8 of-household treatment. In addition, in the case of widows and widowers with dependent children, age 19 or less or attending school or college, full income splitting is to be available. 5. Rates. In 1971 and 1972 tax rate reductions aggregating slightly over $2.2 billion in each year are provided. The 1972 rates provide slightly over a 5-percent reduction for those whose income levels are above the levels where the low-income allowance and increase in the standard deduction provide substantially greater reductions. ᏢᎪᎡᎢ 2 ANALYSIS OF PROVISIONS AND ARGUMENTS FOR AND AGAINST As requested by the Committee, the following summary includes arguments which might be raised in support of, or in opposition to, each provision contained in the House-passed bill. This listing of the arguments for and against the features of the House bill is not intended, and indeed it cannot be, all inclusive. The many different situations which the bill affects make it impossible to anticipate every attitude that might be expressed with respect to the bill. However, it is believed that the principal positions are reflected in the summary. The order in which the arguments are presented should not be interpreted as a ranking of their importance, nor should the phraseology indicate that the staffs have any position with respect to them. (9) PART 2 ANALYSIS OF PROVISIONS AND ARGUMENTS FOR AND AGAINST A. Private Foundations 1. Tax on Investment Income Present law. Although present law subjects many exempt organizations to taxation on unrelated business income, investment income is specifically excepted from this tax. Problem.-Heavily endowed foundations have substantial income that is not taxed. Questions have been raised as to why these private foundations should not pay some of the cost of government since they are able to pay. Also funds are needed for more and more extensive and vigorous enforcement of the tax laws relating to foundations. A user fee is needed to provide funds for this purpose. House solution.-The bill imposes a tax of 72 percent on a private foundation's net investment income (interest, dividends, rents and royalties) and its net capital gains. Deductions are allowed only for expenses paid or incurred in earning that income and for net capital losses. Taxes are not imposed upon their receipt of contributions or grants. Arguments For.-(1) Since private foundations enjoy the benefits of Government as do other entities and individuals, they should bear some portion of the costs of Government, just as do other organizations and individuals. (2) The administrative machinery necessary to insure that private foundations currently distribute their funds for proper charitable purposes is becoming more and more costly. This tax will defray a portion of that cost. It is a modest levy which will not hamper the operation of private foundations. (3) Such a tax should encourage greater reliance upon the public than upon the one-time beneficence of one individual or family. (4) Investment income of most other charitable organizations is not subject to tax (except for income from debt-financed acquisitions and investment income of social clubs, fraternal beneficiary societies, and certain employee insurance associations discussed below), and it is unfair to single out foundations for this special tax. Arguments Against.—(1) Since the advent of our taxing statutes, the Government has recognized the special place that private foundations occupy in our society and has granted them tax-exempt status. This tax is an incursion into that philosophy and seriously undermines it. (2) This tax will fall heavily upon those private foundations who have a profitable investment portfolio, and would reduce the fund that would be available for charitable purposes. (11) 12 (3) The foundation that secures more current income for current charitable benefits will be liable for a greater tax than a foundation which does the minimum that the bill requires, and so the bill discourages good foundation management. 2. Prohibitions on Self-Dealing Present law. Under present law, no part of the net earnings of private foundations and other charitable organizations are permitted to inure to the benefit of private shareholders or individuals. Also. arm's-length standards are imposed with regard to loans, payments of compensation, preferential availability of services, substantial purchases or sales, and substantial diversions of income or corpus to (or from, as the case may be) creators (of trusts) and substantial donors and their families and controlled corporations. The only sanctions pro vided are loss of exemption for a minimum of one taxable year and loss of charitable contributions deductions under certain circumstances Problem.-Arm's-length standards have proved to require dispro portionately large enforcement efforts, resulting in sporadic and un certain effectiveness of the provisions. Moreover, the subjectivity in volved in applying such standards has occasionally resulted in th courts refusing to uphold sanctions, especially when they are severe in relation to the offense. In other cases, the sanctions have practically n deterrent or punitive effect even where there is vigorous enforcement Also, many benefits may be derived by those who control a privat foundation even though they deal completely at arm's-length. House solution.-The bill replaces the arm's-length standards with list of specific prohibited self-dealing transactions. A violation of th provisions results in a tax on the self-dealer of 5 percent of the amour involved in the violation. If the self-dealing is not corrected withi an appropriate time, then a tax of 200 percent of the amount involved imposed upon the self-dealer. Similar taxes at lower rates are impose upon the foundation manager who is knowingly involved in the sel dealing or who refuses to correct the self-dealing but the tax on th manager may not exceed $10,000. A third level of tax is available, a described below in Change of Status. The bill also requires that th foundation's governing instrument must prohibit it from engaging i the self-dealing transactions described in the Code. Arguments For.-(1) The provisions of the present Internal Rev nue Code which relate to self-dealing in private foundations hav proved to be totally ineffective. Abuses have arisen where individu taxpayers have benefited by using the tax-exempt private foundatio for their own purposes, rather than for the charitable purpose f which the foundation was ostensibly founded. (2) The arms-length tests set forth in the present Internal Revenu Code are vague, and difficult to enforce. The result is that there excessive litigation where, because of the difficulty in tracing the tran action involved, the Government is at a tremendous disadvantage. (3) The fact that, in relation to the particular offense, present san tions may be inordinately severe causes the courts, as well as the Inte nal Revenue Service, to refrain from invoking them even though the may be self-dealing. Under the bill the sanctions are properly propo tioned to the amount involved in the improper transactions and a imposed upon the self-dealer rather than the foundation. |