds the basis of the property 
transferred to it.
      Because the contribution transaction in connection with a 
section 355 distribution is a reorganization under section 
368(a)(1)(D), it is also subject to certain rules applicable to 
both divisive and acquisitive reorganizations. One such rule, 
in section 361(b), states that a transferor corporation will 
not recognize gain if it receives money or other property and 
distributes that money or other property to its shareholders or 
creditors. The amount of property that may be distributed to 
creditors without gain recognition is unlimited under this 
provision.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment limits the amount of money or other 
property that a distributing corporation can distribute to its 
creditors without gain recognition under section 361(b) to the 
amount of the basis of the assets contributed to a controlled 
corporation in a divisive reorganization. In addition, the 
Senate amendment provides that acquisitive reorganizations 
under section 368(a)(1)(D) are no longer subject to the 
liabilities assumption rules of section 357(c).
      Effective date.--The Senate amendment provision is 
effective for transactions on or after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

18. Taxation of minor children (sec. 368 of the Senate amendment and 
        sec. 1 of the Code)

                              PRESENT LAW

Filing requirements for children

      Single unmarried individuals eligible to be claimed as a 
dependent on another taxpayer's return generally must file an 
individual income tax return if he or she has (1) earned income 
only over $4,750 (for 2003), (2) unearned income only over the 
minimum standard deduction amount for dependents ($750 in 
2003), or (3) both earned income and unearned income totaling 
more than the smaller of (a) $4,750 (for 2003) or (b) the 
larger of (i) $750 (for 2003), or (ii) earned income plus 
$250.\298\ Thus, if a dependent child has less than $750 in 
gross income, the child does not have to file an individual 
income tax return for 2003.
---------------------------------------------------------------------------
    \298\ Sec. 6012(a)(1)(C). Other filing requirements apply to 
dependents who are married, elderly, or blind. See, Internal Revenue 
Service, Publication 929, Tax Rules for Children and Dependents, at 3, 
Table 1 (2002).
---------------------------------------------------------------------------
      A child who cannot be claimed as a dependent on another 
person's tax return (e.g., because the support test is not 
satisfied by any other person) is subject to the generally 
applicable filing requirements. That is, such an individual 
generally must file a return if the individual's gross income 
exceeds the sum of the standard deduction and the personal 
exemption amounts applicable to the individual.

Taxation of unearned income of minor children

      Special rules apply to the unearned income of a child 
under age 14. These rules, generally referred to as the 
``kiddie tax,'' tax certain unearned income of a child at the 
parent's rate, regardless of whether the child can be claimed 
as a dependent on the parent's return.\299\ The kiddie tax 
applies if: (1) the child has not reached the age of 14 by the 
close of the taxable year, (2) the child's investment income 
was more than $1,500 (for 2003) and (3) the child is required 
to file a return for the year. The kiddie tax applies 
regardless of the source of the property generating the income 
or when the property giving rise to the income was transferred 
to or otherwise acquired by the child. Thus, for example, the 
kiddie tax may apply to income from property acquired by the 
child with compensation derived from the child's personal 
services or from property given to the child by someone other 
than the child's parent.
---------------------------------------------------------------------------
    \299\ Sec. 1(g).
---------------------------------------------------------------------------
      The kiddie tax is calculated by computing the ``allocable 
parental tax.'' This involves adding the net unearned income of 
the child to the parent's income and then applying the parent's 
tax rate. A child's ``net unearned income'' is the child's 
unearned income less the sum of (1) the minimum standard 
deduction allowed to dependents ($750 for 2003), and (2) the 
greater of (a) such minimum standard deduction amount or (b) 
the amount of allowable itemized deductions that are directly 
connected with the production of the unearned income.\300\ A 
child's net unearned income cannot exceed the child's taxable 
income.
---------------------------------------------------------------------------
    \300\ Sec. 1(g)(4).
---------------------------------------------------------------------------
      The allocable parental tax equals the hypothetical 
increase in tax to the parent that results from adding the 
child's net unearned income to the parent's taxable income. If 
a parent has more than one child subject to the kiddie tax, the 
net unearned income of all children is combined, and a single 
kiddie tax is calculated. Each child is then allocated a 
proportionate share of the hypothetical increase.
      If the parents file a joint return, the allocable 
parental tax is calculated using the income reported on the 
joint return. In the case of parents who are married but file 
separate returns, the allocable parental tax is calculated 
using the income of the parent with the greater amount of 
taxable income. In the case of unmarried parents, the child's 
custodial parent is the parent whose taxable income is taken 
into account in determining the child's liability. If the 
custodial parent has remarried, the stepparent is treated as 
the child's other parent. Thus, if the custodial parent and 
stepparent file a joint return, the kiddie tax is calculated 
using that joint return. If the custodial parent and stepparent 
file separate returns, the return of the one with the greater 
taxable income is used. If the parents are unmarried but lived 
together all year, the return of the parent with the greater 
taxable income is used.\301\
---------------------------------------------------------------------------
    \301\ Sec. 1(g)(5); Internal Revenue Service, Publication 929, Tax 
Rules for Children and Dependents, at 6 (2002).
---------------------------------------------------------------------------
      Unless the parent elects to include the child's income on 
the parent's return (as described below) the child files a 
separate return. In this case, items on the parent's return are 
not affected by the child's income. The total tax due from a 
child is the greater of:
            (1) the sum of (a) the tax payable by the child on 
        the child's earned income plus (b) the allocable 
        parental tax or;
            (2) the tax on the child's income without regard to 
        the kiddie tax provisions.

Parental election to include child's unearned income

      Under certain circumstances, a parent may elect to report 
a child's unearned income on the parent's return. If the 
election is made, the child is treated as having no income for 
the year and the child does not have to file a return. The 
requirements for the election are that:
            (1) the child has gross income only from interest 
        and dividends (including capital gains distributions 
        and Alaska Permanent Fund Dividends); \302\
---------------------------------------------------------------------------
    \302\ Internal Revenue Service, Publication 929, Tax Rules for 
children and Dependents, at 7 (2002).
---------------------------------------------------------------------------
            (2) such income is more than the minimum standard 
        deduction amount for dependents ($750 in 2003) and less 
        than 10 times that amount;
            (3) no estimated tax payments for the year were 
        made in the child's name and taxpayer identification 
        number;
            (4) no backup withholding occurred; and
            (5) the child is required to file a return if the 
        parent does not make the election.
      Only the parent whose return must be used when 
calculating the kiddie tax may make the election. The parent 
includes in income the child's gross income in excess of twice 
the minimum standard deduction amount for dependents (i.e., the 
child's gross income in excess of $1,500 for 2003). This amount 
is taxed at the parent's rate. The parent also must report an 
additional tax liability equal to the lesser of: (1) $75 (in 
2003), or (2) 10 percent of the child's gross income exceeding 
the child's standard deduction ($750 in 2003).
      Including the child's income on the parent's return can 
affect the parent's deductions and credits that are based on 
adjusted gross income, as well as income-based phaseouts, 
limitations, and floors.\303\ In addition, certain deductions 
that the child would have been entitled to take on his or her 
own return are lost.\304\ Further, if the child received tax-
exempt interest from a private activity bond, that item is 
considered a tax preference of the parent for alternative 
minimum tax purposes.\305\
---------------------------------------------------------------------------
    \303\ Internal Revenue Service, Publication 929, Tax Rules for 
Children and Dependents, at 8 (2002).
    \304\ Internal Revenue Service, Publication 929, Tax Rules for 
Children and Dependents, at 7 (2002).
    \305\ Sec. 1(g)(7)(B).
---------------------------------------------------------------------------

Taxation of child's compensation for services

      Compensation for a child's services, even though not 
retained by the child, is considered the gross income of the 
child, not the parent, even if the compensation is not received 
by the child (e.g. is the parent's income under local 
law).\306\ If the child's income tax is not paid, however, an 
assessment against the child will be considered as also made 
against the parent to the extent the assessment is attributable 
to amounts received for the child's services.\307\
---------------------------------------------------------------------------
    \306\ Sec. 73(a).
    \307\ Sec. 6201(c).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision increases the age of 
minors to which the kiddie tax provisions apply from under 14 
to under 18.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

19. Provide consistent amortization period for intangibles (sec. 369 of 
        the Senate amendment and secs. 195, 248, and 709 of the Code)

                              PRESENT LAW

      At the election of the taxpayer, start-up 
expenditures\308\ and organizational expenditures\309\ may be 
amortized over a period of not less than 60 months, beginning 
with the month in which the trade or business begins. Start-up 
expenditures are amounts that would have been deductible as 
trade or business expenses, had they not been paid or incurred 
before business began. Organizational expenditures are 
expenditures that are incident to the creation of a corporation 
(sec. 248) or the organization of a partnership (sec. 709), are 
chargeable to capital, and that would be eligible for 
amortization had they been paid or incurred in connection with 
the organization of a corporation or partnership with a limited 
or ascertainable life.
---------------------------------------------------------------------------
    \308\ Sec. 195
    \309\ Secs. 248 and 709.
---------------------------------------------------------------------------
      Treasury regulations\310\ require that a taxpayer file an 
election to amortize start-up expenditures no later than the 
due date for the taxable year in which the trade or business 
begins. The election must describe the trade or business, 
indicate the period of amortization (not less than 60 months), 
describe each start-up expenditure incurred, and indicate the 
month in which the trade or business began. Similar 
requirements apply to the election to amortize organizational 
expenditures. A revised statement may be filed to include 
start-up and organizational expenditures that were not included 
on the original statement, but a taxpayer may not include as a 
start-up expenditure any amount that was previously claimed as 
a deduction.
---------------------------------------------------------------------------
    \310\ Treas. Reg. sec. 1.195-1.
---------------------------------------------------------------------------
      Section 197 requires most acquired intangible assets 
(such as goodwill, trademarks, franchises, and patents) that 
are held in connection with the conduct of a trade or business 
or an activity for the production of income to be amortized 
over 15 years beginning with the month in which the intangible 
was acquired.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment modifies the treatment of start-up 
and organizational expeditures. A taxpayer would be allowed to 
elect to deduct up to $5,000 each of start-up and 
organizational expenditures in the taxable year in which the 
trade or business begins. However, each $5,000 amount is 
reduced (but not below zero) by the amount by which the 
cumulative cost of start-up or organizational expenditures 
exceeds $50,000, respectively. Start-up and organizational 
expenditures that are not deductible in the year in which the 
trade or business begins would be amortized over a 15-year 
period consistent with the amortization period for section 197 
intangibles.
      Effective date.--The Senate amendment provision is 
effective for start-up and organizational expenditures incurred 
after the date of enactment. Start-up and organizational 
expenditures that are incurred on or before the date of 
enactment would continue to be eligible to be amortized over a 
period not to exceed 60 months. However, all start-up and 
organizational expenditures related to a particular trade or 
business, whether incurred before or after the date of 
enactment, would be considered in determining whether the 
cumulative cost of start-up or organizational expenditures 
exceeds $50,000.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

20. Clarify definition of nonqualified preferred stock (sec. 370 of the 
        Senate amendment and sec. 351 of the Code)

                              PRESENT LAW

      The Taxpayer Relief Act of 1997 amended sections 351, 
354, 355, 356, and 1036 to treat ``nonqualified preferred 
stock'' as boot in corporate transactions, subject to certain 
exceptions. For this purpose, preferred stock is defined as 
stock that is ``limited and preferred as to dividends and does 
not participate in corporate growth to any significant 
extent.'' Nonqualified preferred stock is defined as any 
preferred stock if (1) the holder has the right to require the 
issuer or a related person to redeem or purchase the stock, (2) 
the issuer or a related person is required to redeem or 
purchase, (3) the issuer or a related person has the right to 
redeem or repurchase, and, as of the issue date, it is more 
likely than nor that such right will be exercised, or (4) the 
dividend rate varies in whole or in part (directly or 
indirectly) with reference to interest rates, commodity prices, 
or similar indices, regardless of whether such varying rate is 
provided as an express term of the stock (as in the case of an 
adjustable rate stock) or as a practical result of other 
aspects of the stock (as in the case of auction stock). For 
this purpose, clauses (1), (2), and (3) apply if the right or 
obligation may be exercised within 20 years of the issue date 
and is not subject to a contingency which, as of the issue 
date, makes remote the likelihood of the redemption or 
purchase.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision clarifies the definition 
of nonqualified preferred stock to ensure that stock for which 
there is not a real and meaningful likelihood of actually 
participating in the earnings and profits of the corporation is 
not considered to be outside the definition of stock that is 
limited and preferred as to dividends and does not participate 
in corporate growth to any significant extent.
      As one example, instruments that are preferred on 
liquidation and that are entitled to the same dividends as may 
be declared on common stock do not escape being nonqualified 
preferred stock by reason of that right if the corporation does 
not in fact pay dividends either to its common or preferred 
stockholders. As another example, stock that entitles the 
holder to a dividend that is the greater of 7 percent or the 
dividends common shareholders receive does not avoid being 
preferred stock if the common shareholders are not expected to 
receive dividends greater than 7 percent.
      No inference is intended as to the characterization of 
stock under present law that has terms providing for unlimited 
dividends or participation rights but, based on all the facts 
and circumstances, is limited and preferred as to dividends and 
does not participate in corporate growth to any significant 
extent.
      Effective date.--The Senate amendment provision is 
effective for transactions after May 14, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

21. Establish specific class lives for utility grading costs (sec. 371 
        of the Senate amendment and sec. 168 of the Code)

                              PRESENT LAW

      A taxpayer is allowed a depreciation deduction for the 
exhaustion, wear and tear, and obsolescence of property that is 
used in a trade or business or held for the production of 
income. For most tangible property placed in service after 
1986, the amount of the depreciation deduction is determined 
under the modified accelerated cost recovery system (MACRS) 
using a statutorily prescribed depreciation method, recovery 
period, and placed in service convention. For some assets, the 
recovery period for the asset is provided in section 168. In 
other cases, the recovery period of an asset is determined by 
reference to its class life. The class lives of assets placed 
in service after 1986 are generally set forth in Revenue 
Procedure 87-56.\311\ If no class life is provided, the asset 
is allowed a 7-year recovery period under MACRS.
---------------------------------------------------------------------------
    \311\ 1987-2 C.B. 674 (as clarified and modified by Rev. Proc. 88-
22, 1988-1 C.B. 785).
---------------------------------------------------------------------------
      Assets that are used in the transmission and distribution 
of electricity for sale are included in asset class 49.14, with 
a class life of 30 years and a MACRS recovery period of 20 
years. The cost of initially clearing and grading land 
improvements are specifically excluded from asset class 49.14. 
Prior to adoption of the accelerated cost recovery system, the 
IRS ruled that an average useful life of 84 years for the 
initial clearing and grading relating to electric transmission 
lines and 46 years for the initial clearing and grading 
relating to electric distribution lines, would be accepted. 
However, the result in this ruling was not incorporated in the 
asset classes included in Rev. Proc. 87-56 or its predecessors. 
Accordingly such costs are depreciated over a 7-year recovery 
period under MACRS as assets for which no class life is 
provided.
      A similar situation exists with regard to gas utility 
trunk pipelines and related storage facilities. Such assets are 
included in asset class 49.24, with a class life of 22 years 
and a MACRS recovery period of 15 years. Initial clearing and 
grade improvements are specifically excluded from the asset 
class, and no separate asset class is provided for such costs. 
Accordingly, such costs are depreciated over a 7-year recovery 
period under MACRS as assets for which no class life is 
provided.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment assigns a class life to depreciable 
electric and gas utility clearing and grading costs incurred to 
locate transmission and distribution lines and pipelines. The 
provision includes these assets in the asset classes of the 
property to which the clearing and grading costs relate 
(generally, asset class 49.14 for electric utilities and asset 
class 49.24 for gas utilities, giving these assets a recovery 
period of 20 years and 15 years, respectively).
      Effective date.--The Senate amendment provision is 
effective for electric and gas utility clearing and grading 
costs incurred after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

22. Prohibition on nonrecognition of gain through complete liquidation 
        of holding company (sec. 372 of the Senate amendment and secs. 
        331 and 332 of the Code)

                              PRESENT LAW

      A U.S. corporation owned by foreign persons is subject to 
U.S. income tax on its net income. In addition, the earnings of 
the U.S. corporation are subject to a second tax, when 
dividends are paid to the corporation's shareholders.
      In general, dividends paid by a U.S. corporation to 
nonresident alien individuals and foreign corporations that are 
not effectively connected with a U.S. trade or business are 
subject to a U.S. withholding tax on the gross amount of such 
income at a rate of 30 percent. The 30-percent withholding tax 
may be reduced pursuant to an income tax treaty between the 
United States and the foreign country where the foreign person 
is resident.
      In addition, the United States imposes a branch profits 
tax on U.S. earnings of a foreign corporation that are shifted 
out of a U.S. branch of the foreign corporation. The branch 
profits tax is comparable to the second-level taxes imposed on 
dividends paid by a U.S. corporation to foreign shareholders. 
The branch profits tax is 30 percent (subject to possible 
income tax treaty reduction) of a foreign corporation's 
dividend equivalent amount. The ``dividend equivalent amount'' 
generally is the earnings and profits of a U.S. branch of a 
foreign corporation attributable to its income effectively 
connected with a U.S. trade or business.
      In general, U.S. withholding tax is not imposed with 
respect to a distribution of a U.S. corporation's earnings to a 
foreign corporation in complete liquidation of the subsidiary, 
because the distribution is treated as made in exchange for 
stock and not as a dividend. In addition, detailed rules apply 
for purposes of exempting foreign corporations from the branch 
profits tax for the year in which it completely terminates its 
U.S. business conducted in branch form. The exemption from the 
branch profits tax generally applies if, among other things, 
for three years after the termination of the U.S. branch, the 
foreign corporation has no income effectively connected with a 
U.S. trade or business, and the U.S. assets of the terminated 
branch are not used by the foreign corporation or a related 
corporation in a U.S. trade or business.
      Regulations under section 367(e) provide that the 
Commissioner may require a domestic liquidating corporation to 
recognize gain on distributions in liquidation made to a 
foreign corporation if a principal purpose of the liquidation 
is the avoidance of U.S. tax. Avoidance of U.S. tax for this 
purpose includes, but is not limited to, the distribution of a 
liquidating corporation's earnings and profits with a principal 
purpose of avoiding U.S. tax.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment generally would treat as a dividend 
any distribution of earnings by a U.S. holding company to a 
foreign corporation in a complete liquidation, if the U.S. 
holding company was in existence for less than five years
      Effective date.--The Senate amendment would be effective 
for liquidations and terminations occurring on or after the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

23. Lease term to include certain service contracts (sec. 373 of the 
        Senate amendment and sec. 168 of the Code)

                              PRESENT LAW

      Under present law, ``tax-exempt use property'' must be 
depreciated on a straight-line basis over a recovery period 
equal to the longer of the property's class life or 125 percent 
of the lease term.\312\ For purposes of this rule, ``tax-exempt 
use property'' is property that is leased (other than under a 
short-term lease) to a tax-exempt entity.\313\ For this 
purpose, the term ``tax-exempt entity'' includes Federal, state 
and local governmental units, charities, and, foreign entities 
or persons.\314\
---------------------------------------------------------------------------
    \312\ Sec. 168(g)(3)(A).
    \313\ Sec. 168(h)(1).
    \314\ Sec. 168(h)(2).
---------------------------------------------------------------------------
      In determining the length of the lease term for purposes 
of the 125 percent calculation, a number of special rules 
apply. In addition to the stated term of the lease, the lease 
term includes: (1) any additional period of time in the 
realistic contemplation of the parties at the time the property 
is first put in service; (2) any additional period of time for 
which either the lessor or lessee has the option to renew the 
lease (whether or not it is expected that the option will be 
exercised); (3) any additional period of any successive leases 
which are part of the same transaction (or series of related 
transactions) with respect to the same or substantially similar 
property; and (4) any additional period of time (even if the 
lessee may not continue to be the lessee during that period), 
if the lessee (a) has agreed to make a payment in the nature of 
rent with respect to such period or (b) has assumed or retained 
any risk of loss with respect to such property for such period.
      Tax-exempt use property does not include property that is 
used by a taxpayer to provide a service to a tax-exempt entity. 
So long as the relationship between the parties is a bona fide 
service contract, the taxpayer will be allowed to depreciate 
the property used in satisfying the contract under normal MACRS 
rules, rather than the rules applicable to tax-exempt use 
property.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment requires lessors of tax-exempt use 
property to include the term of optional service contracts and 
other similar arrangements in the lease term for purposes of 
determining the recovery period.
      Effective date.--The Senate amendment provision is 
effective for leases and other similar arrangements entered 
into after the date of enactment. No inference is intended with 
respect to the tax treatment of leases and other similar 
arrangements entered into before such date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

24. Exclusion of like-kind exchange property from nonrecognition 
        treatment on the sale or exchange of a principal residence 
        (sec. 374 of the Senate amendment and sec. 121 of the Code)

                              PRESENT LAW

      Under present law, a taxpayer may exclude up to $250,000 
($500,000 if married filing a joint return) of gain realized on 
the sale or exchange of a principal residence.\315\ To be 
eligible for the exclusion, the taxpayer must have owned and 
used the residence as a principal residence for at least two of 
the five years prior to the sale or exchange. A taxpayer who 
fails to meet these requirements by reason of a change of place 
of employment, health, or, to the extent provided under 
regulations, unforeseen circumstances is able to exclude an 
amount equal to the fraction of the $250,000 ($500,000 if 
married filing a joint return) that is equal to the fraction of 
the two years that the ownership and use requirements are met. 
There are no special rules relating to the sale or exchange of 
a principal residence that was acquired in a like-kind exchange 
within the prior five years.
---------------------------------------------------------------------------
    \315\ Sec. 121.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides that the exclusion for gain 
on the sale or exchange of a principal residence does not apply 
if the principal residence was acquired in a like-kind exchange 
in which any gain was not recognized within the prior five 
years.
      Effective date.--The Senate amendment provision is 
effective for sales or exchanges of principal residences after 
the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                          F. Other Provisions


1. Temporary State and local fiscal relief (sec. 381 of the Senate 
        amendment)

                              PRESENT LAW

      No provision.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends relief to States by 
establishing a temporary fund to provide $10 billion, divided 
among State and local governments, to be used for health care, 
education or job training; transportation or infrastructure; 
law enforcement or public safety; and other essential 
governmental services, and $10 billion for Medicaid (FMAP).
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement provides relief to States by 
establishing a temporary fund to provide $10 billion divided 
among the States to be used for essential government services, 
and $10 billion for Medicaid (FMAP). Nothing in this subsection 
shall be construed to preclude consideration of reforms to 
improve the Medicaid program.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

2. Review of State agency blindness and disability determinations (sec. 
        382 of the Senate amendment)

                              PRESENT LAW

      State agencies are required to conduct blindness and 
disability determinations to establish an individual's 
eligibility for: (1) Title II (Federal Old-Age, Survivors, and 
Disability Insurance (OASDI) benefits); and (2) Title XVI 
(Supplemental Security Income (SSI)). Disability determinations 
are made in accordance with disability criteria defined in 
statute as well as standards promulgated under regulations or 
other guidance.
      Under present law, the Commissioner of Social Security is 
required to review the State agencies' Title II initial 
blindness and disability determinations in advance of awarding 
payment to individuals determined eligible. This requirement 
for review is met when: (1) at least 50 percent of all such 
determinations have been reviewed, or (2) other such 
determinations have been reviewed as necessary to ensure a high 
level of accuracy. Under present law, there is no similar 
review for Title XVI.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the initial review 
requirements for Title XVI SSI blindness and disability 
determinations with those currently required under Title II.
      Effective date.--The Senate amendment provision is 
effective on October 1, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Prohibition on use of SCHIP funds to provide coverage for childless 
        adults (sec. 383 of the Senate amendment)

                              PRESENT LAW

      Title XXI of the Social Security Act provides states with 
allocations to provide health insurance for children through 
State Children Health Insurance Program (SCHIP). In this 
statute, Congress specified that SCHIP allocations could only 
be used ``to enable [States] to initiate and expand the 
provision of child health assistance to uninsured, low-income 
children in an effective and efficient manner.'' \316\
---------------------------------------------------------------------------
    \316\ Social Security Act section 2101(a).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment clarifies that SCHIP funds cannot be 
used for childless adults.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Increase Medicaid payments to states with extremely low 
        disproportionate share hospitals (sec. 384 of the Senate 
        amendment)

                              PRESENT LAW

      Since 1981, States have been required to recognize, in 
establishing their Medicaid payment rates, the situation of 
hospitals that serve a disproportionate number of Medicaid 
beneficiaries and low-income patients. These hospitals are 
known as Disproportionate Share Hospitals (``DSH''). In States 
defined as extremely low DSH States, DSH payments are 
statutorily capped at one percent.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment increases the one percent cap on 
Medicaid payments to States defined as extremely low DSH 
States. The amendment increases that cap to three percent for 
fiscal year 2004. Twenty states benefit from this provision.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment for payments made in fiscal 
year 2004.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

             VI. Small Business and Agricultural Provisions


                      A. Small Business Provisions


1. Exclusion of certain indebtedness of small business investment 
        companies from acquisition indebtedness (sec. 401 of the bill 
        and sec. 514 of the Code)

                              PRESENT LAW

      In general, an organization that is otherwise exempt from 
Federal income tax is taxed on income from a trade or business 
that is unrelated to the organization's exempt purposes. 
Certain types of income, such as rents, royalties, dividends, 
and interest, generally are excluded from unrelated business 
taxable income except when such income is derived from ``debt-
financed property.'' Debt-financed property generally means any 
property that is held to produce income and with respect to 
which there is acquisition indebtedness at any time during the 
taxable year.
      In general, income of a tax-exempt organization that is 
produced by debt-financed property is treated as unrelated 
business income in proportion to the acquisition indebtedness 
on the income-producing property. Acquisition indebtedness 
generally means the amount of unpaid indebtedness incurred by 
an organization to acquire or improve the property and 
indebtedness that would not have been incurred but for the 
acquisition or improvement of the property.\317\ Acquisition 
indebtedness does not include, however, (1) certain 
indebtedness incurred in the performance or exercise of a 
purpose or function constituting the basis of the 
organization's exemption, (2) obligations to pay certain types 
of annuities, (3) an obligation, to the extent it is insured by 
the Federal Housing Administration, to finance the purchase, 
rehabilitation, or construction of housing for low and moderate 
income persons, or (4) indebtedness incurred by certain 
qualified organizations to acquire or improve real property. An 
extension, renewal, or refinancing of an obligation evidencing 
a pre-existing indebtedness is not treated as the creation of a 
new indebtedness.
---------------------------------------------------------------------------
    \317\ Special rules apply in the case of an exempt organization 
that owns a partnership interest in a partnership that holds debt-
financed income-producing property. An exempt organization's share of 
partnership income that is derived from such debt-financed property 
generally is taxed as debt-financed income unless an exception provides 
otherwise.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision modifies the debt-financed 
property provisions by excluding from the definition of 
acquisition indebtedness any indebtedness incurred by a small 
business investment company licensed under the Small Business 
Investment Act of 1958 that is evidenced by a debenture (1) 
issued by such company under section 303(a) of said Act, or (2) 
held or guaranteed by the Small Business Administration.
      Effective date.--The Senate amendment provision applies 
to debt incurred after December 31, 2002, by a small business 
investment company described in the provision, with respect to 
property acquired by such company after such date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Repeal of occupational taxes relating to distilled spirits, wine, 
        and beer (sec. 402 of the Senate amendment and secs. 5081, 
        5091, 5111, 5121, 5131, and 5276 of the Code)

                              PRESENT LAW

      Under present law, special occupational taxes are imposed 
on producers and others engaged in the marketing of distilled 
spirits, wine, and beer. These excise taxes are imposed as part 
of a broader Federal tax and regulatory engine governing the 
production and marketing of alcoholic beverages. The special 
occupational taxes are payable annually, on July 1 of each 
year. The present tax rates are as follows:

Producers \318\:
---------------------------------------------------------------------------
    \318\ A reduced rate of tax in the amount of $500.00 is imposed on 
small proprietors (secs. 5081(b) and 5091(b)).
---------------------------------------------------------------------------
      Distilled spirits and wines (sec. 5081)--$1,000 per year, 
per premise.
      Brewers (sec. 5091)--$1,000 per year, per premise.
Wholesale dealers (sec. 5111): Liquors, wines, or beer--$500 
        per year.
Retail dealers (sec. 5121): Liquors, wines, or beer--$250 per 
year.
Nonbeverage use of distilled spirits (sec. 5131)--$500 per 
year.
Industrial use of distilled spirits (sec. 5276)--$250 per year.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The special occupational taxes on producers and marketers 
of alcoholic beverages are repealed. The recordkeeping and 
inspection authorities applicable to wholesalers and retailers 
are retained. For purposes of the recordkeeping requirements 
for wholesale and retail liquordealers, the provision provides 
a rebuttable presumption that a person who sells, or offers for sale, 
distilled spirits, wine, or beer, in quantities of 20 wine gallons or 
more to the same person at the same time is engaged in the business of 
a wholesale dealer in liquors or a wholesale dealer in beer. In 
addition, the provision retains present-law in that it continues to 
make it unlawful for any liquor dealer to purchase distilled spirits 
for resale from any person other than a wholesale liquor dealer subject 
to the recordkeeping requirements. Existing general criminal penalties 
relating to records and reports apply to wholesalers and retailers who 
fail to comply with these requirements.
      Effective date.--The Senate amendment provision is 
effective on July 1, 2003. The provision does not affect 
liability for taxes imposed with respect to periods before July 
1, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Custom gunsmiths (sec. 403 of the Senate amendment and sec. 4182 of 
        the Code)

                              PRESENT LAW

      The Code imposes an excise tax upon the sale by the 
manufacturer, producer or importer of certain firearms and 
ammunition (sec. 4181). Pistols and revolvers are taxable at 10 
percent. Firearms (other than pistols and revolvers), shells, 
and cartridges are taxable at 11 percent. The excise tax for 
firearms imposed on manufacturers, producers, and importers 
does not apply to machine guns and short barreled firearms 
(sec. 4182(a)). Sales of firearms, pistols, revolvers, shells 
and cartridges to the Department of Defense also are exempt 
from the tax (sec. 4182(b)).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment exempts from the firearms excise tax 
articles manufactured, produced, or imported by a person who 
manufactures, produces, and imports less than 50 of such 
articles during the calendar year. Controlled groups are 
treated as a single person in determining the 50-article limit.
      Effective date.--The Senate amendment provision is 
effective for articles sold by the manufacturer, producer, or 
importer on or before the date the first day of the month 
beginning at least two weeks after the date of enactment. No 
inference is intended from the prospective effective date of 
this provision as to the proper treatment of pre-effective date 
sales.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Simplification of excise tax imposed on bows and arrows (sec. 404 of 
        the Senate amendment and sec. 4161 of the Code)

                              PRESENT LAW

      The Code imposes an excise tax of 11 percent on the sale 
by a manufacturer, producer or importer of any bow with a draw 
rate of 10 pounds or more (sec. 4161(b)(1)(A)). An excise tax 
of 12.4 percent is imposed on the sale by a manufacturer or 
importer of any shaft, point, nock, or vane designed for use as 
part of an arrow which after its assembly (1) is over 18 inches 
long, or (2) is designed for use with a taxable bow (if shorter 
than 18 inches) (sec. 4161(b)(2)). No tax is imposed on 
finished arrows. An 11-percent excise tax also is imposed on 
any part of an accessory for taxable bows and on quivers for 
use with arrows (1) over 18 inches long or (2) designed for use 
with a taxable bow (if shorter than 18 inches) (sec. 
4161(b)(1)(B)).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment increases the minimum draw weight 
for a taxable bow from 10 pounds to 30 pounds. The Senate 
amendment also imposes an excise tax of 12 percent on arrows 
generally. An arrow for this purpose is defined as an arrow 
shaft to which additional components are attached. The present 
law 12.4-percent excise tax on certain arrow components is 
unchanged by the provision. The Senate amendment provides that 
the 12-percent excise tax on arrows does not apply if the arrow 
contains an arrow shaft that was subject to the tax on arrow 
components. Finally, the Senate amendment subjects certain 
broadheads (a type of arrow point) to an excise tax equal to 11 
percent of the sales price instead of 12.4 percent.
      Effective date.--The Senate amendment provision is 
effective on the date of enactment for articles sold by the 
manufacturer, producer, or importer.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                       B. Agricultural Provisions


1. Capital gains treatment to apply to outright sales of timber by 
        landowner (sec. 411 of the Senate Amendment and sec. 631 of the 
        Code)

                              PRESENT LAW

      Under present law, a taxpayer disposing of timber held 
for more than one year is eligible for capital gains treatment 
in three situations. First, if the taxpayer sells or exchanges 
timber that is a capital asset (sec. 1221) or property used in 
the trade or business (sec. 1231), the gain generally is long-
term capital gain; however, if the timber is held for sale to 
customers in the taxpayer's business, the gain will be ordinary 
income. Second, if the taxpayer disposes of the timber with a 
retained economic interest, the gain is eligible for capital 
gain treatment (sec. 631(b)). Third, if the taxpayer cuts 
standing timber, the taxpayer may elect to treat the cutting as 
a sale or exchange eligible for capital gains treatment (sec. 
631(a)).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, in the case of a sale of 
timber by the owner of the land from which the timber is cut, 
the requirement that a taxpayer retain an economic interest in 
the timber in order to treat gains as capital gain under 
section 631(b) does not apply. Outright sales of timber by the 
landowner will qualify for capital gains treatment in the same 
manner as sales with a retained economic interest qualify under 
present law, except that the usual tax rules relating to the 
timing of the income from the sale of the timber will apply 
(rather than the special rule of section 631(b) treating the 
disposal as occurring on the date the timber is cut).
      Effective date.--The Senate amendment provision is 
effective for sales of timber after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not contain the provision 
in the Senate amendment.

2. Special rules for livestock sold on account of weather-related 
        conditions (sec. 412 of the Senate amendment and secs. 1033 and 
        451 of the Code)

                              PRESENT LAW

      A taxpayer generally recognizes gain on the sale of 
property to the extent the sales price (and any other 
consideration received) exceeds the seller's basis in the 
property. The recognized gain is subject to current income tax 
unless the gain is deferred or not recognized under a special 
tax provision.
      Under section 1033, gain realized by a taxpayer from an 
involuntary conversion of property is deferred to the extent 
the taxpayer purchases property similar or related in service 
or use to the converted property within the applicable period. 
The taxpayer's basis in the replacement property generally is 
the same as the taxpayer's basis in the converted property, 
decreased by the amount of any money or loss recognized on the 
conversion, and increased by the amount of any gain recognized 
on the conversion.
      The applicable period for the taxpayer to replace the 
converted property begins with the date of the disposition of 
the converted property (or if earlier, the earliest date of the 
threat or imminence of requisition or condemnation of the 
converted property) and ends two years after the close of the 
first taxable year in which any part of the gain upon 
conversion is realized (the ``replacement period''). Special 
rules extend the replacement period for certain real property 
and principal residences damaged by a Presidentially declared 
disaster to three years and four years, respectively, after the 
close of the first taxable year in which gain is realized.
      Section 1033(e) provides that the sale of livestock 
(other than poultry) that is held for draft, breeding, or dairy 
purposes in excess of the number of livestock that would have 
been sold but for drought, flood, or other weather-related 
conditions is treated as an involuntary conversion. 
Consequently, gain from the sale of such livestock could be 
deferred by reinvesting the proceeds of the sale in similar 
property within a two-year period.
      In general, cash-method taxpayers report income in the 
year it is actually or constructively received. However, 
section 451(e) provides that a cash-method taxpayer whose 
principal trade or business is farming who is forced to sell 
livestock due to drought, flood, or other weather-related 
conditions may elect to include income from the sale of the 
livestock in the taxable year following the taxable year of the 
sale. This elective deferral of income is available only if the 
taxpayer establishes that, under the taxpayer's usual business 
practices, the sale would not have occurred but for drought, 
flood, or weather-related conditions that resulted in the area 
being designated as eligible for Federal assistance. This 
exception is generally intended to put taxpayers who receive an 
unusually high amount of income in one year in the position 
they would have been in absent the weather-related condition.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the applicable period for a 
taxpayer to replace livestock sold on account of drought, 
flood, or other weather-related conditions from two years to 
four years after the close of the first taxable year in which 
any part of the gain on conversion is realized. The extension 
is only available if the taxpayer establishes that, under the 
taxpayer's usual business practices, the sale would not have 
occurred but for drought, flood, or weather-related conditions 
that resulted in the area being designated as eligible for 
Federal assistance. In addition, the Secretary of the Treasury 
is granted authority to further extend the replacement period 
on a regional basis should the weather-related conditions 
continue longer than three years. For property eligible for the 
provision's extended replacement period, the provision provides 
thatthe taxpayer can make an election under section 451(e) 
until the period for reinvestment of such property under section 1033 
expires.
      Effective date.--The Senate amendment provision is 
effective for any taxable year with respect to which the due 
date (without regard to extensions) for the return is after 
December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Exclusion from gross income for amounts paid under National Health 
        Service Corps loan repayment program (sec. 413 of the Senate 
        amendment and sec. 108 of the Code)

                              PRESENT LAW

      The National Health Service Corps Loan Repayment Program 
(the ``NHSC Loan Repayment Program'') provides loan repayments 
to participants on condition that the participants provide 
certain services. In the case of the NHSC Loan Repayment 
Program, the recipient of the loan repayment is obligated to 
provide medical services in a geographic area identified by the 
Public Health Service as having a shortage of health-care 
professionals. Loan repayments may be as much as $35,000 per 
year of service plus a tax assistance payment of 39 percent of 
the repayment amount.
      Generally, gross income means all income from whatever 
source derived including income for the discharge of 
indebtedness. However, gross income does not include discharge 
of indebtedness income if: (1) the discharge occurs in a Title 
11 case; (2) the discharge occurs when the taxpayer is 
insolvent; (3) the indebtedness discharged is qualified farm 
indebtedness; or (4) except in the case of a C corporation, the 
indebtedness discharged is qualified real property business 
indebtedness.
      Because the loan repayments provided under the NHSC Loan 
Repayment Program are not specifically excluded from gross 
income, they are gross income to the recipient.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision excludes from gross income 
loan repayments provided under the NHSC Loan Repayment Program.
      Effective date.--The Senate amendment provision is 
effective with respect to amounts received by an individual in 
taxable years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The Conference agreement does not include the Senate 
amendment provision.

4. Payment of dividends on stock of cooperatives without reducing 
        patronage dividends (sec. 414 of the Senate amendment and sec. 
        1388 of the Code)

                              PRESENT LAW

      Under present law, cooperatives generally are entitled to 
deduct or exclude amounts distributed as patronage dividends in 
accordance with Subchapter T of the Code. In general, patronage 
dividends are comprised of amounts that are paid to patrons (1) 
on the basis of the quantity or value of business done with or 
for patrons, (2) under a valid and enforceable obligation to 
pay such amounts that was in existence before the cooperative 
received the amounts paid, and (3) which are determined by 
reference to the net earnings of the cooperative from business 
done with or for patrons.
      Treasury Regulations provide that net earnings are 
reduced by dividends paid on capital stock or other proprietary 
capital interests (referred to as the ``dividend allocation 
rule'').\319\ The dividend allocation rule has been interpreted 
to require that such dividends be allocated between a 
cooperative's patronage and nonpatronage operations, with the 
amount allocated to the patronage operations reducing the net 
earnings available for the payment of patronage dividends.
---------------------------------------------------------------------------
    \319\ Treas. Reg. sec. 1.1388-1(a)(1).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides a special rule for 
dividends on capital stock of a cooperative. To the extent 
provided in organizational documents of the cooperative, 
dividends on capital stock do not reduce patronage income and 
do not prevent the cooperative from being treated as operating 
on a cooperative basis.
      Effective date.--The Senate amendment provision is 
effective for distributions made in taxable years ending after 
the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                VII. Simplification and Other Provisions


   A. Establish Uniform Definition of a Qualifying Child (Secs. 501 
 Through 508 of the Senate Amendment 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; (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 \320\
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    \320\ Secs. 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.
---------------------------------------------------------------------------
            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.\321\
---------------------------------------------------------------------------
    \321\ Sec. 151(d)(3).
---------------------------------------------------------------------------
      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; \322\ and (5) did not file a 
joint return with his or her spouse for the year.\323\ In 
addition, the taxpayer identification number of the individual 
must be included on the taxpayer's return.
---------------------------------------------------------------------------
    \322\ 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).
    \323\ This 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.
---------------------------------------------------------------------------
            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, brother-in-
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) 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.\324\ 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.\325\ 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.\326\ 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.\327\
---------------------------------------------------------------------------
    \324\ Treas. Reg. sec. 1.152-1(b).
    \325\ Id.
    \326\ Id.
    \327\ Rev. Rul. 66-28, 1966-1 C.B. 31.
---------------------------------------------------------------------------
            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.\328\ 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.
---------------------------------------------------------------------------
    \328\ 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).
---------------------------------------------------------------------------
      Multiple support agreements.--In some cases, no one 
taxpayer provides more than one half of the support of an 
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 individually 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.\329\ 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.\330\
---------------------------------------------------------------------------
    \329\ For 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).
    \330\ Special support rules also apply in the case of certain pre-
1985 agreements between divorced or legally separated parents. Sec. 
152(e)(4).
---------------------------------------------------------------------------
            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.\331\ 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.\332\ 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).
---------------------------------------------------------------------------
    \331\ 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).
    \332\ Sec. 151(c).
---------------------------------------------------------------------------

Earned income credit \333\
---------------------------------------------------------------------------

    \333\ Sec. 32.
---------------------------------------------------------------------------
            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;\334\ (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 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.\335\
---------------------------------------------------------------------------
    \334\ 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).
    \335\ Sec. 32(c)(3)(B)(ii).
---------------------------------------------------------------------------
            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.\336\ 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.\337\ Under the earned income credit, there is no 
requirement that the taxpayer maintain the household in which 
the taxpayer and the qualifying individual reside.
---------------------------------------------------------------------------
    \336\ The 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).
    \337\ IRS Publication 596, Earned Income Credit (EIC), at 13. H. 
Rep. 101-964 (October 27, 1990), at 1037.
---------------------------------------------------------------------------
            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 \338\
---------------------------------------------------------------------------

    \338\ Sec. 24.
---------------------------------------------------------------------------
      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.\339\ 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 or resident of the United States.\340\ A portion of 
the child credit is refundable under certain 
circumstances.\341\
---------------------------------------------------------------------------
    \339\ 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).
    \340\ The 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).
    \341\ Sec. 24(d).
---------------------------------------------------------------------------

Dependent care credit \342\
---------------------------------------------------------------------------

    \342\ Sec. 21.
---------------------------------------------------------------------------
      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,\343\ 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.
---------------------------------------------------------------------------
    \343\ 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.
---------------------------------------------------------------------------
      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.\344\ 
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.
---------------------------------------------------------------------------
    \344\ Sec. 21(e)(5).
---------------------------------------------------------------------------

Head of household filing status \345\
---------------------------------------------------------------------------

    \345\ Sec. 2(b).
---------------------------------------------------------------------------
      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 dependency 
exemption.\346\ 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.
---------------------------------------------------------------------------
    \346\ Sec. 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.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Description of provision

            In general
      The Senate amendment 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 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 Senate amendment provision 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.
      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 Senate amendment 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 Senate 
amendment 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 
placed with the taxpayer by an authorized placement agency for 
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.\347\
---------------------------------------------------------------------------
    \347\ The 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.
---------------------------------------------------------------------------
            Age test
      Under the Senate amendment 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.\348\ 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 
Senate amendment 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.
---------------------------------------------------------------------------
    \348\ The provision retains the present-law definition of full-time 
student set forth in section 151(c)(4).
---------------------------------------------------------------------------
            Children who support themselves
      Under the Senate amendment 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 
Senate amendment 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.
            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 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.\349\ 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.
---------------------------------------------------------------------------
    \349\ Individuals who satisfy the present-law dependency tests and 
who are not qualifying children are referred to as ``qualifying 
relatives'' under the provision.
---------------------------------------------------------------------------
      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 Senate amendment 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 Senate amendment 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 Senate amendment 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 Senate amendment 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 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 Senate amendment provision on particular tax benefits

            Dependency exemption
      For purposes of the dependency exemption, the Senate 
amendment 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 Senate amendment 
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 Senate amendment provision 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 Senate amendment 
provision. Further, an individual shall not be treated as a 
dependent of a taxpayer if such individual has filed a joint 
return with the individual's spouse for the taxable year.
            Earned income credit
      In general, the Senate amendment 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 Senate amendment 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 Senate amendment 
provision retains the present-law requirement that the child 
must be under age 17, regardless of whether the child is 
disabled.
            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 Senate amendment provision, a taxpayer 
qualifies for head of household filing status with respect to a 
child who is a qualifying child as defined under the Senate 
amendment 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 Senate amendment 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 Senate amendment provision retains the present-law 
requirement that the taxpayer provide over one half the cost of 
maintaining the household.

Effective date

      The Senate amendment provision is effective for taxable 
years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                   B. Other Simplification Provisions


1. Consolidation of life insurance and nonlife companies (sec. 511 of 
        the Senate amendment and sec. 1504 of the Code)

                              PRESENT LAW

      Under present law, an affiliated group of corporations 
means one or more chains of includible corporations connected 
through stock ownership with a common parent corporation (sec. 
1504(a)(1)). The stock ownership requirement consists of an 80-
percent voting and value test. In general, an affiliated group 
of corporations may file a consolidated tax return for Federal 
income tax purposes.
      Life insurance companies (subject to tax under section 
801) generally are not treated as includible corporations, and 
therefore may not be included in a consolidated return of an 
affiliated group including nonlife-insurance companies, unless 
the common parent of the group elects to treat the life 
insurance companies as includible corporations (sec. 
1504(c)(2)).
      Under the election to treat life insurance companies as 
includible corporations of an affiliated group, two special 5-
year limitation rules apply. The first 5-year rule provides 
that a life insurance company may not be treated as an 
includible corporation until it has been a member of the group 
for the 5 taxable years immediately preceding the taxable year 
for which the consolidated return is filed (sec. 1504(c)(2)). 
The second 5-year rule provides that any net operating loss of 
a nonlife-insurance member of the group may not offset the 
taxable income of a life insurance member for any of the first 
5 years the life and nonlife-insurance corporations have been 
members of the same affiliated group (sec. 1503(c)(2)). This 
rule applies to nonlife losses for the current taxable year or 
as a carryover or carryback.
      A separate 35-percent limitation also applies under the 
election to treat life insurance companies as includible 
corporations of an affiliated group (sec. 1503(c)(1)). This 
rule provides that if the non-life-insurance members of the 
group have a net operating loss, then the amount of the loss 
that is not absorbed by carrybacks against the nonlife-
insurance members' income may offset the life insurance 
members' income only to the extent of the lesser of: (1) 35 
percent of the amount of the loss; or (2) 35 percent of the 
life insurance members' taxable income. The unused portion of 
the loss is available as a carryover and is added to 
subsequent-year losses, subject to the same 35-percent 
limitation.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision repeals the 5-year 
limitation providing that a life insurance company may not be 
treated as an includible corporation until it has been a member 
of the group for the 5 taxable years immediately preceding the 
taxable year for which the consolidated return is filed (sec. 
1504(c)(2)). The provision also repeals the rule that a life 
insurance corporation is not an includible corporation unless 
the common parent makes an election to treat life insurance 
companies as includible corporations (sec. 1504(c)(1)). Thus, 
under the provision, a life insurance company is treated as an 
includible corporation starting with the first taxable year for 
which it becomes a member of the affiliated group and otherwise 
meets the definition of an includible corporation. The 
provision retains the 5-year rule of section 1503(c)(2), as 
well as the 35-percent limitation of present-law section 
1503(c)(1) with respect to any life insurance company that is 
an includible corporation of an affiliated group.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2009. 
No affiliated group terminates solely by reason of the 
provision. Under regulations, the provision waives the 5-year 
waiting period for reconsolidation under section 1504(a)(3), in 
the case of any corporation that was previously an includible 
corporation, but was subsequently deemed not to be an 
includible corporation as a result of becoming a subsidiary of 
a corporation that was not an includible corporation solely by 
reason of the 5-year rule of section 1504(c)(2) (providing that 
a life insurance company may not be treated as an includible 
corporation until it has been a member of the group for the 5 
taxable years immediately preceding the taxable year for which 
the consolidated return is filed).

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Suspension of reduction of deductions for mutual life insurance 
        companies and of policyholder surplus accounts of life 
        insurance companies (sec. 512 of the Senate amendment and secs. 
        809 and 815 of the Code)

                              PRESENT LAW

Reduction in deductions for policyholder dividends and reserves of 
        mutual life insurance companies (sec. 809)

      In general, a corporation may not deduct amounts 
distributed to shareholders with respect to the corporation's 
stock. The Deficit Reduction Act of 1984 added a provision to 
the rules governing insurance companies that was intended to 
remedy the failure of prior law to distinguish between amounts 
returned by mutual life insurance companies to policyholders as 
customers, and amounts distributed to them as owners of the 
mutual company.
      Under the provision, section 809, a mutual life insurance 
company is required to reduce its deduction for policyholder 
dividends by the company's differential earnings amount. If the 
company's differential earnings amount exceeds the amount of 
its deductible policyholder dividends, the company is required 
to reduce its deduction for changes in its reserves by the 
excess of its differential earnings amount over the amount of 
its deductible policyholder dividends. The differential 
earnings amount is the product of the differential earnings 
rate and the average equity base of a mutual life insurance 
company.
      The differential earnings rate is based on the difference 
between the average earnings rate of the 50 largest stock life 
insurance companies and the earnings rate of all mutual life 
insurance companies. The mutual earnings rate applied under the 
provision is the rate for the secondcalendar year preceding the 
calendar year in which the taxable year begins. Under present law, the 
differential earnings rate cannot be a negative number.
      A company's equity base equals the sum of: (1) its 
surplus and capital increased by 50 percent of the amount of 
any provision for policyholder dividends payable in the 
following taxable year; (2) the amount of its nonadmitted 
financial assets; (3) the excess of its statutory reserves over 
its tax reserves; and (4) the amount of any mandatory security 
valuation reserves, deficiency reserves, and voluntary 
reserves. A company's average equity base is the average of the 
company's equity base at the end of the taxable year and its 
equity base at the end of the preceding taxable year.
      A recomputation or ``true-up'' in the succeeding year is 
required if the differential earnings amount for the taxable 
year either exceeds, or is less than, the recomputed 
differential earnings amount. The recomputed differential 
earnings amount is calculated taking into account the average 
mutual earnings rate for the calendar year (rather than the 
second preceding calendar year, as above). The amount of the 
true-up for any taxable year is added to, or deducted from, the 
mutual company's income for the succeeding taxable year.
      For a mutual life insurance company's taxable years 
beginning in 2001, 2002, or 2003, the differential earnings 
rate is treated as zero for purposes of computing both the 
differential earnings amount and the recomputed differential 
earnings amount (true-up).

Distributions to shareholders from policyholders surplus account (sec. 
        815)

      Under the law in effect from 1959 through 1983, a life 
insurance company was subject to a three-phase taxable income 
computation under Federal tax law. Under the three-phase 
system, a company was taxed on the lesser of its gain from 
operations or its taxable investment income (Phase I) and, if 
its gain from operations exceeded its taxable investment 
income, 50 percent of such excess (Phase II). Federal income 
tax on the other 50 percent of the gain from operations was 
deferred, and was accounted for as part of a policyholder's 
surplus account and, subject to certain limitations, taxed only 
when distributed to stockholders or upon corporate dissolution 
(Phase III). To determine whether amounts had been distributed, 
a company maintained a shareholders surplus account, which 
generally included the company's previously taxed income that 
would be available for distribution to shareholders. 
Distributions to shareholders were treated as being first out 
of the shareholders surplus account, then out of the 
policyholders surplus account, and finally out of other 
accounts.
      The Deficit Reduction Act of 1984 included provisions 
that, for 1984 and later years, eliminated further deferral of 
tax on amounts (described above) that previously would have 
been deferred under the three-phase system. Although for 
taxable years after 1983, life insurance companies may not 
enlarge their policyholders surplus account, the companies are 
not taxed on previously deferred amounts unless the amounts are 
treated as distributed to shareholders or subtracted from the 
policyholders surplus account (sec. 815).
      Under present law, any direct or indirect distribution to 
shareholders from an existing policyholders surplus account of 
a stock life insurance company is subject to tax at the 
corporate rate in the taxable year of the distribution. Present 
law provides that any distribution to shareholders is treated 
as made (1) first out of the shareholders surplus account, to 
the extent thereof, (2) then out of the policyholders surplus 
account, to the extent thereof, and (3) finally, out of other 
accounts.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Reduction in deductions for policyholder dividends and reserves of 
        mutual life insurance companies (sec. 809)

      The Senate amendment provision provides that for a mutual 
life insurance company's taxable years beginning after December 
31, 2003, and before January 1, 2009, the differential earnings 
rate is treated as zero for purposes of computing both the 
differential earnings amount and the recomputed differential 
earnings amount (true-up), under the rules requiring reduction 
in certain deductions of mutual life insurance companies (sec. 
809).

Distributions to shareholders from policyholders surplus account (sec. 
        815)

      The Senate amendment provision suspends for a life 
insurance company's taxable year beginning after December 31, 
2003, and before January 1, 2009, the application of the rules 
imposing income tax on distributions to shareholders from the 
policyholders surplus account of a life insurance company (sec. 
815). The Senate amendment provision also modifies the order in 
which distributions reduce the various accounts, so that 
distributions are treated as first made out of the 
policyholders surplus account, to the extent thereof, and then 
out of the shareholders surplus account, and lastly out of 
other accounts.
      Effective date.--The Senate amendment provisions relating 
to section 809 and section 815 are effective for taxable years 
beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provisions.

3. Section 355 ``active business test'' applied to chains of affiliated 
        corporations (sec. 513 of the Senate amendment and sec. 355 of 
        the Code)

                              PRESENT LAW

      A corporation generally is required to recognize gain on 
the distribution of property (including stock of a subsidiary) 
to its shareholders as if such property had been sold for its 
fair market value. An exception to this rule applies if the 
distribution of the stock of a controlled corporation satisfies 
the requirements of section 355 of the Code. To qualify for 
tax-free treatment under section 355, both the distributing 
corporation and the controlled corporation must be engaged 
immediately after the distribution in the active conduct of a 
trade or business that has been conducted for at least five 
years and was not acquired in a taxable transaction during that 
period.\350\ For this purpose, a corporation is engaged in the 
active conduct of a trade or business only if (1) the 
corporation is directly engaged in the active conduct of a 
trade or business, or (2) the corporation is not directly 
engaged in an active business, but substantially all of its 
assets consist of stock and securities of a corporation it 
controls that is engaged in the active conduct of a trade or 
business.\351\
---------------------------------------------------------------------------
    \350\ Section 355(b). If the distributing corporation had no assets 
other than stock or securities in the controlled corporations 
immediately before the distribution, then each of the controlled 
corporations must be engaged immediately after the distribution in the 
active conduct of a trade or business.
    \351\ Section 355(b)(2)(A).
---------------------------------------------------------------------------
      In determining whether a corporation satisfies the active 
trade or business requirement, the IRS position for advance 
ruling purposes is that the value of the gross assets of the 
trade or business being relied on must ordinarily constitute at 
least 5 percent of the total fair market value of the gross 
assets of the corporation directly conducting the trade or 
business.\352\ However, if the corporation is not directly 
engaged in an active trade or business, then the IRS takes the 
position that the ``substantially all'' test requires that at 
least 90 percent of the fair market value of the corporation's 
gross assets consist of stock and securities of a controlled 
corporation that is engaged in the active conduct of a trade or 
business.\353\
---------------------------------------------------------------------------
    \352\ Rev. Proc. 2003-3, sec. 4.01(30), 2003-1 I.R.B. 113.
    \353\ Rev. Proc. 96-30, sec. 4.03(5), 1996-1 C.B. 696; Rev. Proc. 
77-37, sec. 3.04, 1977-2 C.B. 568.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, the active business test is 
determined by reference to the relevant affiliated group. For 
the distributing corporation, the relevant affiliated group 
consists of the distributing corporation as the common parent 
and all corporations affiliated with the distributing 
corporation through stock ownership described in section 
1504(a)(1)(B) (regardless of whether the corporations are 
includible corporations under section 1504(b)). The relevant 
affiliated group for a controlled corporation is determined in 
a similar manner (with the controlled corporation as the common 
parent).
      Effective date.--The Senate amendment applies to 
distributions after the date of enactment, with three 
exceptions. The Senate amendment does not apply to 
distributions (1) made pursuant to an agreement which is 
binding on the date of enactment and at all times thereafter, 
(2) described in a ruling request submitted to the IRS on or 
before the date of enactment, or (3) described on or before the 
date of enactment in a public announcement or in afiling with 
the Securities and Exchange Commission. The distributing corporation 
may irrevocably elect not to have the exceptions described above apply.
      The Senate amendment also applies to any distribution 
prior to the date of enactment, but solely for the purpose of 
determining whether, after the date of enactment, the taxpayer 
continues to satisfy the requirements of section 
355(b)(2)(A).\354\
---------------------------------------------------------------------------
    \354\ For example, a holding company taxpayer that had distributed 
a controlled corporation in a spin-off prior to the date of enactment, 
in which spin-off the taxpayer satisfied the ``substantially all'' 
active business stock test of present law section 355(b)(2)(A) 
immediately after the distribution, would not be deemed to have failed 
to satisfy any requirement that it continue that same qualified 
structure for any period of time after the distribution, solely because 
of a restructuring that occurs after the date of enactment and that 
would satisfy the requirements of new section 355(b)(2)(A).
---------------------------------------------------------------------------

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                          C. Other Provisions


1. Civil rights tax relief (sec. 521 of the Senate amendment and sec. 
        62 of the Code)

                              PRESENT LAW

      Under present law, gross income generally does not 
include the amount of any damages (other than punitive damages) 
received (whether by suit or agreement and whether as lump sums 
or as periodic payments) by individuals on account of personal 
physical injuries (including death) or physical sickness.\355\ 
Expenses relating to recovering such damages are generally not 
deductible.\356\
---------------------------------------------------------------------------
    \355\ Sec. 104(a)(2).
    \356\ Sec. 265(a)(1).
---------------------------------------------------------------------------
      Other damages are generally included in gross income. The 
related expenses to recover the damages, including attorneys' 
fees, are generally deductible as expenses for the production 
of income,\357\ subject to the two-percent floor on itemized 
deductions.\358\ Thus, such expenses are deductible only to the 
extent the taxpayer's total miscellaneous itemized deductions 
exceed two percent of adjusted gross income. Any amount 
allowable as a deduction is subject to reduction under the 
overall limitation of itemized deductions if the taxpayer's 
adjusted gross income exceeds a threshold amount.\359\ For 
purposes of the alternative minimum tax, no deduction is 
allowed for any miscellaneous itemized deduction.
---------------------------------------------------------------------------
    \357\ Sec. 212.
    \358\ Sec. 67.
    \359\ Sec. 68.
---------------------------------------------------------------------------
      In some cases, claimants will engage an attorney to 
represent them on a contingent fee basis. That is, if the 
claimant recovers damages, a prearranged percentage of the 
damages will be paid to the attorney; if no damages are 
recovered, the attorney is not paid a fee. The proper tax 
treatment of contingent fee arrangements with attorneys has 
been litigated in recent years. Some courts \360\ have held 
that the entire amount of damages is income and that the 
claimant is entitled to a miscellaneous itemized deduction 
subject to both the two-percent floor as an expense for the 
production of income for the portion paid to the attorney and 
to the overall limitation on itemized deductions. Other courts 
have held that the portion of the recovery that is paid 
directly to the attorney is not income to the claimant, holding 
that the claimant has no claim of right to that portion of the 
recovery.\361\
---------------------------------------------------------------------------
    \360\ Kenseth v. Commissioner, 114 T.C. 399 (2000), aff'd 259 F.3d 
881 (7th Cir. 2001); Coady v. Commissioner, 213 F.3d 1187 (9th Cir. 
2000); Benci-Woodward v. Commissioner, 219 F.3d 941 (9th Cir. 2000); 
Baylin v. United States, 43 F.3d 1451 (Fed. Cir. 1995).
    \361\ Cotnam v. Commissioner, 263 F.2d 119 (5th Cir. 1959); Estate 
of Arthur Clarks v. United States, 202 F.3d 854 (6th Cir. 2000); 
Srivastava v. Commissioner, 220 F.3d 353 (5th Cir. 2000). In some of 
these cases, such as Cotnam, State law has been an important 
consideration in determining that the claimant has no claim of right to 
the recovery.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides an above-the-line deduction 
for attorneys' fees and costs paid by, or on behalf of, the 
taxpayer in connection with any action involving a claim of 
unlawful discrimination or certain claims against the Federal 
Government. The amount that may be deducted above-the-line may 
not exceed the amount includible in the taxpayer's gross income 
for the taxable year on account of a judgment or settlement 
(whether by suit or agreement and whether as lump sum or 
periodic payments) resulting from such claim.
      Under the Senate amendment, ``unlawful discrimination'' 
means an act that is unlawful under certain provisions of any 
of the following: the Civil Rights Act of 1991, the 
Congressional Accountability Act of 1995, the National Labor 
Relations Act, the Fair Labor Standards Act of 1938, the Age 
Discrimination in Employment Act of 1967, the Rehabilitation 
Act of 1973, the Employee Retirement Security Income Act of 
1974, the Education Amendments of 1972, the Employee Polygraph 
Protection Act of 1988, the Worker Adjustment and Retraining 
Notification Act, the Family and Medical Leave Act of 1993, 
chapter 43 of Title 38 of the United States Code, the Revised 
Statutes, the Civil Rights Act of 1964, the Fair Housing Act, 
the Americans with Disabilities Act of 1990, any provision of 
Federal law (popularly known as whistleblower protection 
provisions) prohibiting the discharge of an employee, 
discrimination against an employee, or any other form of 
retaliation or reprisal against an employee for asserting 
rights or taking other actions permitted under Federal law, or 
any provision of State or local law, or common law claims 
permitted under Federal, State, or local law providing for the 
enforcement of civil rights or regulating any aspect of the 
employment relationship, including prohibiting the discharge of 
an employee, discrimination against an employee, or any other 
form of retaliation or reprisal against an employee for 
asserting rights or taking other actions permitted by law.
      Effective date.--The Senate amendment is effective for 
fees and costs paid after the date of enactment with respect to 
any judgment or settlement occurring after such date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Increase section 382 limitation for certain corporations in 
        bankruptcy (sec. 522 of the Senate amendment and sec. 382 of 
        the Code)

                              PRESENT LAW

      If a corporation with net operating losses experiences an 
ownership change, then the annual amount of pre-change net 
operating loss carryovers that it may use against post-change 
income is limited. The basic annual post-change limit is the 
value of the corporation's stock at the time of the ownership 
change, multiplied by the long-term tax-exempt rate (prescribed 
by the Treasury department) applicable to the time of the 
change.
      In general, an ownership change occurs if, within a 
three-year period, there is a 50-percentage point increase in 
ownership by any one or more 5-percent shareholders. A special 
rule applies to bankruptcy situations. If a corporation is 
under the jurisdiction of a court in a title 11 or similar 
case, no ownership change will occur if the shareholders and 
creditors of the old loss corporation, as a result of owning 
stock or debt of the old corporation, own at least 50 percent 
of the stock of the new loss corporation. Only indebtedness 
held for at least 18 months prior to the date of filing the 
title 11 or similar case counts for this purpose. In effect, 
such ``old and cold'' creditors are treated as persons who had 
effectively become shareholders of the corporation prior to the 
ownership change, due to the impending bankruptcy of the 
corporation.
      If ``old and cold'' creditors dispose of their debt to 
new persons and those persons become shareholders as a result 
of owning that debt, the receipt of stock by those persons will 
be treated as the acquisition of stock by new shareholders, and 
can trigger an ownership change that causes the section 382 
limitation to apply.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      For a limited time period, the Senate amendment doubles 
the amount of the section 382 limitation applicable to 
corporations that experience an ownership change emerging from 
bankruptcy in a title 11 or similar case. The Senate amendment 
applies for a period of two taxable years to corporations that 
experience an ownership change in a title 11 or similar case 
after December 31, 2002.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning in 2004 and 2005.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Increase in historic rehabilitation credit for residential housing 
        for the elderly (sec. 523 of the Senate amendment and sec. 47 
        of the Code)

                              PRESENT LAW

Rehabilitation credit

      Present law provides a credit for rehabilitation 
expenditures (sec. 47). A 20-percent credit is provided for 
rehabilitation expenditures with respect to a certified 
historic structure. For this purpose, a certified historic 
structure means any building that is listed in the National 
Register, or that is located in a registered historic district 
and is certified by the Secretary of the Interior to the 
Secretary of the Treasury as being of historic significance to 
the district.
      A building is treated as having been substantially 
rehabilitated only if the rehabilitation expenditures during 
the 24-month period selected by the taxpayer and ending within 
the taxable year exceed the greater of the adjusted basis of 
the building (and its structural components), or $5,000. The 
taxpayer's depreciable basis in the property is reduced by any 
rehabilitation credit claimed.

Low-income housing credit

      The low-income housing tax credit (sec. 42) may be 
claimed over a 10-year period for the cost of rental housing 
occupied by tenants having incomes below specified levels. The 
credit percentage for newly constructed or substantially 
rehabilitated housing that is not Federally subsidized is 
adjusted monthly by the Internal Revenue Service so that the 10 
annual installments have a present value of 70 percent of the 
total qualified expenditures. The credit percentage for new 
substantially rehabilitated housing that is Federally 
subsidized and for existing housing that is substantially 
rehabilitated is calculated to have a present value of 30 
percent of qualified expenditures. The aggregate credit 
authority provided annually to each State is $1.75 per 
resident, except in the case of projects that also receive 
financing with proceeds of tax-exempt bonds issued subject to 
the private activity bond volume limit and certain carry-over 
amounts. The $1.75 per resident cap is indexed for inflation.
      Qualified basis with respect to which the credit may be 
computed is generally determined as the portion of the eligible 
basis of the qualified low-income building attributable to the 
low-income rental units. Qualified basis generally is the 
taxpayer's depreciable basis in a qualified low-income 
building. In the case of a taxpayer who claims the 
rehabilitation credit for a qualified low-income building, the 
taxpayer's depreciable basis in the building is reduced by the 
amount of the rehabilitation credit claimed. In addition, 
eligible basis is reduced by any Federal grant received with 
respect to the building. A qualified low-income building is a 
building that meets certain compliance criteria and is 
depreciable under the modified accelerated cost recovery system 
(``MACRS'').

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment increases the present-law 20-percent 
credit for historic rehabilitation expenses to 25 percent in 
the case of rehabilitation expenses incurred with respect to a 
building which is also a low-income housing credit property in 
which substantially all of the tenants, both those tenants in 
rent-restricted units and in other residential units, are age 
65 or greater. The Senate amendment permits the 25-percent 
rehabilitation credit to be claimed with respect to all parts 
of the building, not only those parts on which the taxpayer 
also claims the low-income housing credit.\362\
---------------------------------------------------------------------------
    \362\ The Senate amendment also repeals a transition rule to the 
Tax Reform Act of 1986 permitting the taxpayers who own the property 
described in sec. 251(d)(4)(X) of the Tax Reform Act of 1986 to use 
ACRS depreciation, in lieu of MACRS depreciation. This change enables 
such property to qualify for the provision.
---------------------------------------------------------------------------
      Effective date.--The Senate amendment provision is 
effective for property placed in service after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

4. Modification of application of income forecast method of 
        depreciation (sec. 524 of the Senate amendment and sec. 167 of 
        the Code)

                              PRESENT LAW

      The modified Accelerated Cost Recovery System (``MACRS'') 
does not apply to certain property, including any motion 
picture film, video tape, or sound recording, or to any other 
property if the taxpayer elects to exclude such property from 
MACRS and the taxpayer properly applies a unit-of-production 
method or other method of depreciation not expressed in a term 
of years. Section 197 does not apply to certain intangible 
property, including property produced by the taxpayer or any 
interest in a film, sound recording, video tape, book or 
similar property not acquired in a transaction (or a series of 
related transactions) involving the acquisition of assets 
constituting a trade or business or substantial portion 
thereof. Thus, the recovery of the cost of a film, video tape, 
or similar property that is produced by the taxpayer or is 
acquired on a ``stand-alone'' basis by the taxpayer may not be 
determined under either the MACRS depreciation provisions or 
under the section 197 amortization provisions. The cost 
recovery of such property may be determined under section 167, 
which allows a depreciation deduction for the reasonable 
allowance for the exhaustion, wear and tear, or obsolescence of 
the property. A taxpayer is allowed to recover, through annual 
depreciation deductions, the cost of certain property used in a 
trade or business or for the production of income. Section 
167(g) provides that the cost of motion picture films, sound 
recordings, copyrights, books, and patents are eligible to be 
recovered using the income forecast method of depreciation.
      Under the income forecast method, a property's 
depreciation deduction for a taxable year is determined by 
multiplying the adjusted basis of the property by a fraction, 
the numerator of which is the income generated by the property 
during the year and the denominator of which is the total 
forecasted or estimated income expected to be generated prior 
to the close of the tenth taxable year after the year the 
property was placed in service. Any costs that are not 
recovered by the end of the tenth taxable year after the 
property was placed in service may be taken into account as 
depreciation in such year.
      The adjusted basis of property that may be taken into 
account under the income forecast method only includes amounts 
that satisfy the economic performance standard of section 
461(h). In addition, taxpayers that claim depreciation 
deductions under the income forecast method are required to pay 
(or receive) interest based on a recalculation of depreciation 
under a ``look-back'' method.
      The ``look-back'' method is applied in any 
``recomputation year'' by (1) comparing depreciation deductions 
that had been claimed in prior periods to depreciation 
deductions that would have been claimed had the taxpayer used 
actual, rather than estimated, total income from the property; 
(2) determining the hypothetical overpayment or underpayment of 
tax based on this recalculated depreciation; and (3) applying 
the overpayment rate of section 6621 of the Code. Except as 
provided in Treasury regulations, a ``recomputation year'' is 
the third and tenth taxable year after the taxable year the 
property was placed in service, unless the actual income from 
the property for each taxable year ending with or before the 
close of such years was within 10 percent of the estimated 
income from the property for such years.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment clarifies that, solely for purposes 
of computing the allowable deduction for property under the 
income forecast method of depreciation, participations and 
residuals may be included in the adjusted basis of the property 
beginning in the year such property is placed in service, but 
only if such participations and residuals relate to income to 
be derived from the property before the close of the tenth 
taxable year following the year the property is placed in 
service (as defined in section 167(g)(1)(A)). For purposes of 
the provision, participations and residuals are defined as 
costs the amount of which, by contract, varies with the amount 
of income earned in connection with such property. The Senate 
amendment also clarifies that the income from the property to 
be taken into account under the income forecast method is the 
gross income from such property.
      The Senate amendment also grants authority to the 
Treasury Department to prescribe appropriate adjustments to the 
basis of property (and the look-back method) to reflect the 
treatment of participations and residuals under the provision.
      In addition, the Senate amendment clarifies that, in the 
case of property eligible for the income forecast method that 
the holding in the Associated Patentees decision will continue 
to constitute a valid method of depreciation and may be used in 
connection with the income forecast method of accounting. Thus, 
rather than accounting for participations and residuals as a 
cost of the property under the income forecast method of 
depreciation, the taxpayer may elect todeduct those payments as 
they are paid as under the Associated Patentees decision. This election 
shall be made on a property-by-property basis and shall be applied 
consistently with respect to a given property thereafter. The Senate 
amendment also clarifies that distribution costs are not taken into 
account for purposes of determining the taxpayer's current and total 
forecasted income with respect to a property.
      Effective date.--The Senate amendment provision applies 
to property placed in service after date of enactment. No 
inference is intended as to the appropriate treatment under 
present law. It is intended that the Treasury Department and 
the IRS expedite the resolution of open cases. In resolving 
these cases in an expedited and balanced manner, the Treasury 
Department and IRS are encouraged to take into account the 
principles of the bill.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Additional advance refunding of certain governmental bonds (sec. 525 
        of the Senate amendment and sec. 149 of the Code)

                              PRESENT LAW

      Interest on bonds issued by States or local governments 
is excluded from income if the proceeds of the borrowing are 
used to carry out governmental functions of those entities or 
the debt is repaid with governmental funds (section 103). 
Interest on bonds that nominally are issued by States or local 
governments, but the proceeds of which are used (directly or 
indirectly) by a private person and payment of which is derived 
from funds of such a private person is taxable unless the 
purpose of the borrowing is approved specifically in the Code 
or in a non-Code provision of a revenue Act. These bonds are 
called private activity bonds. Present law includes several 
exceptions permitting States or local governments to act as 
conduits providing tax-exempt financing for private activities. 
One such exception is the provision of financing for activities 
of charitable organizations described in section 501(c)(3) of 
the Code (``qualified 501(c)(3) bonds'').
      An advance refunding bond is issued to refund another 
bond more than 90 days before the redemption of the refunded 
bond. Under present law, governmental bonds and qualified 
501(c)(3) bonds may be advanced refunded, subject to certain 
limitations described below. Private activity bonds (other than 
qualified 501(c)(3) bonds) may not be advanced refunded. Bonds 
eligible for advance refunding can be advance refunded once if 
the original bond was issued after 1985 or advance refunded 
twice if the original bond was issued before 1985. Special 
rules apply for advance refunding bonds under the New York 
Liberty Zone provisions of the Code (sec. 1400L(e)(3)). 
``Liberty Advance Refunding Bonds,'' which may be advance 
refunded one additional time, are tax-exempt bonds for which 
all present-law advance refunding authority was exhausted 
before September 12, 2001, and with respect to which the 
advance refunding bonds authorized under present law were 
outstanding on September 11, 2001. In addition, at least 90 
percent of the net proceeds of the original bond must have been 
used to finance facilities located in New York City and must be 
governmental general obligation bonds issued by either New York 
City or certain New York State Authorities.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, certain governmental bonds 
are eligible for an additional advance refunding. To be 
eligible for an additional refunding, the original bond has to 
have been part of an issue 90 percent or more of the net 
proceeds of which were used to finance a public elementary or 
secondary school in any State in which the State's highest 
court ruled by opinion issued on November 21, 2002, that the 
State school funding system violates the State constitution and 
is constitutionally inadequate. The additional advance 
refunding bond must be issued before the date, which is two 
years after the date of enactment of the bill.
      Effective date.--The Senate amendment provision is 
effective for advance refunding bonds issued after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Exclusion of income derived from certain wagers on horse races from 
        gross income of nonresident alien individuals (sec. 526 of the 
        Senate amendment and sec. 872(b) of the Code)

                              PRESENT LAW

      Under section 871, certain items of gross income received 
by a nonresident alien from sources within the United States 
are subject to a flat 30-percent withholding tax. Gambling 
winnings received by a nonresident alien from wagers placed in 
the United States are U.S.-source and thus generally are 
subject to this withholding tax, unless exempted by treaty. 
Currently, several U.S. income tax treaties exempt U.S.-source 
gambling winnings of residents of the other treaty country from 
U.S. withholding tax. In addition, no withholding tax is 
imposed under section 871 on the non-business gambling income 
of a nonresident alien from wagers on the following games 
(except to the extent that the Secretary determines that 
collection of the tax would be administratively feasible): 
blackjack, baccarat, craps, roulette, and big-6 wheel. Various 
other (non-gambling-related) items of income of a nonresident 
alien are excluded from gross income under section 872(b) and 
are thereby exempt from the 30-percent withholding tax, without 
any authority for the Secretary to impose the tax by 
regulation. In cases in which a withholding tax on gambling 
winnings applies, section 1441(a) of the Code requires the 
party making the winning payout to withhold the appropriate 
amount and makes that party responsible for amounts not 
withheld.
      With respect to gambling winnings of a nonresident alien 
resulting from a wager initiated outside the United States on a 
pari-mutuel \363\ event taking place within the United States, 
the source of the winnings, and thus the applicability of the 
30-percent U.S. withholding tax, depends on the type of 
wagering pool from which the winnings are paid. If the payout 
is made from a separate foreign pool, maintained completely in 
a foreign jurisdiction (e.g., a pool maintained by a racetrack 
or off-track betting parlor that is showing in a foreign 
country a simulcast of a horse race taking place in the United 
States), then the winnings paid to a nonresident alien 
generally would not be subject to withholding tax, because the 
amounts received generally would not be from sources within the 
United States. However, if the payout is made from a ``merged'' 
or ``commingled'' pool, in which betting pools in the United 
States and the foreign country are combined for a particular 
event, then the portion of the payout attributable to wagers 
placed in the United States could be subject to withholding 
tax. The party making the payment, in this case a racetrack or 
off-track betting parlor in a foreign country, would be 
responsible for withholding the tax.
---------------------------------------------------------------------------
    \363\ In pari-mutuel wagering (common in horse racing), odds and 
payouts are determined by the aggregate bets placed. The money wagered 
is placed into a pool, the party maintaining the pool takes a 
percentage of the total, and the bettors effectively bet against each 
other. Pari-mutuel wagering may be contrasted with fixed-odds wagering 
(common in sports wagering), in which odds (or perhaps a point spread) 
are agreed to by the bettor and the party taking the bet and are not 
affected by the bets placed by other bettors.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides an exclusion from gross 
income under section 872(b) for winnings paid to a nonresident 
alien resulting from a legal wager initiated outside the United 
States in a pari-mutuel pool on a live horse race in the United 
States, regardless of whether the pool is a separate foreign 
pool or a merged U.S.-foreign pool.
      Effective date.--The Senate amendment provision applies 
to proceeds from wagering transactions after September 30, 
2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

7. Federal reimbursement of emergency health services furnished to 
        undocumented aliens (sec. 527 of the Senate amendment)

                              PRESENT LAW

      Section 4723 of the Balanced Budget Act of 1997, provided 
$25 million a year for fiscal years 1998-2001, with the funds 
allotted to the 12 States with the highest number of 
undocumented aliens (based on estimates by the Immigration and 
Naturalization Service for 1992 or later). From that allotment, 
the Secretary reimbursed each State, or political subdivision 
thereof, for certain emergency health services furnished to 
undocumented aliens.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides an entitlement of $48 
million for fiscal year 2004 for the Federal reimbursement for 
providers of emergency health services to undocumented aliens.
      Effective date.--The Senate amendment provision is 
effective beginning in fiscal year 2004.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

8. Treatment of premiums for mortgage insurance (sec. 528 of the Senate 
        amendment and sec. 163 of the Code)

                              PRESENT LAW

      Present law provides that qualified residence interest is 
deductible notwithstanding the general rule that personal 
interest is nondeductible (sec. 163(h)).
      Qualified residence interest is interest on acquisition 
indebtedness and home equity indebtedness with respect to a 
principal and a second residence of the taxpayer. The maximum 
amount of home equity indebtedness is $100,000. The maximum 
amount of acquisition indebtedness is $1 million. Acquisition 
indebtedness means debt that is incurred in acquiring 
constructing, or substantially improving a qualified residence 
of the taxpayer, and that is secured by the residence. Home 
equity indebtedness is debt (other than acquisition 
indebtedness) that is secured by the taxpayer's principal or 
second residence, to the extent the aggregate amount of such 
debt does not exceed the difference between the total 
acquisition indebtedness with respect to the residence, and the 
fair market value of the residence.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision provides that premiums 
paid or accrued for qualified mortgage insurance by a taxpayer 
during the taxable year in connection with acquisition 
indebtedness on a qualified residence of the taxpayer are 
treated as qualified residence interest and thus deductible. 
The amount allowable as a deduction under the provision is 
phased out ratably by 10 percent for each $1,000 by which the 
taxpayer's adjusted gross income exceeds $100,000 ($500 and 
$50,000, respectively, in the case of a married individual 
filing a separate return). Thus, the deduction is not allowed 
if the taxpayer's adjusted gross income exceeds $110,000 
($55,000 in the case of married individual filing a separate 
return).
      For this purpose, qualified mortgage insurance means 
mortgage insurance provided by the Veterans Administration, the 
Federal Housing Administration, or the Rural Housing 
Administration, and private mortgage insurance (defined in 
section 2 of the Homeowners Protection Act of 1998).
      Amounts paid for qualified mortgage insurance that are 
properly allocable to periods after the close of the taxable 
year are treated as paid in the period to which it is 
allocated. No deduction is allowed for the unamortized balance 
if the mortgage is paid before its term (except in the case of 
qualified mortgage insurance provided by the Veterans 
Administration or Rural Housing Administration).
      Reporting rules apply under the provision.
      Effective date.--The Senate amendment provision is 
effective for amounts paid or accrued after the date of 
enactment in taxable years ending after that date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

9. Sense of the Senate on repealing the 1993 tax hike on Social 
        Security Benefits (sec. 529 of the Senate Amendment)

                              PRESENT LAW

      Present law provides for a two-tier system of taxation of 
Social Security benefits. Under this system, up to either 50 
percent or 85 percent of Social Security benefits and 
includible in gross income, depending on the taxpayer's income. 
The 85-percent tax was enacted in 1993.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment includes a sense of the Senate that 
the Senate Finance Committee should report out the Social 
Security Benefits Tax Relief Act of 2003 \364\ to repeal the 
tax on seniors not later than July 31, 2003, and that the 
Senate will consider such bill not later than September 30, 
2003, in a manner consistent with the preservation of the 
Medicare Trust Fund.
---------------------------------------------------------------------------
    \364\ S. 514.
---------------------------------------------------------------------------
      Effective date.--The Senate amendment is effective on the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

10. Sense of the Senate relating to the flat tax (sec. 530 of the 
        Senate amendment)

                              PRESENT LAW

      No provision.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment includes a sense of the Senate that 
the Senate Finance Committee and the Joint Economic Committee 
should undertake a comprehensive analysis of simplification or 
flat tax proposals, including appropriate hearings, and 
consider legislation providing for a flat tax.
      Effective date.--The provision is effective on the date 
of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

11. Temporary rate reduction for certain dividends received from 
        controlled foreign corporations (sec. 531 of the Senate 
        amendment and new sec. 965 of the Code)

                              PRESENT LAW

      The United States employs a ``worldwide'' tax system, 
under which domestic corporations generally are taxed on all 
income, whether derived in the United States or abroad. Income 
earned by a domestic parent corporation from foreign operations 
conducted by foreign corporate subsidiaries generally is 
subject to U.S. tax when the income is distributed as a 
dividend to the domestic corporation. Until such repatriation, 
the U.S. tax on such income generally is deferred. However, 
certain anti-deferral regimes may cause the domestic parent 
corporation to be taxed on a current basis in the United States 
with respect to certain categories of passive or highly mobile 
income earned by its foreign subsidiaries, regardless of 
whether the income has been distributed as a dividend to the 
domestic parent corporation. The main anti-deferral regimes in 
this context are the controlled foreign corporation rules of 
subpart F \365\ and the passive foreign investment company 
rules.\366\ A foreign tax credit generally is available to 
offset, in whole or in part, the U.S. tax owed on foreign-
source income, whether earned directly by the domestic 
corporation, repatriated as an actual dividend, or included 
under one of the anti-deferral regimes.\367\
---------------------------------------------------------------------------
    \365\ Secs. 951-964.
    \366\ Secs. 1291-1298.
    \367\ Secs. 901, 902, 960, 1291(g).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, certain actual and deemed 
dividends received by a U.S. corporation from a controlled 
foreign corporation are subject to tax at a reduced rate of 
5.25 percent. For corporations taxed at the top corporate 
income tax rate of 35 percent, this rate reduction is 
equivalent to an 85-percent dividends-received deduction. This 
rate reduction is available only for the first taxable year of 
an electing taxpayer ending 120 days or more after the date of 
enactment of the provision.
      The reduced rate applies only to repatriations in excess 
of the taxpayer's average repatriation level over 3 of the 5 
most recent taxable years ending on or before December 31, 
2002, determined by disregarding the highest-repatriation year 
and the lowest-repatriation year among such 5 years.\368\ The 
taxpayer may designate which of its dividends are treated as 
meeting the base-period average level and which of its 
dividends are treated as comprising the excess.
---------------------------------------------------------------------------
    \368\ If the taxpayer has fewer than 5 taxable years ending on or 
before December 31, 2002, then the base period consists of all such 
taxable years, with none disregard.
---------------------------------------------------------------------------
      In order to qualify for the reduced rate, dividends must 
be described in a ``domestic reinvestment plan'' approved by 
the taxpayer's senior management and board of directors. This 
plan must provide for the reinvestment of the repatriated 
dividends in the United States, ``including as a source for the 
funding of worker hiring and training; infrastructure; research 
and development; capital investments; or the financial 
stabilization of the corporation for the purposes of job 
retention or creation.''
      The Senate amendment provision disallows 85 percent of 
the foreign tax credits attributable to dividends subject to 
the reduced rate and removes 85 percent of the underlying 
income from the taxpayer's foreign tax credit limitation 
fraction under section 904.
      In the case of an affiliated group, an election under the 
provision is made by the common parent on a group-wide basis, 
and all members of the group are treated as a single taxpayer. 
The election applies to all controlled foreign corporations 
with respect to which an electing taxpayer is a United States 
shareholder.
      Effective date.--The Senate amendment provision is 
effective for the first taxable year of an electing taxpayer 
ending 120 days or more after the provision's date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

12. Repeal of 10-percent rehabilitation tax credit (sec. 531 of the 
        Senate amendment and section 47 of the Code)

                              PRESENT LAW

      Present law provides a two-tier tax credit for 
rehabilitation expenditures (sec. 47).
      A 20-percent credit is provided for rehabilitation 
expenditures with respect to a certified historic structure. 
For this purpose, a certified historic structure means any 
building that is listed in the National Register, or that is 
located in a registered historic district and is certified by 
the Secretary of the Interior to the Secretary of the Treasury 
as being of historic significance to the district.
      A 10-percent credit is provided for rehabilitation 
expenditures with respect to buildings first placed in service 
before 1936. The pre-1936 building must meet certain 
requirements in order for expenditures with respect to it to 
qualify for the rehabilitation tax credit. In the 
rehabilitation process, certain walls and structures must have 
been retained. Specifically, (1) 50 percent or more of the 
existing external walls must be retained in place as external 
walls, (2) 75 percent or more of the existing external walls of 
the building must be retained in place as internal or external 
walls, and (3) 75 percent or more of the existing internal 
structural framework of the building must be retained in place. 
Further, the building must have been substantially 
rehabilitated, and it must have been placed in service before 
the beginning of the rehabilitation. A building is treated as 
having been substantially rehabilitated only if the 
rehabilitation expenditures during the 24-month period selected 
by the taxpayer and ending with or within the taxable year 
exceed the greater of (1) the adjusted basis of the building 
(and its structural components), or $5,000.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision repeals the 10-percent 
credit for rehabilitation expenditures with respect to 
buildings first placed in service before 1936. The provision 
retains the present-law 20-percent credit for rehabilitation 
expenditures with respect to a certified historic structure.
      Effective date.--The provision is effective for 
expenditures incurred after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

13. Income inclusion for certain delinquent child support (sec. 532 of 
        the Senate amendment and sec. 166 of the Code)

                              PRESENT LAW

Bad debt deduction

      Non-business bad debts may be deductible as short-term 
capital losses on Schedule D of the Form 1040. Non-business bad 
debts generally are debts that the taxpayer did not acquire or 
create in the course of operating the taxpayer's business. The 
present-law rule that capital losses (both short-term and long-
term) may not exceed the sum of $3,000 plus any capital gains 
for any taxable year is applicable.
      Non-business bad debts are only deductible only if: (1) 
the debt is wholly worthless (partially worthless debts are not 
deductible) and (2) the taxpayer has a tax basis in the debt 
that becomes bad. If these requirements are satisfied, the 
amount of the deductible non-business bad debt is the 
individual's basis in the bad debt. Generally, the amount of 
basis that a taxpayer has in a debt is the amount of the cash 
advance in the case of a loan or the amount of taxable income 
recognized by the taxpayer with reference to the debt. 
Deductions for bad debts are allowed only for the taxable year 
in which the debt becomes wholly worthless.
      Custodial parents do not qualify for a non-business bad 
debt deduction on unpaid child support because, they have no 
basis in the debt and the debt may not be wholly worthless.

Bad debt income inclusion

      There is no income inclusion for individuals who are 
delinquent in paying their child support obligations.

                               HOUSE BILL

      No provision

                            SENATE AMENDMENT

      The Senate amendment creates an income inclusion for a 
non-custodial parent for certain unpaid child support 
obligations at the close of a taxable year. The income 
inclusion is limited to the amount of unpaid child support at 
the end of the taxable year that equals or exceeds one-half of 
the non-custodial taxpayer's total child support obligation to 
the custodial parent for the year. This test is not applied on 
a child-by-child basis. For example, in the case of child 
support for two children, the test applies the one-half or more 
test to the combined child support obligations for both 
children.
      Under the bill, any payments from the non-custodial 
parent to the custodial parent subsequent to the close of the 
taxable year are not deductible by the non-custodial parent 
(regardless of whether the non-custodial parent had a previous 
income inclusion with regard to such amounts).
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

14. Sense of the Senate regarding the low-income housing tax credit 
        (sec. 533 of the Senate amendment)

                              PRESENT LAW

      The low-income housing tax credit may be claimed over a 
10-year period for the cost of rental housing occupied by 
tenants having incomes below specified levels. The credit 
percentage for newly constructed or substantially rehabilitated 
housing that is not Federally subsidized is adjusted monthly by 
the Internal Revenue Service so that the 10 annual installments 
have a present value of 70 percent of the total qualified 
expenditures. The credit percentage for new substantially 
rehabilitated housing that is Federally subsidized and for 
existing housing that is substantially rehabilitated is 
calculated to have a present value of 30 percent qualified 
expenditures.
      The aggregate credit authority provided annually to each 
State was $1.75 per resident in calendar year 2002. Beginning 
in calendar year 2003, the per-capita portion of the credit cap 
will be adjusted annually for inflation. For small States, a 
minimum annual cap of $2 million was provided for calendar year 
2002. Beginning in calendar year 2003, the small State minimum 
is adjusted for inflation.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment includes a statement that it is the 
sense of the Senate that any reduction or elimination of the 
taxation on dividends should include provisions to preserve the 
success of the low-income housing tax credit.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

15. Expensing of investment in broadband equipment (sec. 534 of the 
        Senate amendment and new sec. 191 of the Code)

                              PRESENT LAW

      Under present law, a taxpayer generally must capitalize 
the cost of property used in a trade or business and recover 
such cost over time through annual deductions for depreciation 
or amortization. Tangible property generally is depreciated 
under the Modified Accelerated Cost Recovery System (MACRS) of 
section 168, which determines depreciation by applying specific 
recovery periods, placed-in-service conventions, and 
depreciation methods to the cost of various types of 
depreciable property.
      Personal property is classified under MACRS based on the 
property's ``class life'' unless a different classification is 
specifically provided in section 168. The class life applicable 
for personal property is the asset guideline period (midpoint 
class life as of January 1, 1986). Based on the property's 
classification, a recovery period is prescribed under MACRS. In 
general, there are six classes of recovery periods to which 
personal property can be assigned. For example, personal 
property that has a class life of four years or less has a 
recovery period of three years, whereas personal property with 
a class life greater than four years but less than 10 years has 
a recovery period of five years. The class lives and recovery 
periods for most property are contained in Rev. Proc. 87-56, 
1987-2 CB 674 (as clarified and modified by Rev. Proc. 88-22, 
1988-1 CB 785).

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides that expenses incurred by 
the taxpayer for qualified broadband expenditures with respect 
to qualified equipment placed in service prior to January 1, 
2005 may be deducted in full in the year in which the equipment 
is placed in service.
      Qualified expenditures are expenditures incurred with 
respect to equipment with which the taxpayer offers current 
generation broadband services to qualified subscribers. In 
addition, qualified expenditures include qualified expenditures 
incurred by the taxpayer with respect to qualified equipment 
with which the taxpayer offers next generation broadband 
services to qualified subscribers. Current generation broadband 
services are defined as the transmission ofsignals at a rate of 
at least 1 million bits per second to the subscriber and at a rate of 
at least 128,000 bits per second from the subscriber. Next generation 
broadband services are defined as the transmission of signals at a rate 
of at least 22 million bits per second to the subscriber and at a rate 
of at least 5 million bits per second from the subscriber.
      Qualified subscribers for the purposes of the current 
generation broadband deduction include nonresidential 
subscribers in rural or underserved areas, and residential 
subscribers in rural or underserved areas that are not in a 
saturated market. A saturated market is defined as a census 
tract in which current generation broadband services have been 
provided by a single provider to 85 percent or more of the 
total number of potential residential subscribers residing 
within such census tracts. For the purposes of the next 
generation broadband deduction, qualified subscribers include 
nonresidential subscribers in rural or underserved areas or any 
residential subscriber. In the case of a taxpayer who incurs 
expenditures for equipment capable of serving both subscribers 
in qualifying areas and other areas, qualifying expenditures 
are determined by multiplying otherwise qualifying expenditures 
by the ratio of the number of potential qualifying subscribers 
to all potential subscribers the qualifying equipment would be 
capable of serving.
      Qualifying equipment must be capable of providing 
broadband services a majority of the time during periods of 
maximum demand. Qualifying equipment is that equipment that 
extends from the last point of switching to the outside of the 
building in which the subscriber is located, equipment that 
extends from the customer side of a mobile telephone switching 
office to a transmission/reception antenna (including the 
antenna) of the subscriber, equipment that extends from the 
customer side of the headend to the outside of the building in 
which the subscriber is located, or equipment that extends from 
a transmission/reception antenna to a transmission/reception 
antenna on the outside of the building used by the subscriber. 
Any packet switching equipment deployed in connection with 
other qualifying equipment is qualifying equipment, regardless 
of location, provided that it is the last such equipment in a 
series as part of transmission of a signal to a subscriber or 
the first in a series in the transmission of a signal from a 
subscriber. Also, multiplexing and demultiplexing equipment 
also is qualified equipment.
      A rural area is any census tract which is not within 10 
miles of any incorporated or census designated place with a 
population of more than 25,000 and which is not within a county 
with a population density of more than 500 people per square 
mile. An underserved area is any census tract which is located 
in an empowerment zone or enterprise community or any census 
tract in which the poverty level is greater than or equal to 30 
percent and in which the median family income is less than 70 
percent of the greater of metropolitan area median family 
income or Statewide median family income. A residential 
subscriber is any individual who purchases broadband service to 
be delivered to his or her dwelling.
      Effective date.--The Senate amendment provision is 
effective for property placed in service after December 31, 
2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

16. Income tax credit for cost of carrying tax-paid distilled spirits 
        in wholesale inventories and in control State bailment 
        warehouses (sec. 535 of the Senate amendment and new sec. 5011 
        of the Code)

                              PRESENT LAW

      As is true of most major Federal excise taxes, the excise 
tax on distilled spirits is imposed at a point in the chain of 
distribution before the product reaches the retail (consumer) 
level. Tax on domestically produced and/or bottled distilled 
spirits arises upon production (receipt) in a bonded distillery 
and is collected based on removals from the distillery during 
each semi-monthly period. Distilled spirits that are bottled 
before importation into the United States are taxed on removal 
from the first U.S. warehouse where they are landed (including 
a warehouse located in a foreign trade zone).
      No tax credits are allowed under present law for business 
costs associated with having tax-paid products in inventory. 
Rather, excise tax that is included in the purchase price of a 
product is treated the same as the other components of the 
product cost, i.e., deductible as a cost of goods sold.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment creates a new income tax credit for 
wholesale distributors, distillers, and importers, of distilled 
spirits. The credit is calculated by multiplying the number of 
cases of bottled distilled spirits by the average tax-financing 
cost per case for the most recent calendar year ending before 
the beginning of such taxable year. A case is 12 80-proof 750-
milliliter bottles. The average tax-financing cost per case is 
the amount of interest that would accrue at corporate 
overpayment rates during an assumed 60-day holding period on an 
assumed tax rate of $25.68 per case of 12 750-milliliter 
bottles.
      The wholesaler credit only applies to domestically 
bottled distilled spirits \369\ purchased directly from the 
bottler of such spirits. For distillers and importers, the 
credit is limited to bottled inventory in a warehouse owned and 
operated by, or on behalf of, a State when title to such 
inventory has not passed unconditionally. The credit for 
distillers and importers applies to distilled spirits bottled 
both domestically and abroad.
---------------------------------------------------------------------------
    \369\ Distilled spirits that are imported in bulk and then bottled 
domestically qualify as domestically bottled distilled spirits.
---------------------------------------------------------------------------
      The credit is in addition to present-law rules allowing 
tax included in inventory costs to be deducted as a cost of 
goods sold.
      The credit cannot be carried back to a taxable year 
beginning before January 1, 2003.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

17. Contribution in aid of construction (sec. 536 of the Senate 
        amendment and sec. 118 of the Code)

                              PRESENT LAW

      Section 118(a) provides that gross income of a 
corporation does not include a contribution to its capital. In 
general, section 118(b) provides that a contribution to the 
capital of a corporation does not include any contribution in 
aid of construction or any other contribution as a customer or 
potential customer and, as such, is includible in gross income 
of the corporation. However, for any amount of money or 
property received by a regulated public utility that provides 
water or sewerage disposal services, such amount shall be 
considered a contribution to capital (excludible from gross 
income) so long as such amount: (1) is a contribution in aid of 
construction, and (2) is not included in the taxpayer's rate 
base for rate-making purposes. If the contribution is in 
property other than water or sewerage disposal facilities, the 
amount is generally excludible from gross income only if the 
amount is expended to acquire or construct water or sewerage 
disposal facilities within a specified time period. A 
contribution in aid of construction does not include a customer 
connection fee or amounts paid as service charges for starting 
or stopping services.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment clarifies that water and sewer 
service laterals received by a regulated public utility that 
provides water or sewerage disposal services is considered a 
contribution to capital and excludible from gross income of 
such utility.
      Effective date.--The Senate amendment provision is 
effective for contributions made after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

18. Travel expenses for spouses (sec. 537 of the Senate amendment and 
        sec. 274 of the Code)

                              PRESENT LAW

      In general, no deduction is permitted for the travel 
expenses of a spouse, dependent, or other individual 
accompanying a taxpayer (or an officer or employee of the 
taxpayer) on business travel.\370\
---------------------------------------------------------------------------
    \370\ Sec. 274(m)(3).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment repeals this provision generally 
prohibiting a deduction for the travel expenses of a spouse, 
dependent, or other person accompanying a taxpayer (or an 
officer or employee of a taxpayer). All other present-law 
limitations on these expenses continue to apply.
      Effective date.--The Senate amendment provision is 
effective for expenses paid or incurred after the date of 
enactment and on or before December 31, 2004.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

19. Certain sightseeing flights exempt from taxes on air transportation 
        (sec. 538 of the Senate amendment and sec. 4281 of the Code)

                              PRESENT LAW

      The Code imposes a tax on amounts paid for the taxable 
transportation of persons (``the ticket tax'') (sec. 4261(a)). 
Taxable transportation for purposes of imposing the ticket tax 
is transportation that begins and ends in the United States 
(sec. 4262(a)). Aircrafts having a maximum certificated takeoff 
weight of 6,000 pounds or less (``small aircraft'') are not 
subject to the ticket tax unless such aircraft is operated on 
an established line (sec. 4281).
      Treasury regulations define the term ``operated on an 
established line'' to mean operated with some degree of 
regularity between definite points (Treas. Reg. sec. 49.4263-
5(c)). The term implies that the air carrier maintains control 
over the direction, routes, time, number of passengers carried, 
etc. The Treasury regulations also provide that transportation 
need not be between two definite points to be taxable. A 
payment for continuous transportation beginning and ending at 
the same point is subject to the tax (Treas. Reg. sec. 49.4261-
1(c)). Thus, the ticket tax applies to regularly conducted 
sightseeing air tours that begin and end at the same 
point.\371\
---------------------------------------------------------------------------
    \371\ See Lake Mead Air Inc. v. United States, 99-1 USTC par. 
70,119 (D. Nev. 1997). The Lake Mead court found that that the tours 
started and ended at the same point without fail therefore, the flights 
were between definite points. Finding that the flights were operated 
with some degree of regularity and between definite points, the court 
found that the flights were operated on an established line. As a 
result, the exemption for small aircraft operating on nonestablished 
lines did not apply and the court concluded that the flights were 
taxable transportation for purposes of the ticket tax. However, the 
court found that Lake Mead was not a responsible person for collecting 
the tax for purposes of the 100 percent penalty imposed by section 
6672.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, small aircrafts are not 
considered as operated on an established line if such aircraft 
is operated on a flight the sole purpose of which is 
sightseeing.
      Effective date.--The Senate amendment provision is 
effective with respect to transportation beginning on or after 
the date of enactment, but does not apply to any amount paid 
before such date.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

20. Required coverage for reconstructive surgery following mastectomies 
        (sec. 539 of the Senate amendment and new sec. 9813 of the 
        Code)

                              PRESENT LAW

      The Women's Health and Cancer Rights Act of 1998 amended 
ERISA and the Public Health Service Act to provide that health 
plans offering mastectomy coverage must also provide coverage 
for reconstructive breast surgery. Under ERISA, a group health 
plan, and a health insurance issuer providing health insurance 
coverage in connection with a group health plan, that provides 
medical and surgical benefits with respect to mastectomies is 
required to provide coverage for reconstructive surgery 
following mastectomies.\372\ In the case of a participant or 
beneficiary who is receiving benefits in connection with a 
mastectomy and who elects breast reconstruction in connection 
with such mastectomy, coverage is required for (1) all stages 
of reconstruction of the breast on which the mastectomy has 
been performed, (2) surgery and reconstruction of the other 
breast to produce a symmetrical appearance, and (3) prostheses 
and physical complications of mastectomy, including 
lymphedemas, in a manner determined in consultation with the 
attending physician and the patient.
---------------------------------------------------------------------------
    \372\ ERISA sec. 713. A similar provision is also included in the 
Public Health Service Act.
---------------------------------------------------------------------------
      Coverage may be subject to annual deductibles and 
coinsurance provisions as may be deemed appropriate and as are 
consistent with those established for other benefits under the 
plan or coverage. Written notice of the availability of the 
coverage must be delivered to the participant upon enrollment 
and annually thereafter. Notice must be in writing and 
prominently positioned in any literature or correspondence made 
available or distributed by the plan or issuer and must be 
transmitted as specifically required.
      A group health plan may not deny a patient eligibility, 
or continued eligibility, to enroll or to renew coverage under 
the terms of the plan, solely for the purpose of avoiding the 
requirements of the provision. In addition, a group health plan 
may not penalize or otherwise reduce or limit the reimbursement 
of an attending provider, or provide incentives (monetary or 
otherwise) to an attending provider, to induce such provider to 
provide care to an individual participant or beneficiary in a 
manner inconsistent with the provision. Nothing in the section 
should be construed to prevent a group health plan from 
negotiating the level and type of reimbursement with a provider 
for care provided in accordance with the section.
      The Code imposes an excise tax on failures to meet 
certain group health plan requirements.\373\ The excise tax is 
equal to $100 per day during the period of noncompliance and is 
generally imposed on the employer sponsoring the plan if the 
plan fails to meet the requirements. The maximum tax that can 
be imposed during a taxable year cannot exceed the lesser of 10 
percent of the employer's group health plan expenses for the 
prior year or $500,000. No tax is imposed if the Secretary 
determines that the employer did not know, and exercising 
reasonable diligence would not have known, that the failure 
existed.
---------------------------------------------------------------------------
    \373\ Sec. 4980D.
---------------------------------------------------------------------------
      Present law does not impose an excise tax relating to 
required coverage for reconstructive surgery following 
mastectomies.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment adds to the Code a provision 
requiring a group health plan that provides medical and 
surgical benefits with respect to a mastectomy to provide 
coverage for reconstructive surgery following the mastectomy. 
The requirements follow those of ERISA. A group health plan 
that does not comply with the requirements of the provision is 
subject to the excise tax on failures to meet certain group 
health plan requirements.\374\
---------------------------------------------------------------------------
    \374\ Sec. 4980D.
---------------------------------------------------------------------------
      Under the new Code section, a group health plan that 
provides medical and surgical benefits with respect to a 
mastectomy must provide, in the case of a participant or 
beneficiary who is receiving benefits in connection with a 
mastectomy and who elects breast reconstruction in connection 
with such mastectomy, coverage for (1) all stages of 
reconstruction of the breast of which the mastectomy has been 
performed, (2) surgery and reconstruction of the other breast 
to produce a symmetrical appearance, and (3) prostheses and 
physical complications of mastectomy, including lymphedemas, in 
a manner determined in consultation with the attending 
physician and the patient.
      Coverage may be subject to annual deductibles and 
coinsurance provisions as deemed appropriate and consistent 
with those established for other benefits under the plan. 
Written notification of the availability of such coverage must 
be delivered to the participant upon enrollment and annually 
thereafter. Unlike ERISA, the specific manner in which notice 
must be given is not included in the new Code provision.
      Under the Senate amendment, a group health plan may not 
deny a patient eligibility, or continued eligibility, to enroll 
or to renew coverage under the terms of the plan, solely for 
the purpose of avoiding the requirements of the provision. In 
addition, a group health plan may not penalize or otherwise 
reduce or limit the reimbursement of an attending provider, or 
provide incentives (monetary or otherwise) to an attending 
provider, to induce such provider to provide care to an 
individual participant or beneficiary in a manner inconsistent 
with the provision. Nothing in the provision should be 
construed to prevent a group health plan from negotiating the 
level and type of reimbursement with a provider for care 
provided in accordance with the provision.
      Under the Senate amendment, in the case of a group heath 
plan maintained pursuant to one or more collective bargaining 
agreements between employee representatives and one or more 
employers, any plan amendment made pursuant to a collective 
bargaining agreement relating to the plan which amends the plan 
solely to conform to any requirement added by the provision 
will not be treated as a termination of the collective 
bargaining agreement.
      Effective date.--The Senate amendment provision is 
effective for plan years beginning on or after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

21. Renewal community modifications (secs. 540 and 541 of the Senate 
        amendment and secs. 1400E and 1400H of the Code)

                              PRESENT LAW

      The Code authorizes the designation of 40 ``renewal 
communities'' within which special tax incentives will be 
available. The following is a description of the designation 
process and the tax incentives that will be available within 
the renewal communities.

Designation process

      Designation of 40 renewal communities.--The Secretary of 
HUD, was authorized to designate up to 40 renewal communities 
from areas nominated by States and local governments. At least 
12 of the designated communities must be in rural areas. The 
designation of an area as a renewal community terminates after 
December 31, 2009.
      Eligibility criteria.--To be designated as a renewal 
community, a nominated area must meet the following criteria: 
(1) each census tract must have a poverty rate of at least 20 
percent; (2) in the case of an urban area, at least 70 percent 
of the households have incomes below 80 percent of the median 
income of households within the local government jurisdiction; 
(3) the unemployment rate is at least 1.5 times the national 
unemployment rate; and (4) the area is one of pervasive 
poverty, unemployment, and general distress. Generally, those 
areas with the highest average ranking of eligibility factors 
(1), (2), and (3) above will be designated as renewal 
communities.
      The boundary of a renewal community must be continuous. 
In addition, the renewal community must have a minimum 
population of 4,000 if the community is located within a 
metropolitan statistical area (at least 1,000 in all other 
cases), and a maximum population of not more than 200,000. The 
population limitations do not apply to any renewal community 
that is entirely within an Indian reservation.
      In addition, certain State and local government 
commitments are necessary for an area to receive designation.

Tax incentives for renewal communities

      The following tax incentives generally are available 
during the period beginning January 1, 2002, and ending 
December 31, 2009.
      Zero-percent capital gain rate.--A zero-percent capital 
gains rate applies with respect to gain from the sale of a 
qualified community asset acquired after December 31, 2001, and 
before January 1, 2010, and held for more than five years. A 
``qualified community asset'' includes: (1) qualified community 
stock (meaning original-issue stock purchased for cash in a 
renewal community business); (2) a qualified community 
partnership interest (meaning a partnership interest acquired 
for cash in a renewal community business); and (3) qualified 
community business property (meaning tangible property 
originally used in a renewal community business by the 
taxpayer) that is purchased or substantially improved after 
December 31, 2001.
      The termination of an area's status as a renewal 
community will not affect whether property is a qualified 
community asset, but any gain attributable to the period before 
January 1, 2002, or after December 31, 2014, is not eligible 
for the zero-percent rate.
      Renewal community employment credit.--A 15-percent wage 
credit is available to employers for the first $10,000 of 
qualified wages paid to each employee who (1) is a resident of 
the renewal community, and (2) performs substantially all 
employment services within the renewal community in a trade or 
business of the employer. In general, any taxable business 
carrying out activities in the renewal community may claim the 
wage credit.
      Commercial revitalization deduction.--Each State is 
permitted to allocate up to $12 million of ``commercial 
revitalization expenditures'' to each renewal community located 
within the State for each calendar year after 2001 and before 
2010. The appropriate State agency will make the allocations 
pursuant to a qualified allocation plan. A ``commercial 
revitalization expenditure'' means the cost of a new building 
or the cost of substantially rehabilitating an existing 
building. The qualifying expenditures for any building cannot 
exceed $10 million.
      Additional section 179 expensing.--A renewal community 
business is allowed an additional $35,000 of section 179 
expensing for qualified renewal property placed in service 
after December 31, 2001, and before January 1, 2010. The 
section 179 expensing allowed to a taxpayer is phased out by 
the amount by which 50 percent of the cost of qualified renewal 
property placed in service during the year by the taxpayer 
exceeds $200,000.
      Extension of work opportunity tax credit (``WOTC'').--The 
provision expands the high-risk youth and qualified summer 
youth categories in the WOTC to include qualified individuals 
who live in a renewal community.

Expiration date

      The tax benefits available in renewal communities are 
effective for the period beginning January 1, 2002, and ending 
December 31, 2009.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides that an employee who 
resides in one area that is designated as a renewal community, 
but who works in a certain other area that also is designated 
as a renewal community qualifies for the renewal community 
employment credit. To qualify the area of residence and the 
area of employment must be in the same State and within five 
miles.
      In addition, the Senate amendment provides that, at the 
request of the local community, the Secretary of Housing and 
Urban development may expand the size of an existing renewal 
community to include a census tract that satisfy eligibility 
standards based on the 2000 Census, but which did not qualify 
based on the 1990 Census solely by reason of applicable 1990 
population or poverty requirements. The Senate amendment also 
permits, upon the request of the local community, the Secretary 
of Housing and Urban Development to expand the size of an 
existing renewal community to include certain adjacent census 
tracts populated with 100 or fewer persons.
      Effective date.--The Senate amendment provisions are 
effective as if included in the Community Renewal Tax Relief 
Act of 2000.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

22. Combat zone expansions (secs. 542 and 543 of the Senate amendment 
        and sec. 112 of the Code)

                              PRESENT LAW

      In general, gross income does not include compensation 
for active service in the armed forces of the United States 
below the grade of commissioned officer for any month during 
which the service person served in a combat zone.\375\ For 
commissioned officers, the maximum excludible under this 
provision is the highest level of pay for an enlisted person. 
In general, the determination that an area is a combat zone is 
made by the President by an Executive Order.\376\
---------------------------------------------------------------------------
    \375\ Sec. 112.
    \376\ Sec. 112(c)(2).
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment removes the limitation on this 
exclusion for commissioned officers, so that their entire basic 
pay is excludible. The Senate amendment also provides that 
direct transit to and from a combat zone (not to exceed 14 
days) is treated as service in a combat zone. The Senate 
amendment treats military service as part of Operation Iraqi 
Freedom in Guantanamo Bay, Cuba, and Diego Garcia as if it were 
in a combat zone.
      Effective date.--The Senate amendment provision is 
effective on January 1, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

23. Ratable income inclusion for citrus canker tree payments (sec. 544 
        of the Senate amendment and secs. 451 and 1033 of the Code)

                              PRESENT LAW

      Generally, a taxpayer recognizes gain on the sale or 
exchange of property to the extent the sales price (and any 
other consideration received) exceeds the seller's basis in the 
property. The recognized gain is subject to current income tax 
unless the gain is deferred or not recognized under a special 
tax provision.
      Under section 1033, gain realized by a taxpayer from an 
involuntary conversion of property is deferred to the extent 
the taxpayer purchases property similar or related in service 
or use to the converted property within the applicable period. 
The taxpayer's basis in the replacement property generally is 
the same as the taxpayer's basis in the converted property, 
decreased by the amount of any money or loss recognized on the 
conversion, and increased by the amount of any gain recognized 
on the conversion. The applicable period for the taxpayer to 
replace the converted property begins with the date of the 
disposition of the converted property (or the earliest date of 
the threat or imminence of requisition or condemnation of the 
converted property, whichever is earlier) and generally ends 
two years after the close of the first taxable year in which 
any part of the gain upon conversion is realized. Longer 
replacement periods are available in the case of real property 
and principal residences involuntarily converted as a result of 
Presidentially declared disaster.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment permits a taxpayer to elect to 
recognize any realized gain by reason of receiving a citrus 
canker tree payment ratably over a 10-year period beginning 
with the taxable year in which such payment is received or 
accrued by the taxpayer. The provision defines a citrus canker 
tree payment as a payment made to an owner of a commercial 
citrus grove to recover income that was lost as a result of the 
removal of commercial citrus trees to control canker under the 
amendments to the citrus canker regulations made by the final 
rule published in the Federal Register by the Secretary of 
Agriculture on June 18, 2001. An election under the provision 
is made by attaching a statement to that effect in the 
taxpayer's return for the taxable year in which the payment is 
received or accrued in the manner as the Secretary prescribes. 
An election is binding for that taxable year and all subsequent 
taxable years.
      The Senate amendment also extends the applicable period 
under section 1033 for a taxpayer to replace commercial citrus 
trees which are involuntarily converted under a public order as 
a result of citrus tree canker to four years. In addition, the 
Secretary of the Treasury is granted authority to further 
extend the replacement period on a regional basis if a State or 
Federal health authority determines that the land on which such 
trees grew is not free from the bacteria that causes citrus 
tree canker.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning before, on, or after the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

24. Exclusion of certain punitive damage awards (sec. 545 of the Senate 
        amendment and sec. 104 of the Code)

                              PRESENT LAW

      Under present law, gross income generally does not 
include the amount of any damages received (whether by suit or 
agreement and whether as lump sums or as periodic payments) by 
individuals on account of personal physical injuries (including 
death) or physical sickness.\377\ However, this exclusion does 
not apply to punitive damages.\378\
---------------------------------------------------------------------------
    \377\ Sec. 104(a)(2).
    \378\ Id.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides an exclusion from gross 
income for any portion of an award of punitive damages in a 
civil action that is paid to a State under a split-award 
statute or any attorneys' fees or other costs incurred by the 
taxpayer in connection with obtaining such an award which are 
allocable to such portion.
      Under the Senate amendment, a ``split-award statute'' is 
a State law that requires a fixed portion of an award of 
punitive damages in a civil action to be paid to the State.
      Effective date.--The Senate amendment applies to awards 
made in taxable years ending after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

25. Repeal of pre-1997 tax on certain imported recycled halons (sec. 
        546 of the Senate amendment and sec. 4682 of the Code)

                              PRESENT LAW

      An excise tax is imposed on the sale or use by the 
manufacturer or importer of certain ozone-depleting chemicals 
(sec. 4681). The amount of tax generally is determined by 
multiplying the base tax amount applicable for the calendar 
year by an ozone-depleting factor assigned to each taxable 
chemical. The base tax amount was $5.80 per pound in 1996 and 
$6.25 per pound in 1997, and increased by $0.45 cents per pound 
per year thereafter. The ozone-depleting factors for taxable 
halons are three for halon-1211, 10 for halon-1301, and six for 
halon-2402.
      In general, taxable chemicals that are recovered and 
recycled within the United States are exempt from tax. In 
addition, exemption is provided for imported recycled halon-
1301 and halon-2402 if such chemicals are imported after 
December 31, 1996, from countries that are signatories to the 
Montreal Protocol on Substances that Deplete the Ozone Layer.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provides that no tax is liable for 
imported recycled halon-1301 or halon-2402 if such chemicals 
were imported after December 31, 1993, from countries that were 
signatories to the Montreal Protocol on Substances that Deplete 
the Ozone Layer at the time such chemicals were imported. In 
addition, the Senate amendment provides that no tax is liable 
for imported recycled halon-1211 if such chemicals were 
imported after December 31, 1993 and before August 5, 1997, 
from countries that were signatories to the Montreal Protocol 
on Substances that Deplete the Ozone Layer at the time such 
chemicals were imported. If, before the end of the one-year 
period commencing with the date of enactment, any taxpayer who 
previously paid tax under the then prevailing law files for a 
refund or credit of taxes paid, such refund or credit is to be 
made.
      Effective date.--The Senate amendment provision is 
effective upon the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

26. Modification of involuntary conversion rules for businesses 
        affected by the September 11, 2001 terrorist attacks (sec. 547 
        of the Senate amendment and sec. 1400L of the Code)

                              PRESENT LAW

      A taxpayer may elect not to recognize gain with respect 
to property that is involuntarily converted if the taxpayer 
acquires within an applicable period (the ``replacement 
period'') property similar or related in service or use 
(section 1033). If the taxpayer does not replace the converted 
property with property similar or related in service or use, 
then gain generally is recognized. If the taxpayer elects to 
apply the rules of section 1033, gain on the converted property 
is recognized only to the extent that the amount realized on 
the conversion exceeds the cost of the replacement property. In 
general, the replacement period begins with the date of the 
disposition of the converted property and ends two years after 
the close of the first taxable year in which any part of the 
gain upon conversion is realized.\379\ The replacement period 
is extended to three years if the converted property is real 
property held for the productive use in a trade or business or 
for investment.\380\
---------------------------------------------------------------------------
    \379\ Section 1033(a)(2)(B).
    \380\ Section 1033(g)(4).
---------------------------------------------------------------------------
      The Jobs Creation and Worker Assistance Act of 2002 \381\ 
extends the replacement period to five years for a taxpayer to 
purchase property to replace property that was involuntarily 
converted within the New York Liberty Zone \382\ as a result of 
the terrorist attacks that occurred on September 11, 2001. 
However, the five-year period is available only if 
substantially all of the use of the replacement property is in 
New York City. In all other cases, the present-law replacement 
period rules continue to apply.
---------------------------------------------------------------------------
    \381\ Pub. Law No. 107-147, sec. 301 (2002).
    \382\ The ``New York Liberty Zone'' generally is the area located 
on or south of Canal street, East Broadway (east of its intersection 
with Canal Street), or Grand Street (east of its intersection with East 
Broadway) in the Borough of Manhattan, New York, New York.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      For property that was involuntarily converted within the 
New York Liberty Zone as a result of the terrorist attacks that 
occurred on September 11, 2001, the Senate amendment provides 
that if a taxpayer is a member of an affiliated group of 
corporations filing a consolidated return that replacement 
property may be purchased by any member of the affiliated group 
(in lieu of the taxpayer).\383\
---------------------------------------------------------------------------
    \383\ It is anticipated that the Secretary of the Treasury will 
issue guidance as may be necessary to ensure that gain shall not be 
recognized under the consolidated return provisions and to ensure that 
any investment adjustments, or any other adjustments under the 
consolidated regulations, accurately reflect the implications of 
permitting another member of the consolidated group to purchase the 
replacement property.
---------------------------------------------------------------------------
      Effective date.--The Senate amendment provision is 
effective for involuntary conversions in the New York Liberty 
Zone occurring on or after September 11, 2001.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

     D. Medicare Provisions (Secs. 561-576 of the Senate Amendment)


                              PRESENT LAW

Standardized Amount Equalization

      Present law pays rural and small urban facilities 1.6 
percent less on every inpatient discharge than their 
counterparts in urban areas of a million or more people.

Equalization of Medicare Disproportionate Share (DSH) Payments

      Present law differentiates between rural and urban 
hospitals that treat vulnerable populations.

Assistance for Low Volume Hospitals

      Present law fails to recognize the special costs incurred 
by hospitals with less than 2,000 discharges per year.

Revision of Labor Share to 62 percent

      Medicare's standardized amounts are apportioned into a 
labor-related amount (which is then adjusted by the wage index 
value of the area where the hospital is located or to which it 
has been reassigned) and a nonlabor-related amount (which is 
generally not subject to geographical adjustment). Under 
present law, the labor-related amount comprises 71.1 percent of 
the national standardized amount.

Extend Hold Harmless for Rural Hospitals under Hospital Outpatient 
        Prospective Payment System

      Present law payments to outpatient hospital departments 
vary from year to year.

Critical Access Hospital Improvements

      Many rural hospitals have elected to become critical 
access hospitals (CAHs) under present law.

10-percent Add-on for Rural Home Health Agencies

      Special add-on payment to rural home health agencies 
expired on April 1, 2003.

Five-percent Add-on for Clinic and Emergency Room Visits for Small 
        Rural Hospitals

      Present law treats clinic and emergency room visits no 
differently than other services provided by the hospital.

Five-percent Add-on for Rural Ground Ambulance Trips

      Present law fails to compensate for the long distances 
rural ambulances drive to treat patients.

Exclusion of Services Provided By Rural Health Clinic-based 
        Practitioners from SNF Consolidated Billing

      Present law requires providers based in a rural health 
clinic to submit their bills for services provided to nursing 
home patients to the nursing home rather than to Medicare.

Make 10-percent Bonus Payments under Medicare Incentive Payment Program 
        Automatic

      Present law requires physicians participating in the 
Medicare Incentive Payment program to apply for bonus payments 
when they elect to serve in Health Professional Shortage Areas.

Two-Year Extension of Reasonable Cost Payments for Laboratory Tests in 
        Sole Community Hospitals

      Present law allows laboratory tests performed in sole 
community hospitals to be paid at their reasonable cost, rather 
than under a fee schedule.

Set Work, Practice Expense and Malpractice Geographic Indices for 
        Physician Payments at 1.0

      Present law adjusts three components of physician 
payments under the physician fee schedule based on geography.

10-Year Freeze in CPI Updates for Durable Medical Equipment, 
        Prosthetics and Orthotics

      Present law produces payment updates equal to CPI for 
providers and suppliers in this category.

Collect Coinsurance and Deductible Amounts for Clinical Laboratory 
        Tests

      Present law includes no cost-sharing obligation for 
clinical laboratory tests.

Limit Reimbursement for Currently Covered Drugs

      Present law pays for limited prescription drugs and 
biologicals at 95 percent of the product's average wholesale 
price.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

Standardized Amount Equalization

      The Senate amendment raises the inpatient base rate for 
hospitals in rural and small urban areas to the same rate as 
that in large urban areas.

Equalization of Medicare Disproportionate Share (DSH) Payments

      The Senate amendment equalizes payments to both rural and 
urban hospitals that receive Medicare DSH payments.

Assistance for Low Volume Hospitals

      The Senate amendment improves payments for those 
hospitals with extremely low annual patient volume.

Revision of Labor Share to 62 percent

      The Senate amendment reduces the labor-related amount to 
62 percent of the national standardized amount.

Extend Hold Harmless for Rural Hospitals Under Hospital Outpatient 
        Prospective Payment System

      The Senate amendment protects rural hospitals against 
possible reductions due to the new outpatient prospective 
payment system through 2006.

Critical Access Hospital Improvements

      The Senate amendment (1) reinstates Periodic Interim 
Payment (PIP), which provides facilities with a steadier stream 
of payment in order to improve their cash flow; (2) eliminates 
the current requirement that CAH-based ambulance services be at 
least 35 miles from another ambulance service in order to 
receive cost-based payment; and (3) provides coverage for 
emergency on-call providers, and (4) excludes CAHs from the 
wage index calculation.

10-percent Add-on for Rural Home Health Agencies

      The Senate amendment extends special add-on payments that 
expired April 1, 2003 to rural home health agencies and makes 
them permanent.

Five-percent Add-on for Clinic and Emergency Room Visits for Small 
        Rural Hospitals

      The Senate amendment increases Medicare payment for 
visits to small rural hospitals' outpatient clinics and 
emergency rooms, which serve a critical primary care function 
in rural areas.

Five-percent Add-on for Rural Ground Ambulance Trips

      The Senate amendment extends a five-percent add-on 
payment for all ground ambulance trips provided in a rural 
area.

Exclusion of Services Provided By Rural Health Clinic-based 
        Practitioners From SNF Consolidated Billing

      The Senate amendment exempts practitioners based in rural 
health clinics from the requirement to submit their bills for 
services provided to nursing home patients to the nursing home 
rather than to Medicare, reducing administrative burdens and 
making their payments more predictable.

Make 10-percent Bonus Payments Under Medicare Incentive Payment Program 
        Automatic

      Present law requires physicians participating in the 
Medicare Incentive Payment program to apply for bonus payments 
when they elect to serve in Health Professional Shortage Areas. 
The Senate amendment makes bonus payments automatic to 
physicians participating in the Medicare Incentive Payment 
program, eliminating bureaucratic barriers to receipt of such 
funds.

Two-Year Extension of Reasonable Cost Payments for Laboratory Tests in 
        Sole Community Hospitals

      The Senate amendment extends the allowance for laboratory 
tests performed in sole community hospitals to be paid at their 
reasonable cost, rather than under a fee schedule for an 
additional two years.

Set Work, Practice Expense and Malpractice Geographic Indices for 
        Physician Payments at 1.0

      The Senate amendment sets a floor of 1.0 on geographic 
adjustments to the work, practice expense and professional 
liability insurance components of physician payment.

10-Year Freeze in CPI Updates for Durable Medical Equipment, 
        Prosthetics and Orthotics

      The Senate amendment freezes CPI updates for payment for 
durable medical equipment, prosthetics, and orthotics for ten 
years.

Collect Coinsurance and Deductible Amounts for Clinical Laboratory 
        Tests

      The Senate amendment extends the same coinsurance and 
deductible rules to clinical laboratory tests that apply to all 
other Part B services.

Limit Reimbursement for Currently Covered Drugs

      The Senate amendment lowers that amount paid for limited 
prescription drugs and biologicals to 85 percent of the 
product's average wholesale price, or the amount payable for 
the product during the last quarter of the previous year, 
whichever is lower.

                          CONFERENCE AGREEMENT

      The conference agreement does not in the Senate amendment 
provisions.

 E. Provisions Relating to S Corporations (Secs. 581-594 of the Senate 
             Amendment and Sections 1361-1379 of the Code)


                  1. Shareholders of an S corporation


                              PRESENT LAW

      The taxable income or loss of an S corporation is taken 
into account by the corporation's shareholders, rather than by 
the entity, whether or not such income is distributed. A small 
business corporation may elect to be treated as an S 
corporation. A ``small business corporation'' is defined as a 
domestic corporation which is not an ineligible corporation and 
which does not have (1) more than 75-shareholders; (2) as a 
shareholder, a person (other than certain trusts, estates, 
charities, and qualified retirement plans) who is not an 
individual; (3) a nonresident alien as a shareholder; and (4) 
more than one class of stock. For purposes of the 75-
shareholder limitation, a husband and wife are treated as one 
shareholder. An ``ineligible corporation'' means any 
corporation that is a member of an affiliated group, certain 
financial institutions that use the reserve method of 
accounting for bad debts, certain insurance companies, a 
section 936 corporation, or a DISC or former DISC.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision provides that all family 
members owning stock can elect to be treated as one 
shareholder. A family is defined as the lineal descendants of a 
common ancestor (and their spouses). The common ancestor cannot 
be more than six generations removed from the youngest 
generation of shareholder at the time the S election is made 
(or the effective date of this provision, if later). The 
election is made available to only one family per corporation, 
must be made with the consent of all shareholders of the 
corporation and remains in effect until terminated.
      The Senate amendment provision increases the maximum 
number of eligible shareholders from 75 to 100.
      Finally, under the Senate amendment nonresident aliens 
are allowed as beneficiaries of an electing small business 
trust.
      Effective date.--The Senate amendment provisions apply to 
taxable years beginning after December 31, 2003, except that 
the provision relating to nonresident aliens is effective on 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

2. Termination of election and additions to tax due to passive 
        investment income

                              PRESENT LAW

      An S corporation is subject to corporate-level tax, at 
the highest marginal corporate tax rate, on its net passive 
income if the corporation has (1) subchapter C earnings and 
profits at the close of the taxable year and (2) gross receipts 
more than 25 percent of which are passive investment income.
      In addition, an S corporation election is terminated 
whenever the corporation has subchapter C earnings and profits 
at the close of three consecutive taxable years and has gross 
receipts for each of such years more than 25 percent of which 
are passive investment income.
      For these purposes, ``passive investment income'' 
generally means gross receipts derived from royalties, rents, 
dividends, interest, annuities, and sales or exchanges of stock 
or securities (to the extent of gains). ``Passive investment 
income'' generally does not include interest on accounts 
receivable, gross receipts that are derived directly from the 
active and regular conduct of a lending or finance business, 
gross receipts from certain liquidations, or gain or loss from 
any section 1256 contract (or related property) of an options 
or commodity dealer. ``Net passive income'' is defined as 
passive investment income reduced by the allowable deductions 
that are directly connected with the production of the income.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision increases the 25-percent 
threshold to 60 percent.
      Also, the Senate amendment repeals capital gain as a 
category of passive income.
      Effective date.--The Senate amendment provision applies 
to taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

3. Treatment of S corporation shareholders

            (a) In general

                              PRESENT LAW

      In general, each S corporation shareholder takes into 
account its pro rata share of the S corporation income and loss 
for the taxable year.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision makes the following 
changes in the treatment of S corporation shareholders:
      Under the Senate amendment provision, if a shareholder's 
stock in an S corporation is transferred incident to a divorce 
decree, the pro rata share of any suspended corporate loss is 
transferred to the transferee spouse.
      Under the Senate amendment provision, the beneficiary of 
a qualified subchapter S trust is allowed the suspended losses 
under the at-risk rules and the passive loss rules when the 
trust disposes of the stock.
      Effective date.--The Senate amendment provisions apply to 
taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.
            (b) Electing small business trusts

                              PRESENT LAW

      Under present law, an electing small business trust 
(``ESBT'') may be an S corporation shareholder. In general, the 
beneficiaries of an ESBT must be individuals and others 
taxpayers that may own stock in an S corporation directly. Each 
potential current beneficiary of the trust is counted as a 
shareholder in determining whether or not the corporation meets 
the requirement that an S corporation have no more than 75 
shareholders.
      The portion of the trust consisting of S corporation 
stock is treated as a separate trust. The trust is taxed at the 
maximum trust tax rate (which is the same as the maximum 
individual tax rate) on the items of income, deduction, gain, 
or loss passing through from the S corporation. The remaining 
portion of the trust is treated as a separate trust taxed under 
the normal rules relating to the taxation of trusts and 
beneficiaries. In computing the amount of the distribution 
deduction for the trust, no subchapter S items are taken into 
account.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment provision, unexercised powers 
of appointment are disregarded in determining the beneficiaries 
of an electing small business trust.
      Under the Senate amendment provision, the treatment of 
distributions from an electing small business trust is 
clarified by treating distributions from each portion (i.e., 
the portion attributable to the S corporation stock and the 
remaining portion) of the trust as separate distributions.
      Effective date.--The Senate amendment provisions apply to 
taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the provision 
in the Senate amendment provision.

4. Provisions relating to banks

            (a) IRAs holding bank stock

                              PRESENT LAW

      An individual retirement arrangement (``IRA'') may not 
hold stock in an S corporation.
      The Code contains rules prohibiting certain transactions 
between disqualified persons and certain tax-favored retirement 
arrangements, including IRAs. These rules are designed to 
prevent certain self-dealing transactions. For example, the 
sale of an asset held by an IRA to the beneficiary of the IRA 
is a prohibited transaction. In general, an excise tax is 
imposed on prohibited transactions. In the case of an IRA, 
however, if the IRA beneficiary engages in a prohibited 
transaction, the excise tax does not apply and, instead, the 
IRA ceases to be an IRA.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision provides that the sale of 
holding bank stock held in an IRA to the beneficiary of the IRA 
is not a prohibited transaction, in order to allow the 
corporation to be eligible to elect to be an S corporation.
      Effective date.--The Senate amendment provision applies 
to stock held by an IRA on the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.
            (b) Exclusion of investment securities income from passive 
                    income test for bank S corporations

                              PRESENT LAW

      An S corporation is subject to corporate-level tax, at 
the highest marginal corporate tax rate, on its net passive 
income if the corporation has (1) subchapter C earnings and 
profits at the close of the taxable year and (2) gross receipts 
more than 25 percent of which are passive investment income.
      In addition, an S corporation election is terminated 
whenever the corporation has subchapter C earnings and profits 
at the close of three consecutive taxable years and has gross 
receipts for each of such years more than 25 percent of which 
are passive investment income.
      For these purposes, ``passive investment income'' 
generally means gross receipts derived from royalties, rents, 
dividends, interest, annuities, and sales or exchanges of stock 
or securities (to the extent of gains). ``Passive investment 
income'' generally does not include interest on accounts 
receivable, gross receipts that are derived directly from the 
active and regular conduct of a lending or finance business, 
gross receipts from certain liquidations, or gain or loss from 
any section 1256 contract (or related property) of an options 
or commodity dealer. ``Net passive income'' is defined as 
passive investment income reduced by the allowable deductions 
that are directly connected with the production of the income.

                               HOUSE BILL

      No amendment.

                            SENATE AMENDMENT

      The Senate amendment provision provides that, in the case 
of a bank or bank holding company, passive income does not 
include interest and does not include dividends on assets 
required to be held by the bank or bank holding company.
      Effective date.--The Senate amendment provision applies 
to taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.
            (c) Treatment of qualifying director shares

                              PRESENT LAW

      A small business corporation may elect to be treated as 
an S corporation. A ``small business corporation'' is defined 
as a domestic corporation which is not an ineligible 
corporation and which does not have (1) more than 75 
shareholders; (2) as a shareholder, a person (other than 
certain trusts, estates, charities, or qualified retirement 
plans) who is not an individual; (3) a nonresident alien as a 
shareholder; and (4) more than one class of stock.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment provision, shares held by 
reason of being a bank director that are subject to an 
agreement pursuant to which the holder is required to dispose 
of the shares upon termination of the holder's status as a 
director at the same price the individual acquired the shares 
are not treated as a second class of stock. Distributions are 
treated like interest payments.
      Effective date.--The Senate amendment provision applies 
to taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

5. Qualified subchapter S subsidiaries

            (a) Relief from inadvertently invalid qualified subchapter 
                    S subsidiaries and elections and terminations

                              PRESENT LAW

      Under present law, inadvertent subchapter S elections and 
terminations may be waived.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision allows inadvertent 
qualified subchapter S subsidiary elections and terminations to 
be waived by the IRS.
      Effective date.--The Senate amendment provision applies 
to taxable years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.
            (b) Information returns for qualified subchapter S 
                    subsidiaries

                              PRESENT LAW

      Under present law, a wholly owned subsidiary of an S 
corporation may elect to be treated as not a separate 
corporation. The assets, liabilities, and items of income, 
deduction, and credit of the subsidiary are treated as assets, 
liabilities, and items of the parent S corporation.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision provides authority to the 
Secretary of the Treasury to provide guidance regarding 
information returns of subchapter S subsidiaries.
      Effective date.--The Senate amendment provision applies 
to taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

6. Elimination of all earnings and profits attributable to pre-1983 
        years

                              PRESENT LAW

      The Small Business Job Protection Act of 1996 provided 
that if a corporation was an S corporation for its first 
taxable year beginning after 1996, the accumulated earnings and 
profits of the corporation were reduced as of the beginning of 
that year by the accumulated earnings and profits (if any) 
accumulated in a taxable year beginning before 1983 for which 
the corporation was an electing small business corporation 
under subchapter S.

                               HOUSE BILL

      No provision.

                            Senate Amendment

      The Senate amendment provision eliminates all accumulated 
earnings and profits of a corporation accumulated in a taxable 
year beginning before 1983 for which the corporation was an 
electing small business corporation under subchapter S.
      Effective date.--The Senate amendment provision applies 
to taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

VIII. Blue Ribbon Commission on Comprehensive Tax Reform (Secs. 601-607 
                        of the Senate Amendment)


                              PRESENT LAW

      No provision.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment establishes the Blue Ribbon 
Commission on Comprehensive Tax Reform (the ``Commission''). 
The Commission is composed of 12 members, of whom: (1) one is 
the Chairman of the Board of the Federal Reserve System; (2) 
two are appointed by the majority leader of the Senate; (3) two 
are appointed by the minority leader of the Senate; (4) two are 
appointed by the Speaker of the House of Representatives; (5) 
two are appointed by the minority leader of the House of 
Representatives; and (6) three are appointed by the President, 
of which no more than two will be of the same party as the 
President. Members of the Commission may be employees or former 
employees of the Federal Government. Appointments of Commission 
members will be made not later than July 30, 2003. Members of 
the Commission will be appointed for the life of the 
Commission. Any vacancy in the Commission will not affect its 
powers but will be filled in the same manner as the original 
appointment.
      The Commission will hold its first meeting not later than 
30 days after the date on which all Commission members have 
been appointed. The President will select a Commission Chairman 
(``Chairman'') and Vice Chairman from among the members of the 
Commission. The Commission will meet at the call of the 
Chairman. A majority of the members of the Commission will 
constitute a quorum, but a lesser number of members may hold 
hearings (discussed below).
      The Commission will conduct a thorough study of all 
matters relating to a comprehensive reform of the Federal tax 
system, including the reform of the Internal Revenue Code of 
1986 and the implementation (if appropriate) of other types of 
tax systems. The Commission will develop recommendations on how 
to comprehensively reform the Federal tax system in a manner 
that generates appropriate revenue for the Federal Government. 
Not later than 18 months after the date on which all initial 
members of the Commission have been appointed, the Commission 
will submit a report to the President and Congress which will 
contain a detailed statement of the findings and conclusions of 
the Commission, together with its recommendations for such 
legislation and administrative actions as it considers 
appropriate.
      The Commission may hold such hearings, sit and act at 
such times and places, take such testimony, and receive such 
evidence as the Commission considers advisable to carry out the 
amendment. Additionally, the Commission may secure directly 
from any Federal department or agency such information as the 
Commission considers necessary to carry out the amendment. Upon 
request of the Chairman, the head of such department or agency 
will furnish suchinformation to the Commission. The Commission 
may use the United States mails in the same manner and under the same 
condition as other departments and agencies of the Federal Government. 
The Commission may accept, use, and dispose of gifts or donations of 
services or property.
      Each member of the Commission who is not an officer or 
employee of the Federal Government will be compensated at a 
rate equal to the daily equivalent of a prescribed annual rate 
of pay \384\ for each day (including travel time) during which 
such member is engaged in the performance of the duties of the 
Commission. All members of the Commission who are officers or 
employees of the United States will serve without compensation 
in addition to that received for their services as officers or 
employees of the United States. Commission members will be 
allowed travel expenses, including per diem in lieu of 
subsistence, at rates authorized for employees of agencies 
while away from their homes or regular places of business in 
the performance of services for the Commission.\385\
---------------------------------------------------------------------------
    \384\ The applicable rate of pay is the basic pay prescribed for 
level IV of the Executive Schedule under 5 U.S.C. 5315.
    \385\ Subchapter I of chapter 57 of title 5, U.S.C.
---------------------------------------------------------------------------
      The Chairman, without regard to the civil service laws 
and regulations, may appoint and terminate an executive 
director and such other additional personnel as may be 
necessary to enable the Commission to perform its duties. The 
employment of an executive director will be subject to 
confirmation by the Commission. The Chairman may fix the 
compensation of the executive director and other personnel 
without regard to classification of positions and general 
schedule pay rates,\386\ except that the rate of pay for the 
executive director and other personnel may not exceed the rate 
payable for level V of the executive schedule.\387\
---------------------------------------------------------------------------
    \386\ Chapter 51 and subchapter III of chapter 53 of title 5, 
U.S.C.
    \387\ 5 U.S.C. 5316.
---------------------------------------------------------------------------
      Any employee of the Federal Government may be detailed to 
the Commission without reimbursement, and such detail will be 
without interruption or loss of civil service status or 
privilege. The Chairman may procure temporary and intermittent 
services \388\ at rates for individuals which do not exceed the 
daily equivalent of the annual rate of basic pay prescribed for 
level V of the executive schedule.
---------------------------------------------------------------------------
    \388\ 5 U.S.C. 3109(b).
---------------------------------------------------------------------------
      The Commission will terminate 90 days after the date on 
which the Commission submits the report required by the 
provision. Such sums as are necessary to carry out the Senate 
amendment are appropriated.
      Effective date.--The Senate amendment is effective on the 
date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

                          IX. REIT Provisions


A. REIT Modification Provisions (Secs. 701-707 of the Senate Amendment 
                   and Secs. 856 and 857 of the Code)


                              PRESENT LAW

In general

      Real estate investment trusts (``REITs'') are treated, in 
substance, as pass-through entities under present law. Pass-
through status is achieved by allowing the REIT a deduction for 
dividends paid to its shareholders. REITs are generally 
restricted to investing in passive investments primarily in 
real estate and securities.
      A REIT must satisfy four tests on a year-by-year basis: 
organizational structure, source of income, nature of assets, 
and distribution of income. Whether the REIT meets the asset 
tests is generally measured each quarter.

Organizational structure requirements

      To qualify as a REIT, an entity must be for its entire 
taxable year a corporation or an unincorporated trust or 
association that would be taxable as a domestic corporation but 
for the REIT provisions, and must be managed by one or more 
trustees. The beneficial ownership of the entity must be 
evidenced by transferable shares or certificates of ownership. 
Except for the first taxable year for which an entity elects to 
be a REIT, the beneficial ownership of the entity must be held 
by 100 or more persons, and the entity may not be so closely 
held by individuals that it would be treated as a personal 
holding company if all its adjusted gross income constituted 
personal holding company income. A REIT is disqualified for any 
year in which it does not comply with regulations to ascertain 
the actual ownership of the REIT's outstanding shares.

Income requirements

      In order for an entity to qualify as a REIT, at least 95 
percent of its gross income generally must be derived from 
certain passive sources (the ``95-percent income test''). In 
addition, at least 75 percent of its income generally must be 
from certain real estate sources (the ``75-percent income 
test''), including rents from real property (as defined) and 
gain from the sale or other disposition of real property.
            Qualified rental income
      Amounts received as impermissible ``tenant services 
income'' are not treated as rents from real property.\389\ In 
general, such amounts are for services rendered to tenants that 
are not ``customarily furnished'' in connection with the rental 
of real property.\390\ Special rules also permit amounts to be 
received from certain ``foreclosure property'' treated as such 
for 3 years after the property is acquired by the REIT in 
foreclosure after a default (or imminent default) on a lease of 
such property or an indebtedness which such property secured.
---------------------------------------------------------------------------
    \389\ A REIT is not treated as providing services that produce 
impermissible tenant services income if such services are provided by 
an independent contractor from whom the REIT does not derive or receive 
any income. An independent contractor is defined as a person who does 
not own, directly or indirectly, more than 35 percent of the shares of 
the REIT. Also, no more than 35 percent of the total shares of stock of 
an independent contractor (or of the interests in net assets or net 
profits, if not a corporation) can be owned directly or indirectly by 
persons owning 35 percent or more of the interests in the REIT.
    \390\ Rents for certain personal property leased in connection are 
treated as rents from real property if the fair market value of the 
personal property does not exceed 15 percent of the aggregate fair 
market values of the real and personal property
---------------------------------------------------------------------------
      Rents from real property, for purposes of the 95-percent 
and 75-percent income tests, generally do not include any 
amount received or accrued from any person in which the REIT 
owns, directly or indirectly, 10 percent or more of the vote or 
value.\391\ An exception applies to rents received from a 
taxable REIT subsidiary (``TRS'') (described further below) if 
at least 90 percent of the leased space of the property is 
rented to persons other than a TRS or certain related persons, 
and if the rents from the TRS are substantially comparable to 
unrelated party rents.\392\
---------------------------------------------------------------------------
    \391\ Section 856(d)(2)(B).
    \392\ Section 856(d)(8).
---------------------------------------------------------------------------
            Certain hedging instruments
      Except as provided in regulations, a payment to a REIT 
under an interest rate swap or cap agreement, option, futures 
contract, forward rate agreement, or any similar financial 
instrument, entered into by the trust in a transaction to 
reduce the interest rate risks with respect to any indebtedness 
incurred or to be incurred by the REIT to acquire or carry real 
estate assets, and any gain from the sale or disposition of any 
such investment, is treated as income qualifying for the 95-
percent income test.
            Tax if qualified income tests not met
      If a REIT fails to meet the 95-percent or 75-percent 
income tests but has set out the income it did receive in a 
schedule and any error in the schedule is due to reasonable 
cause and not willful neglect, then the REIT does not lose its 
REIT status but instead pays a tax measured by the greater of 
the amount by which 90 percent \393\ of the REIT's gross income 
exceeds the amount of items subject to the 95-percent test, or 
the amount by which 75 percent of the REIT's gross income 
exceeds the amount of items subject to the 75-percent 
test.\394\
---------------------------------------------------------------------------
    \393\ Prior to 1999, the rule had applied to the amount by which 95 
percent of the income exceeded the items subject to the 95 percent 
test.
    \394\ The ratio of the REIT's net to gross income is applied to the 
excess amount, to determine the amount of tax (disregarding certain 
items otherwise subject to a 100-percent tax). In effect, the formula 
seeks to require that all of the REIT net income attributable to the 
failure of the income tests will be paid as tax. Sec. 857(b)(5).
---------------------------------------------------------------------------
            Income or loss from prohibited transactions
      In general, a REIT must derive its income from passive 
sources and not engage in any active trade or business. A 100 
percent tax is imposed on the net income of a REIT from 
``prohibited transactions''. A prohibited transaction is the 
sale or other disposition of property described in section 
1221(1) of the Code (property held for sale in the ordinary 
course of a trade or business) other than foreclosure 
property.\395\ A safe harbor is provided for certain sales of 
rent producing real property that otherwise might be considered 
prohibited transactions. The safe harbor is limited to seven or 
fewer sales a year or, alternatively, any number of sales 
provided that the aggregate adjusted basis of the property sold 
does not exceed 10 percent of the aggregate basis of all the 
REIT's assets at the beginning of the REIT's taxable year. The 
safe harbor only applies to property that has been held by the 
REIT for at least 4 years. In addition, property is eligible 
for the safe harbor only if the aggregate expenditures made 
directly or indirectly by the REIT during the 4-year period 
prior to date of sale do not exceed 30 percent of the net 
selling price of the property.
---------------------------------------------------------------------------
    \395\ Thus, the 100 percent tax on prohibited transactions helps to 
ensure that the REIT is a passive entity and may not engage in ordinary 
retailing activities such as sales to customers of condominium units or 
subdivided lots in a development project.
---------------------------------------------------------------------------
            Certain timber income
      REITs have been formed to hold land on which trees are 
grown. Upon maturity of the trees, the standing trees are sold 
by the REIT to its taxable REIT subsidiary, which cuts and logs 
the trees and processes the timber to produce lumber, lumber 
products such a plywood or composite. The Internal Revenue 
Service has issued private letter rulings in particular 
instances stating that the income can qualify as REIT real 
property income because the uncut timber and the timberland on 
which the timber grew is considered real property and the sale 
of uncut trees can qualify as capital gain derived from the 
sale of real property.\396\
---------------------------------------------------------------------------
    \396\ See, e.g., PLR 200052021, PLR 199945055, PLR 19927021, PLR 
8838016. A private letter ruling may be relied upon only by the 
taxpayer to which the ruling is issued. However, such rulings provide 
an indication of administrative practice.
---------------------------------------------------------------------------

Asset requirements

      To satisfy the asset requirements to qualify for 
treatment as a REIT, at the close of each quarter of its 
taxable year, an entity must have at least 75 percent of the 
value of its assets invested in real estate assets, cash and 
cash items, and government securities (the ``75-percent asset 
test''). The term real estate asset is defined to mean real 
property (including interests in real property and mortgages on 
real property) and interests in REITs.
            Limitation on investment in other entities
      A REIT is limited in the amount that it can own in other 
corporations. Specifically, a REIT cannot own securities (other 
than Government securities and certain real estate assets) in 
an amount greater than 25 percent of the value of REIT assets. 
In addition, it cannot own such securities of any one issuer 
representing more than 5 percent of the total value of REIT 
assets or more than 10 percent of the voting securities or 10 
percent of the value of the outstanding securities of any one 
issuer. Securities for purposes of these rules are defined by 
reference to the Investment Company Act of 1940.
            ``Straight debt'' exception
      Securities of an issuer that are within a safe-harbor 
definition of ``straight debt'' (as defined for purposes of 
subchapter S \397\ are not taken into account in applying the 
limitation that a REIT may not hold more than 10 percent of the 
value of outstanding securities of a single issuer, if: (1) the 
issuer is an individual, or (2) the only securities of such 
issuer held by the REIT or a taxable REIT subsidiary of the 
REIT are straight debt, or (3) the issuer is a partnership and 
the trust holds at least a 20 percent profits interest in the 
partnership.
---------------------------------------------------------------------------
    \397\ Section 1361(c)(5), without regard to paragraph (B)(iii) 
thereof.
---------------------------------------------------------------------------
      Straight debt is defined as a written or unconditional 
promise to pay on demand or on a specified date a sum certain 
in money if (i) the interest rate (and interest payment dates) 
are not contingent on profits, the borrower's discretion, or 
similar factors; (ii) there is no convertibility (directly or 
indirectly) into stock; and (iii) the creditor is an individual 
(other than a nonresident alien), an estate, certain trusts, or 
a person which is actively and regularly engaged in the 
business of lending money.
            Certain subsidiary ownership permitted with income treated 
                    as income of the REIT
      Under one exception to the rule limiting a REIT's 
securities holdings to no more than 10 percent of the vote or 
value of a single issuer, a REIT can own 100 percent of the 
stock of a corporation, but in that case the income and assets 
of such corporation are treated as income and assets of the 
REIT.
            Special rules for Taxable REIT subsidiaries
      Under another exception to the general rule limiting REIT 
securities ownership of other entities, a REIT can own stock of 
a taxable REIT subsidiary (``TRS''), generally, a corporation 
other than a real estate investment trust \398\ with which the 
REIT makes a joint election to be subject to special rules. A 
TRS can engage in active business operations that would produce 
income that would not be qualified income for purposes of the 
95-percent or 75-percent income tests for a REIT, and that 
income is not attributed to the REIT. For example a TRS could 
provide noncustomary services to REIT tenants, or it could 
engage directly in the active operation and management of real 
estate (without use of an independent contractor); and the 
income the TRS derived from these nonqualified activities would 
not be treated as disqualified REIT income. Transactions 
between a TRS and a REIT are subject to a number of specified 
rules that are intended to prevent the TRS (taxable as a 
separate corporate entity) from shifting taxable income from 
its activities to the pass through entity REIT or from 
absorbing more than its share of expenses. Under one rule, a 
100 percent excise tax is imposed on rents, deductions, or 
interest paid by the TRS to the REIT to the extent such items 
would exceed an arm's length amount as determined under section 
482.\399\
---------------------------------------------------------------------------
    \398\ Certain corporations are not eligible to be a TRS, such as a 
corporation which directly or indirectly operates or manages a lodging 
facility or a health care facility or directly or indirectly provides 
to any other person rights to a brand name under which any lodging 
facility or health care facility is operated. Sec. 856((1)(3).
    \399\ If the excise tax applies, the item is not also reallocated 
back to the TRS under section 482.
---------------------------------------------------------------------------
      Rents subject to the 100 percent excise tax do not 
include rents for services of a TRS that are for services 
customarily furnished or rendered in connection with the rental 
of real property.
      They also do not include rents from a TRS that are for 
real property or from incidental personal property provided 
with such real property.

Income distribution requirements

      A REIT is generally required to distribute 90 percent of 
its income before the end of its taxable year, as deductible 
dividends paid to shareholders. This rule is similar to a rule 
for regulated investment companies (``RICs'') that requires 
distribution of 90 percent of income. Both RICS and REITs can 
make certain ``deficiency dividends'' after the close of the 
taxable year, and have these treated as made before the end of 
the year. Deficiency dividends may be declared on or after the 
date of ``determination''. A determination is defined to 
include only (i) a final decision by the Tax Court or other 
court of competent jurisdiction, (ii) a closing agreement under 
section 7121, or (iii) under Treasury regulations, an agreement 
signed by the Secretary and the REIT.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment makes a number of modifications to 
the REIT rules.

Straight debt modification

      The provision modifies the definition of ``straight 
debt'' for purposes of the limitation that a REIT may not hold 
more than 10 percent of the value of the outstanding securities 
of a single issuer, to provide more flexibility than the 
present law rule. In addition, except as provided in 
regulations, neither such straight debt nor certain other types 
of securities are considered ``securities'' for purposes of 
this rule.
            Straight debt securities
      ``Straight-debt'' is still defined by reference to 
section 1361(c)(5), however, without regard to subparagraph 
(B)(iii) thereof (limiting the nature of the creditor).
      Special rules are provided permitting certain 
contingencies for purposes of the REIT provision. Any interest 
or principal shall not be treated as failing to satisfy section 
1361(c)(5)(B)(i) solely by reason of the fact that the time of 
payment of such interest or principal is subject to a 
contingency, but only if one of several factors applies. The 
first type of contingency that is permitted is one that does 
not have the effect of changing the effective yield to 
maturity, as determined under section 1272, other than a change 
in the annual yield to maturity which either (i) does not 
exceed the greater of \1/4\ of 1 percent or 5 percent of the 
annual yield to maturity, or (ii) results solely from a default 
or the exercise of a prepayment right by the issuer of the 
debt.
      The second type of contingency that is permitted is one 
under which neither the aggregate issue price nor the aggregate 
face amount of the debt instruments held by the REIT exceeds 
$1,000,000 and not more than 12 months of unaccrued interest 
can be required to be prepaid thereunder.
      The bill eliminates the present law rule requiring a REIT 
to own a 20 percent equity interest in a partnership in order 
for debt to qualify as ``straight debt''. The bill instead 
provides new ``look-through'' rules determining a REIT 
partner's share of partnership securities, generally treating 
debt to the REIT as part of the REIT's partnership interest for 
this purpose, except in the case of otherwise qualifying debt 
of the partnership.
      Certain corporate or partnership issues that otherwise 
would be permitted to be held without limitation under the 
special straight debt rules described above will not be so 
permitted if the REIT holding such securities, and any of its 
taxable REIT subsidiaries, holds any securities of the issuer 
which are not permitted securities (prior to the application of 
this rule) and have an aggregate value greater than 1 percent 
of the issuer's outstanding securities.
            Other securities
      Except as provided in regulations, the following also are 
not considered ``securities'' for purposes of the rule that a 
REIT cannot own more than 10 percent of the value of the 
outstanding securities of a single issuer: (i) any loan to an 
individual or an estate, (ii) any section 467 rental agreement, 
(as defined in section 467(d)), other than with a person 
described in section 856(d)(2)(B), (iii) any obligation to pay 
rents from real property, (iv) any security issued by a State 
or any political subdivision thereof, the District of Columbia, 
a foreign government, or any political subdivision thereof, or 
the Commonwealth of Puerto Rico, but only if the determination 
of any payment received or accrued under such security does not 
depend in whole or in part on the profits of any entity not 
described in this category, or payments on any obligation 
issued by such an entity, (v) any security issued by a real 
estate investment trust; (vi) any other arrangement that, as 
determined by the Secretary, is excepted from the definition of 
a security.

Safe harbor testing date for certain rents

      The bill provides specific safe-harbor rules regarding 
the dates for testing whether 90 percent of a REIT property is 
rented to unrelated persons and whether the rents paid by 
related persons are substantially comparable to unrelated party 
rents. These testing rules are provided solely for purposes of 
the special provision permitting rents received from a related 
party to be treated as qualified rental income for purposes of 
the income tests.\400\
---------------------------------------------------------------------------
    \400\ The proposal does not modify any of the standards of section 
482 as they apply to REITS and to taxable REIT subsidiaries.
---------------------------------------------------------------------------

Customary services exception

      The bill prospectively eliminates the safe harbor 
allowing rents received by a REIT to be exempt from the 100 
percent excise tax if the rents are for customary services 
performed by the TRS \401\ or are from a TRS and are for the 
provision of certain incidental personal property. Instead, 
such payments would be free of the excise tax if they satisfy 
the present law safe-harbor that applies if the REIT pays the 
TRS at least 150 percent of the cost to the TRS of providing 
any services.
---------------------------------------------------------------------------
    \401\ Although a REIT could itself provide such services and 
receive the income for them without receiving any disqualified income, 
in that case the REIT itself would be bearing the cost of providing the 
service. Under the present law exception for a TRS providing such 
service, there is no explicit requirement that the TRS be reimbursed 
for the full cost of the service.
---------------------------------------------------------------------------

Hedging rules

      The rules governing the tax treatment of arrangements 
engaged in by a REIT to reduce interest rate risks are 
prospectively conformed to the rules included in section 1221.

95-percent gross income requirement

      The bill prospectively amends the tax liability owed by 
the REIT when it fails to meet the 95-percent of gross income 
test by applying a taxable fraction based on 95 percent, rather 
than 90 percent of the REIT's gross income.

Safe harbor from prohibited transactions for certain timberland sales

      The bill provides that a sale of a real estate asset will 
not be a prohibited transaction the following six requirements 
are met:
            (1) The asset must have been held for at least 4 
        years in the trade or business of producing timber;
            (2) The aggregate expenditures made the REIT (or a 
        partner of the REIT) during the 4-year period preceding 
        the date of sale that are includible in the basis of 
        the property that are directly related to the operation 
        of the property for the production of timber or for the 
        preservation of the property for use as timberland must 
        not exceed 30 percent of the net selling price of the 
        property;
            (3) The aggregate expenditures made the REIT (or a 
        partner of the REIT) during the 4-year period preceding 
        the date of sale that are includible in the basis of 
        the property that do not qualify under the second 
        requirement (i.e., those expenditures are not directly 
        related to the operation of the property for the 
        production of timber or the preservation of the 
        property for use as timberland) must not exceed 5 
        percent of the net selling price of the property;
            (4) The REIT either (i) does not make more than 7 
        sales of property (other than sales of foreclosure 
        property or sales to which 1033 applies) or (ii) the 
        aggregate adjusted bases (as determined for purposes of 
        computing earnings and profits) of property sold during 
        the year (other than sales of foreclosure property or 
        sales to which 1033 applies) does not exceed 10 percent 
        of the aggregate bases (as determined for purposes of 
        computing earnings and profits)of property of all 
        assets of the REIT as of the beginning of the year;
            (5) Substantially all of the marketing expenditure 
        with respect to the property are made by persons who an 
        independent contractor (as defined by section 856(d)(3) 
        with respect to the REIT and from whom the REIT does 
        not derive any income; and
            (6) The sales price of the sale of the property to 
        a taxable REIT subsidiary cannot be based in whole or 
        in part on the income or profits that the subsidiary 
        derives from the sales of such properties.
      Costs that are not includible in the basis of the 
property are not counted towards either the 30 or 5 percent 
requirements.
            Capital expenditures counted towards 30-percent requirement
      Capital expenditures counted towards the 30-percent limit 
are those expenditures that are includible in the basis of the 
property (other than timberland acquisition expenditures), and 
that are directly related to operation of the property for the 
production of timber, or for the preservation of the property 
for use as timberland. These capital expenditures are those 
incurred directly in the operation of raising timber (i.e., 
silviculture), as opposed to capital expenditures incurred in 
the ownership of undeveloped land. In general, these capital 
expenditures incurred directly in the operation of raising 
timber include capital expenditures incurred by the REIT to 
create an established stand of growing trees. A stand of trees 
is considered established when a target stand exhibits the 
expected growing rate and is free of non-target competition 
(e.g., hardwoods; grasses, brush, etc.) that may significantly 
inhibit or threaten the target stand survival. The costs 
commonly incurred during stand establishment are: (1) site 
preparation including manual or mechanical scarification, 
manual or mechanical cutting, disking, bedding, shearing, 
raking, piling, broadcast and windrow/pile burning (including 
slash disposal costs as required for stand establishment); (2) 
site regeneration including manual or mechanical hardwood 
coppice; (3) chemical application via aerial or ground to 
eliminate or reduce vegetation; (4)nursery operating costs 
including personnel salaries and benefits, facilities costs, cone 
collection and seed extraction, and other costs directly attributable 
to the nursery operations (to the extent such costs are allocable to 
seedlings used by the REIT); (5) seedlings including storage, 
transportation and handling equipment; (6) direct planting of 
seedlings; (7) initial stand fertilization, up through stand 
establishment; (8) construction cost of road to be used for removal of 
logs or fire protection; (9) environmental costs (i.e., habitat 
conservation plans), (10) any post stand capital establishment costs 
(e.g., ``mid-term fertilization costs).''
            Capital expenditures counted towards 5-percent requirement
      Capital expenditures counted towards the 5-percent limit 
are those capital expenditures incurred in the ownership of 
undeveloped land that are not incurred in the direct operation 
of raising timber (i.e., silviculture). This category of 
capital expenditures includes (1) expenditures to separate the 
REIT's holdings of land into separate parcels; (2) costs of 
granting leases or easements to cable, cellular or similar 
companies, (3) costs in determining the presence or quality of 
minerals located on the land; (4) costs incurred to defend 
changes in law that would limit future use of the land by the 
REIT or a purchaser from the REIT; and (5) costs incurred to 
determine alternative uses of the land (e.g., recreational 
use); and (6) development costs of the property incurred by the 
REIT (e.g., engineering, surveying, legal, permit, consulting, 
road construction, utilities, and other development costs for 
use other than to grow timber).

Effective date

      The bill is generally effective for taxable years 
beginning after December 31, 2000.
      However, some of the provisions are effective for taxable 
years beginning after the date of enactment. These are: the new 
``look through'' rules determining a REIT partner's share of 
partnership securities for purposes of the ``straight debt'' 
rules; the provision changing the 90-percent of gross income 
reference to 95 percent, for purposes of the tax liability if a 
REIT fails to meet the 95-percent of gross income test; the new 
hedging definition; the rule modifying the treatment of rents 
with respect to customary services; and the safe harbor from 
prohibited transactions relating to timberland sales.\402\
---------------------------------------------------------------------------
    \402\ The provision relating to timberland sales is not intended to 
change present law regarding when structures involving timberland may 
qualify for REIT status.
---------------------------------------------------------------------------

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

B. REIT Savings Provisions (Sec. 711 of the Senate Amendment and Secs. 
                     856, 857 and 860 of the Code)


                              PRESENT LAW

      A REIT loses its status as a REIT, and becomes subject to 
tax as a C corporation, if it fails to meet specified tests 
regarding the sources of its income, the nature and amount of 
its assets, its structure, and the amount of its income 
distributed to shareholders.\403\
---------------------------------------------------------------------------
    \403\ See description of Present Law under REIT modification 
provisions, supra.
---------------------------------------------------------------------------
      In the case of a failure to meet the source of income 
requirements, if the failure is due to reasonable cause and not 
to willful neglect, the REIT may continue its REIT status if it 
pays the disallowed income as a tax to the Treasury.\404\
---------------------------------------------------------------------------
    \404\ Sec. 856(c)(6) and Sec. 857(b)(5).
---------------------------------------------------------------------------
      There is no similar provision that allows a REIT to pay a 
penalty and avoid disqualification in the case of other 
qualification failures.
      A REIT may make a deficiency dividend after a 
determination is made that it has not distributed the correct 
amount of its income, and avoid disqualification. The Code 
provides only for determinations involving a controversy with 
the IRS and does not provide for a REIT to make such a 
distribution on its own initiative.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      Under the Senate amendment, a REIT may avoid 
disqualification in the event of certain failures of the 
requirements for REIT status, provided that (1) the failure was 
due to reasonable cause and not willful neglect, (2) the 
failure is corrected, and (3) a penalty amount is paid.
      One requirement of present law is that, with certain 
exceptions, (i) not more than 5 percent of the value of total 
REIT assets may be represented by securities of one issuer, and 
(ii) a REIT may not hold securities possessing more than 10 
percent of the total voting power or 10 percent of the total 
value of the outstanding securities of any one issuer.\405\ The 
requirements must be satisfied each quarter.
---------------------------------------------------------------------------
    \405\ Sec. 856(c)(4)(B)(iii). These rules do not apply to 
securities of a taxable REIT subsidiary, or to securities that qualify 
for the 75 percent asset test of section 856(c)(4)(A), such as real 
estate assets, cash items (including receivables), or Government 
securities.
---------------------------------------------------------------------------
            Certain de minimis asset failures of 5-percent or 10-
                    percent tests
      The bill provides that a REIT will not lose its REIT 
status for failing to satisfy these requirements in a quarter 
if the failure is due to the ownership of assets the total 
value of which does not exceed the lesser of (i) 1 percent of 
the total value of the REIT's assets at the end of the quarter 
for which such measurement is done or (ii) 10 million dollars; 
provided in either case that the REIT either disposes of the 
assets within 6 months after the last day of the quarter in 
which the REIT identifies the failure (or such other time 
period prescribed by the Treasury), or otherwise meets the 
requirements of those rules by the end of such time 
period.\406\
---------------------------------------------------------------------------
    \406\ A REIT might satisfy the requirements without a disposition, 
for example, by increasing its other assets in the case of the 5 
percent rule; or by the issuer modifying the amount or value of its 
total securities outstanding in the case of the 10 percent rule.
---------------------------------------------------------------------------
            Larger asset test failures (whether of 5-percent or 10-
                    percent tests, or of 75-percent or other asset 
                    tests)
      If a REIT fails to meet any of the asset test 
requirements requirements for a particular quarter and the 
failure exceeds the de minimis threshold described above, then 
the REIT still will be deemed to have satisfied the 
requirements if: (i) following the REIT's identification of the 
failure, the REIT files a schedule with a description of each 
asset that caused the failure, in accordance with regulations 
prescribed by the Treasury; (ii) the failure was due to 
reasonable cause and not to willful neglect, (iii) the REIT 
disposes of the assets within 6 months after the last day of 
the quarter in which the identification occurred or such other 
time period as is prescribed by the Treasury (or the 
requirements of the rules are otherwise met within such 
period), and (iv) the REIT pays a tax on the failure.
      The tax that the REIT must pay on the failure is the 
greater of (i) $50,000, or (ii) an amount determined (pursuant 
to regulations) by multiplying the highest rate of tax for 
corporations under section 11, times the net income generated 
by the assets for the period beginning on the first date of the 
failure and ending on the date the REIT has disposed of the 
assets (or otherwise satisfies the requirements).
      Such taxes are treated as excise taxes, for which the 
deficiency provisions of the excise tax subtitle of the Code 
(subtitle F) apply.
            Conforming reasonable cause and reporting standard for 
                    failures of income tests
      The bill conforms the reporting and reasonable cause 
standards for failure to meet the income tests to the new asset 
test standards. However, the bill does not change the rule 
under section 857(b)(5) that for income test failures, all of 
the net income attributed to the disqualified gross income is 
paid as tax.
            Other failures
      The bill adds a provision under which, if a REIT fails to 
satisfy one or more requirements for REIT qualification, other 
than the 95-percent and 75-percent gross income tests and other 
than the new rules provided for failures of the asset tests, 
the REIT may retain its REIT qualification if the failures are 
due to reasonable cause and not willful neglect, and if the 
REIT pays a penalty of $50,000 for each such failure.
            Taxes and penalties paid deducted from amount required to 
                    be distributed
      Any taxes or penalties paid under the provision are 
deducted from the net income of the REIT in determining the 
amount the REIT must distribute under the 90 percent 
distribution requirement.
            Expansion of deficiency dividend procedure
      The Senate amendment expands the circumstances in which a 
REIT may declare a deficiency dividend, by allowing such a 
declaration to occur after the REIT unilaterally has identified 
a failure to pay the relevant amount. Thus, the declaration 
need not await a decision of the Tax Court, a closing 
agreement, or an agreement signed by the Secretary of the 
Treasury.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after the date of 
enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

              X. Extension of Certain Expiring Provisions


  A. Tax on Failure To Comply With Mental Health Parity Requirements 
      (Sec. 801 of the Senate Amendment and Sec. 9812 of the Code)


                              PRESENT LAW

      The Mental Health Parity Act of 1996 amended ERISA and 
the Public Health Service Act to provide that group health 
plans that provide both medical and surgical benefits and 
mental health benefits cannot impose aggregate lifetime or 
annual dollar limits on mental health benefits that are not 
imposed on substantially all medical and surgical benefits. The 
provisions of the Mental Health Parity Act are effective with 
respect to plan years beginning on or after January 1, 1998, 
and expire with respect to benefits for services furnished on 
or after December 31, 2003.\407\
---------------------------------------------------------------------------
    \407\ Since enactment, the mental health parity requirements have 
been extended on more than one occasion.
---------------------------------------------------------------------------
      The Taxpayer Relief Act of 1997 added to the Internal 
Revenue Code the requirements imposed under the Mental Health 
Parity Act, and imposed an excise tax on group health plans 
that fail to meet the requirements. The excise tax is equal to 
$100 per day during the period of noncompliance and is 
generally imposed on the employer sponsoring the plan if the 
plan fails to meet the requirements. The maximum tax that can 
be imposed during a taxable year cannot exceed the lesser of 10 
percent of the employer's group health plan expenses for the 
prior year or $500,000. No tax is imposed if the Secretary 
determines that the employer did not know, and exercising 
reasonable diligence would not have known, that the failure 
existed.
      The excise tax is applicable with respect to plan years 
beginning on or after January 1, 1998, and expires with respect 
to benefits for services provided on or after December 31, 
2003.\408\
---------------------------------------------------------------------------
    \408\ The excise tax does not apply to benefits for services 
furnished on or after September 30, 2001, and before January 10, 2002.
---------------------------------------------------------------------------

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the excise tax for failures 
to comply with mental health parity requirements through 
December 31, 2004.
      Effective date.--The Senate amendment is effective for 
plan years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

 B. Extend Alternative Minimum Tax Relief for Individuals (Sec. 802 of 
             the Senate Amendment and Sec. 26 of the Code)


                              PRESENT LAW

      Present law provides for certain nonrefundable personal 
tax credits (i.e., the dependent care credit, the credit for 
the elderly and disabled, the adoption credit, the child tax 
credit,\409\ the credit for interest on certain home mortgages, 
the HOPE Scholarship and Lifetime Learning credits, the IRA 
credit, and the D.C. homebuyer's credit).
---------------------------------------------------------------------------
    \409\ A portion of the child credit may be refundable.
---------------------------------------------------------------------------
      For taxable years beginning in 2003, all the 
nonrefundable personal credits are allowed to the extent of the 
full amount of the individual's regular tax and alternative 
minimum tax.
      Without an extension of these rules for taxable years 
beginning after 2003, these credits (other than the adoption 
credit, child credit and IRA credit) would be allowed only to 
the extent that the individual's regular income tax liability 
exceeds the individual's tentative minimum tax, determined 
without regard to the minimum tax foreign tax credit. The 
adoption credit, child credit, and IRA credit are allowed to 
the full extent of the individual's regular tax and alternative 
minimum tax.
      The alternative minimum tax is the amount by which the 
tentative minimum tax exceeds the regular income tax. An 
individual's tentative minimum tax is an amount equal to (1) 26 
percent of the first $175,000 ($87,500 in the case of a married 
individual filing a separate return) of alternative minimum 
taxable income (``AMTI'') in excess of a phased-out exemption 
amount and (2) 28 percent of the remaining AMTI. The maximum 
tax rates on net capital gain used in computing the tentative 
minimum tax are the same as under the regular tax. AMTI is the 
individual's taxable income adjusted to take account of 
specified preferences and adjustments. The exemption amounts 
are: (1) $45,000 ($49,000 in taxable years beginning before 
2005) in the case of married individuals filing a joint return 
and surviving spouses; (2) $33,750 ($35,750 in taxable years 
beginning before 2005) in the case of other unmarried 
individuals; (3) $22,500 ($24,500 in taxable years beginning 
before 2005) in the case of married individuals filing a 
separate return; and (4) $22,500 in the case of an estate or 
trust. The exemption amounts are phased out by an amount equal 
to 25 percent of the amount by which the individual's AMTI 
exceeds (1) $150,000 in the case of married individuals filing 
a joint return and surviving spouses, (2) $112,500 in the case 
of other unmarried individuals, and (3) $75,000 in the case of 
married individuals filing separate returns or an estate or a 
trust. These amounts are not indexed for inflation.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision extends the provisions 
allowing an individual to offset the entire regular tax 
liability and alternative minimum tax liability by the personal 
nonrefundable credits for one year.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

C. Extension of Electricity Production Credit for Electricity Produced 
from Certain Renewable Resources (Sec. 803 of the Senate Amendment and 
                          Sec. 45 of the Code)


                              PRESENT LAW

      An income tax credit is allowed for the production of 
electricity from either qualified wind energy, qualified 
``closed-loop'' biomass, or qualified poultry waste facilities 
(sec. 45). The amount of the credit is 1.5 cents per kilowatt 
hour (indexed for inflation) of electricity produced.\410\ The 
credit is allowable for production during the 10-year period 
after a facility is originally placed in service.
---------------------------------------------------------------------------
    \410\ The amount of the credit is 1.8 cents per kilowatt hour for 
2002.
---------------------------------------------------------------------------
      The credit applies to electricity produced by a wind 
energy facility placed in service after December 31, 1993, and 
before January 1, 2004, to electricity produced by a closed-
loop biomass facility placed in service after December 31, 
1992, and before January 1, 2004, and to a poultry waste 
facility placed in service after December 31, 1999, and before 
January 1, 2004.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the placed in service date 
for qualified facilities from facilities placed in service 
before January 1, 2004 to facilities placed in service before 
January 1, 2005.
      Effective date.--The Senate amendment provision is 
effective for property placed in service after December 31, 
2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

   D. Extend the Work Opportunity Tax Credit (Sec. 804 of the Senate 
                   Amendment and Sec. 51 of the Code)


                              PRESENT LAW

In general

      The work opportunity tax credit (``WOTC'') is available 
on an elective basis for employers hiring individuals from one 
or more of eight targeted groups. The credit equals 40 percent 
(25 percent for employment of less than 400 hours) of qualified 
wages. Generally, qualified wages are wages attributable to 
service rendered by a member of a targeted group during the 
one-year period beginning with the day the individual began 
work for the employer.
      The maximum credit per employee is $2,400 (40 percent of 
the first $6,000 of qualified first-year wages). With respect 
to qualified summer youth employees, the maximum credit is 
$1,200 (40 percent of the first $3,000 of qualified first-year 
wages).
      For purposes of the credit, wages are generally defined 
as under the Federal Unemployment Tax Act, without regard to 
the dollar cap.

Targeted groups eligible for the credit

      The eight targeted groups are: (1) families eligible to 
receive benefits under the Temporary Assistance for Needy 
Families (``TANF'') Program; (2) high-risk youth; (3) qualified 
ex-felons; (4) vocational rehabilitation referrals; (5) 
qualified summer youth employees; (6) qualified veterans; (7) 
families receiving food stamps; and (8) persons receiving 
certain Supplemental Security Income (``SSI'') benefits.
      The employer's deduction for wages is reduced by the 
amount of the credit.

Expiration date

      The credit is effective for wages paid or incurred to a 
qualified individual who begins work for an employer before 
January 1, 2004.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the work opportunity tax 
credit for one year (through December 31, 2004).
      Effective date.--The provision is effective for wages 
paid or incurred to a qualified individual who begins work for 
an employer on or after January 1, 2004, and before January 1, 
2005.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

   E. Extend the Welfare-To-Work Tax Credit (Sec. 805 of the Senate 
                  Amendment and Sec. 51A of the Code)


                              PRESENT LAW

In general

      The welfare-to-work tax credit is available on an 
elective basis for employers for the first $20,000 of eligible 
wages paid to qualified long-term family assistance recipients 
during the first two years of employment. The credit is 35 
percent of the first $10,000 of eligible wages in the first 
year of employment and 50 percent of the first $10,000 of 
eligible wages in the second year of employment. The maximum 
credit is $8,500 per qualified employee.
      Qualified long-term family assistance recipients are: (1) 
members of a family that has received family assistance for at 
least 18 consecutive months ending on the hiring date; (2) 
members of a family that has received family assistance for a 
total of at least 18 months (whether or not consecutive) after 
the date of enactment of this credit if they are hired within 2 
years after the date that the 18-month total is reached; and 
(3) members of a family that is no longer eligible for family 
assistance because of either Federal or State time limits, if 
they are hired within two years after the Federal or State time 
limits made the family ineligible for family assistance. Family 
assistance means benefits under the Temporary Assistance to 
Needy Families (``TANF'') program.
      For purposes of the credit, wages are generally defined 
under the Federal Unemployment Tax Act, without regard to the 
dollar amount. In addition, wages include the following: (1) 
educational assistance excludable under a section 127 program; 
(2) the value of excludable health plan coverage but not more 
than the applicable premium defined under section 4980B(f)(4); 
and (3) dependent care assistance excludable under section 129.
      The employer's deduction for wages is reduced by the 
amount of the credit.

Expiration date

      The welfare to work credit is effective for wages paid or 
incurred to a qualified individual who begins work for an 
employer before January 1, 2004.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the welfare-to-work tax 
credit for one year (through December 31, 2004).
      Effective date.--The provision is effective for wages 
paid or incurred to a qualified individual who begins work for 
an employer on or after January 1, 2004, and before January 1, 
2005.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

F. Taxable Income Limit on Percentage Depletion for Oil and Natural Gas 
Produced from Marginal Properties (Sec. 806 of the Senate Amendment and 
                         Sec. 613A of the Code)


                              PRESENT LAW

In general

      Depletion, like depreciation, is a form of capital cost 
recovery. In both cases, the taxpayer is allowed a deduction in 
recognition of the fact that an asset--in the case of depletion 
for oil or gas interests, the mineral reserve itself--is being 
expended in order to produce income. Certain costs incurred 
prior to drilling an oil or gas property are recovered through 
the depletion deduction. These include costs of acquiring the 
lease or other interest in the property and geological and 
geophysical costs (in advance of actual drilling). Depletion is 
available to any person having an economic interest in a 
producing property.
      Two methods of depletion are allowable under the Code: 
(1) the cost depletion method, and (2) the percentage depletion 
method (secs. 611-613). Under the cost depletion method, the 
taxpayer deducts that portion of the adjusted basis of the 
depletable property which is equal to the ratio of units sold 
from that property during the taxable year to the number of 
units remaining as of the end of the taxable year plus the 
number of units sold during the taxable year. Thus, the amount 
recovered under cost depletion may never exceed the taxpayer's 
basis in the property.
      Under the percentage depletion method, generally, 15 
percent of the taxpayer's gross income from an oil- or gas-
producing property is allowed as a deduction in each taxable 
year (section 613A(c)). The amount deducted generally may not 
exceed 100 percent of the net income from that property in any 
year (the ``net-income limitation'') (section 613(a)). The 100-
percent-of-net-income limitation for production from marginal 
wells has been suspended for taxable years beginning after 
December 31, 1997, and before January 1, 2004. Additionally, 
the percentage depletion deduction for all oil and gas 
properties may not exceed 65 percent of the taxpayer's overall 
taxable income (determined before such deduction and adjusted 
for certain loss carrybacks and trust distributions) (section 
613A(d)(1)).\411\ Because percentage depletion, unlike cost 
depletion, is computed without regard to the taxpayer's basis 
in the depletable property, cumulative depletion deductions may 
be greater than the amount expended by the taxpayer to acquire 
or develop the property.
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    \411\ Amounts disallowed as a result of this rule may be carried 
forward and deducted in subsequent taxable years, subject to the 65-
percent taxable income limitation for those years.
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      A taxpayer is required to determine the depletion 
deduction for each oil or gas property under both the 
percentage depletion method (if the taxpayer is entitled to use 
this method) and the cost depletion method. If the cost 
depletion deduction is larger, the taxpayer must utilize that 
method for the taxable year in question (section 613(a)).

Limitation of oil and gas percentage depletion to independent producers 
        and royalty owners

      Generally, only independent producers and royalty owners 
(as contrasted to integrated oil companies) are allowed to 
claim percentage depletion. Percentage depletion for eligible 
taxpayers is allowed only with respect to up to 1,000 barrels 
of average daily production of domestic crude oil or an 
equivalent amount of domestic natural gas (section 613A(c)). 
For producers of both oil and natural gas, this limitation 
applies on a combined basis.
      In addition to the independent producer and royalty owner 
exception, certain sales of natural gas under a fixed contract 
in effect on February 1, 1975, and certain natural gas from 
geopressured brine, are eligible for percentage depletion, at 
rates of 22 percent and 10 percent, respectively. These 
exceptions apply without regard to the 1,000-barrel-per-day 
limitation and regardless of whether the producer is an 
independent producer or an integrated oil company.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends for an additional year the 
suspension of the 100-percent net-income limit for marginal 
wells to include taxable years beginning after December 31, 
2003 and before January 1, 2005.
      Effective date.--The Senate amendment provision is 
effective for taxable years beginning after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

 G. Qualified Zone Academy Bonds (Sec. 807 of the Senate Amendment and 
                        Sec. 1397E of the Code)


                              PRESENT LAW

Tax-exempt bonds

      Interest on State and local governmental bonds generally 
is excluded from gross income for Federal income tax purposes 
if the proceeds of the bonds are used to finance direct 
activities of these governmental units or if the bonds are 
repaid with revenues of the governmental units. Activities that 
can be financed with these tax-exempt bonds include the 
financing of public schools (sec. 103).

Qualified zone academy bonds

      As an alternative to traditional tax-exempt bonds, States 
and local governments are given the authority to issue 
``qualified zone academy bonds'' (``QZABs'') (sec. 1397E). A 
total of $400 million of qualified zone academy bonds may be 
issued annually in calendar years 1998 through 2003. The $400 
million aggregate bond cap is allocated each year to the States 
according to their respective populations of individuals below 
the poverty line. Each State, in turn, allocates the credit 
authority to qualified zone academies within such State.
      Financial institutions that hold qualified zone academy 
bonds are entitled to a nonrefundable tax credit in an amount 
equal to a credit rate multiplied by the face amount of the 
bond. A taxpayer holding a qualified zone academy bond on the 
credit allowance date is entitled to a credit. The credit is 
includable in gross income (as if it were a taxable interest 
payment on the bond), and may be claimed against regular income 
tax and AMT liability.
      The Treasury Department sets the credit rate at a rate 
estimated to allow issuance of qualified zone academy bonds 
without discount and without interest cost to the issuer. The 
maximum term of the bond is determined by the Treasury 
Department, so that the present value of the obligation to 
repay the bond is 50 percent of the face value of the bond.
      ``Qualified zone academy bonds'' are defined as any bond 
issued by a State or local government, provided that: (1) at 
least 95 percent of the proceeds are used for the purpose of 
renovating, providing equipment to, developing course materials 
for use at, or training teachers and other school personnel in 
a ``qualified zone academy'', and (2) private entities have 
promised to contribute to the qualified zone academy certain 
equipment, technical assistance or training, employee services, 
or other property or services with a value equal to at least 10 
percent of the bond proceeds.
      A school is a ``qualified zone academy'' if: (1) the 
school is a public school that provides education and training 
below the college level, (2) the school operates a special 
academic program in cooperation with businesses to enhance the 
academic curriculum and increase graduation and employment 
rates, and (3) either (a) the school is located in an 
empowerment zone or enterprise community designated under the 
Code, or (b) it is reasonably expected that at least 35 percent 
of the students at the school will be eligible for free or 
reduced-cost lunches under the school lunch program established 
under the National School Lunch Act.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment authorizes issuance of up to $400 
million of qualified zone academy bonds for calendar year 2004.
      Effective date.--The provision is effective for 
obligations issued after the date of enactment.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

   H. Cover Over of Tax on Distilled Spirits (Sec. 808 of the Senate 
                Amendment and Sec. 7652(e) of the Code)


                              PRESENT LAW

      A $13.50 per proof gallon \412\ excise tax is imposed on 
distilled spirits produced in or imported (or brought) into the 
United States. The excise tax does not apply to distilled 
spirits that are exported from the United States or to 
distilled spirits that are consumed in U.S. possessions (e.g., 
Puerto Rico and the Virgin Islands).
---------------------------------------------------------------------------
    \412\ A proof of gallon is a liquid gallon consisting of 50 percent 
alcohol.
---------------------------------------------------------------------------
      The Code provides for coverover (payment) of $13.25 per 
proof gallon of the excise tax imposed on rum imported (or 
brought) into the United States (without regard to the country 
of origin) to Puerto Rico and the Virgin Islands during the 
period July 1, 1999 through December 31, 2003. Effective on 
January 1, 2004, the coverover rate is scheduled to return to 
its permanent level of $10.50 per proof gallon.
      Amounts covered over to Puerto Rico and the Virgin 
Islands are deposited into the treasuries of the two 
possessions for use as those possessions determine.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment extends the $13.25-per-proof-gallon 
coverover rate for one additional year, through December 31, 
2004.
      Effective date.--The Senate amendment provision is 
effective for articles brought into the United States after 
December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

  I. Extend Deduction for Corporate Donations of Computer Technology 
      (Sec. 809 of the Senate Amendment and Sec. 170 of the Code)


                              PRESENT LAW

      In the case of a charitable contribution of inventory or 
other ordinary-income or short-term capital gain property, the 
amount of the charitable deduction generally is limited to the 
taxpayer's basis in the property. In the case of a charitable 
contribution of tangible personal property, the deduction is 
limited to the taxpayer's basis in such property if the use by 
the recipient charitable organization is unrelated to the 
organization's tax-exempt purpose. In cases involving 
contributions to a private foundation (other than certain 
private operating foundations), the amount of the deduction is 
limited to the taxpayer's basis in the property.\413\
---------------------------------------------------------------------------
    \413\ Sec. 170(e)(1).
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      Under present law, a taxpayer's deduction for charitable 
contributions of scientific property used for research and for 
contributions of computer technology and equipment generally is 
limited to the taxpayer's basis (typically, cost) in the 
property. However, certain corporations may claim a deduction 
in excess of basis for a ``qualified research contribution'' or 
a ``qualified computer contribution.'' \414\ This enhanced 
deduction is equal to the lesser of (1) basis plus one-half of 
the item's appreciated value (i.e., basis plus one half of fair 
market value minus basis) or (2) two times basis.
---------------------------------------------------------------------------
    \414\ Secs. 170(e)(4) and 170(e)(6).
---------------------------------------------------------------------------
      A qualified computer contribution means a charitable 
contribution by a corporation of any computer technology or 
equipment, which meets standards of functionality and 
suitability as established by the Secretary of the Treasury. 
The contribution must be to certain educational organizations 
or public libraries and made not later than three years after 
the taxpayer acquired the property or, if the taxpayer 
constructed the property, not later than the date construction 
of the property is substantially completed.\415\ The original 
use of the property must be by the donor or the donee,\416\ and 
in the case of the donee, must be used substantially for 
educational purposes related to the function or purpose of the 
donee. The property must fit productively into the donee's 
education plan. The donee may not transfer the property in 
exchange for money, other property, or services, except for 
shipping, installation, and transfer costs. To determine 
whether property is constructed by the taxpayer, the rules 
applicable to qualified research contributions apply. That is, 
property is considered constructed by the taxpayer only if the 
cost of the parts used in the construction of the property 
(other than parts manufactured by the taxpayer or a related 
person) does not exceed 50 percent of the taxpayer's basis in 
the property. Contributions may be made to private foundations 
under certain conditions.\417\
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    \415\ If the taxpayer constructed the property and reacquired such 
property, the contribution must be within three years of the date the 
original construction was substantially completed. Sec. 
170(e)(6)(D)(i).
    \416\ This requirement does not apply if the property was 
reacquired by the manufacturer and contributed. Sec. 170(e)(6)(D)(ii).
    \417\ Sec. 170(e)(6)(C).
---------------------------------------------------------------------------
      The enhanced deduction for qualified computer 
contributions expires for any contribution made during any 
taxable year beginning after December 31, 2003.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment provision extends the enhanced 
deduction for qualified computer contributions to apply to 
contributions made during taxable years beginning on or before 
December 31, 2004.
      Effective date.--The Senate amendment provision is 
effective for contributions made after December 31, 2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

 J. Extension of Credit for Electric Vehicles (Sec. 810 of the Senate 
                   Amendment and Sec. 30 of the Code)


                              PRESENT LAW

      A 10-percent tax credit is provided for the cost of a 
qualified electric vehicle, up to a maximum credit of $4,000 
(sec. 30). A qualified electric vehicle is a motor vehicle that 
is powered primarily by an electric motor drawing current from 
rechargeable batteries, fuel cells, or other portable sources 
of electrical current, the original use of which commences with 
the taxpayer, and that is acquired for the use by the taxpayer 
and not for resale. The full amount of the credit is available 
for purchases prior to 2004. The credit phases down in the 
years 2004 through 2006, and is unavailable for purchases after 
December 31, 2006.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment delays the beginning of the phase 
out of the credit by one year and provides that the credit is 
available for purchases through December 31, 2007.
      Effective date.--The Senate amendment provision is 
effective for property placed in service after December 31, 
2002.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

   K. Extension of Deduction for Clean-Fuel Vehicles and Clean-Fuel 
 Vehicle Refueling Property (Sec. 811 of the Senate Amendment and Sec. 
                           179A of the Code)


                              PRESENT LAW

Clean-fuel vehicles

      Certain costs of qualified clean-fuel vehicle may be 
expensed and deducted when such property is placed in service 
(sec. 179A). Qualified clean-fuel vehicle property includes 
motor vehicles that use certain clean-burning fuels (natural 
gas, liquefied natural gas, liquefied petroleum gas, hydrogen, 
electricity and any other fuel at least 85 percent of which is 
methanol, ethanol, any other alcohol or ether). The maximum 
amount of the deduction is $50,000 for a truck or van with a 
gross vehicle weight over 26,000 pounds or a bus with seating 
capacities of at least 20 adults; $5,000 in the case of a truck 
or van with a gross vehicle weight between 10,000 and 26,000 
pounds; and $2,000 in the case of any other motor vehicle. 
Qualified electric vehicles do not qualify for the clean-fuel 
vehicle deduction. The deduction phases down in the years 2004 
through 2006, and is unavailable for purchases after December 
31, 2006.

Clean-fuel vehicle refueling property

      Clean-fuel vehicle refueling property may be expensed and 
deducted when such property is placed in service (sec. 179A). 
Clean-fuel vehicle refueling property comprises property for 
the storage or dispensing of a clean-burning fuel, if the 
storage or dispensing is the point at which the fuel is 
delivered into the fuel tank of a motor vehicle. Clean-fuel 
vehicle refueling property also includes property for the 
recharging of electric vehicles, but only if the property is 
located at a point where the electric vehicle is recharged. Up 
to $100,000 of such property at each location owned by the 
taxpayer may be expensed with respect to that location. The 
deduction is unavailable for costs incurred after December 31, 
2006.

                               HOUSE BILL

      No provision.

                            SENATE AMENDMENT

      The Senate amendment delays the beginning of the phase 
down of the deduction for qualified clean-fuel vehicle property 
by one year and provides that the deduction is available 
through December 31, 2007. The Senate amendment extends the 
deduction for clean-fuel vehicle refueling property by one year 
to include equipment placed in service prior to January 1, 
2008.
      Effective date.--The Senate amendment provision is 
effective for property placed in service after December 31, 
2003.

                          CONFERENCE AGREEMENT

      The conference agreement does not include the Senate 
amendment provision.

  L. Adjusted Gross Income Determined by Taking Into Account Certain 
 Expenses of Elementary and Secondary School Teachers (Sec. 812 of the 
               Senate Amendment and Sec. 62 of the Code)


                              PRESENT LAW

      In general, ordinary and necessary business expenses are 
deductible (sec. 162), and unreimbursed employee business 
expenses are deductible only as an itemized deduction and only 
to the extent that the individual's total miscellaneous 
deductions (including employee business expenses) exceed two 
percent of adjusted gross income.
      However, an above-the-line deduction is allowed for 
taxable years beginning in 2002 and 2003 fo