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Argument For.-(1) This provision would prevent the avoidance of the limitations on the charitable contribution deduction through the device of a two-year charitable trust. In effect, the two-year trust rule is nothing more than a subterfuge for assigning income.

Arguments Against.—(1) There is little abuse connected with the two-year charitable trust rule and in many cases it leads to an ultimate gift of the total corpus to a charitable institution.

(2) The import of this provision is contrary to the objective of encouraging philanthropy highlighted by the provision which raises the ceiling on the charitable contribution deduction to 50 percent. 5. Charitable Contributions by Estates and Trusts

Present law.-Present law allows a nonexempt trust (or estate) a full deduction for any amount of gross income which it permanently sets aside for charitable purposes. There is no limitation on the amount of this deduction.

Problem. To retain the deduction allowed by present law for nonexempt trusts for amounts set aside for charity (rather than paid to charity) was viewed as inconsistent with other changes made by the House bill in the treatment of charitable trusts.

Nonexempt trusts generally are subject to the same requirements and restrictions imposed on the private foundations since to the extent of the charitable interest their use achieves the same result. The current income distribution requirement generally applicable to foundations is not imposed on these nonexempt trusts, however, but the same result is achieved by denying the set-aside deduction to these trusts for their current income. In other words, to obtain the charitable deduction the nonexempt trusts must pay out their income currently for charity much in the same manner as private foundations are required to do. In the case of a charitable remainder trust (i.e., a trust which provides that the income is to be paid to a noncharitable beneficiary for a period of time and the remainder interest is to go to charity) the House bill provides that if specified requirements are met, the trust is to be tax exempt. These requirements are designed to limit the allowance of a charitable deduction for the remainder interest upon creation of the trust to situations where there is a reasonable correlation between the amount of the deduction and the benefits that the charity will ultimately receive. Where these requirements are met, and the trust is thus accorded tax-exempt status, there is no need to allow the trust a deduction for amounts set aside for charity. To accord nonexempt trusts (with a remainder interest for charity) consistent treatment, it is necessary to deny them a deduction for amounts set aside for charity.

House solution.-The bill eliminates the set-aside deduction presently allowed nonexempt trusts. What were nonexempt trusts which meet the annuity or unitrust rules with respect to their remainder charitable interests are with respect to this interest treated as exempt trusts. This provision applies to amounts set aside after the enactment of the bill.

Argument For.-Allowing nonexempt trusts a deduction for amounts set aside for the future use of charity is not consistent with the other limitations placed by the bill on charitable trusts.

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Argument Against.—The elimination of this deduction will discourage trusts from setting aside amounts for charity.

6. Gifts of the Use of Property

Present law.-Under existing law a taxpayer may claim a charitable deduction for the fair-rental value of property which he owns and gives to a charity to use for a specified time. In addition, he may exclude from his income the income which he would have received and been required to include in his tax base had the property been rented to other parties.

Problem. By giving a charity the right to use property which he owns for a given period of time a taxpayer achieves a double benefit. For example, if an individual owns an office building, he may donate the use of 10 percent of its rental space to a charity for one year. He then reports for tax purposes only 90 percent of the income which he would otherwise have been required to report if the building were fully rented, and he claims a charitable deduction (equal to 10 percent of the rental value of the building) which offsets his already reduced rental income.

House solution.-The House bill provides that the charitable deduction is not to be allowed for contributions to charities of less than a taxpayer's entire interest in property. Therefore, no deduction will be allowed where a contribution is made of the right to use property for a period of time. In such a case, however, a taxpayer will be able to continue to exclude from his income the value of the right to use property so contributed. This provision applies with respect to gifts made after April 22, 1969.

Argument For-It is appropriate to eliminate the double benefit which taxpayers have enjoyed with respect to contributions of the use of their property. This provides greater equity for taxpayers generally, in that many taxpayers do not have property which can be utilized in this manner.

Arguments Against.-(1) When an individual donates the use of property to a charitable organization he does not receive a double benefit because while, under the present law, he receives a deduction for the full rental value of the property he is not actually receiving any income from third parties while the property is being used by the charitable organization.

(2) The contribution of the use of property is a valuable gift, giving a charity exclusive control and possession for a period of time, and should be treated in the same manner as an outright gift of property. 7. Charitable Remainder Trusts

Present law. Under present law an individual may make an indirect charitable contribution by transferring property to a trust and providing that the trust income is to be paid to private persons for a period of time with the remainder to go to a charity. Generally, a charitable contributions deduction is allowed for the remainder interest given to charity. The amount of the deduction is based on the present value of the remainder interest which is determined by using actuarial life expectancy tables and an assumed interest rate of 32 per cent.

Problem.-Present rules allow a taxpayer to receive a charitable contribution deduction for a gift to charity of a remainder interest in

trust which is substantially in excess of the amount the charity may ultimately receive. This is because the assumptions used in calculating the value of the remainder interest may bear little relation to the actual investment policies of the trust. For example, the trust assets may be invested in high-income, high-risk assets. This enhances the value of the income interest but decreases the value of the charity's remainder interest. This factor, however, is not taken into account in computing the amount of the charitable contribution deduction.

House solution.-The bill limits the availability of a charitable contribution deduction in the case of a charitable gift of a remainder interest in trust to situations where there is a closer correlation between the amount to be received by charity and the amount of the deduction allowed on the creation of the trust. In general, a deduction is to be allowed only where the trust specifies the annual amount which is to be paid to the noncharitable income beneficiary either in dollar terms or as a fixed percentage of the value of the trust's assets (as determined each year).

The amount of the deduction allowed on the creation of the charitable remainder interest in trust, thus, would be computed on the basis of the actual relative interests of the noncharitable income and the charitable remainder beneficiaries in the trust property.

Generally, this provision applies to transfers in trust made after April 22, 1969 (except in the case of the estate tax where it applies with respect to persons dying after the enactment of the bill).

Arguments For.-(1) The limitations provided by this provision on the allowance of a charitable contribution deduction for gifts of remainder interests in trust will assure a better correlation between the deduction allowed and the benefit to charity. This is because the limitation will remove the present incentive to favor the noncharitable income beneficiary over the charitable remainder beneficiary by means of manipulating the trust's investments.

(2) The bill properly prevents the taking of a charitable contribution deduction for ostensible gifts of charitable remainder interests in trust where it is not probable that the gift will ultimately be received by the charity (such as where the charitable interest is only a contingent remainder interest) or where the trust permits invasion of the charitable share for the benefit of the non-charitable interest.

Arguments Against.-(1) This provision is not necessary because local laws which impose heavy responsibilities upon trustees and fiduciaries serve as sufficient assurance that trusts will be handled properly.

(2) The limitations restrict the flexibility presently available to persons who wish to make gifts to charity in the form of a remainder interest in trust. This smaller degree of flexibility might lead to an undue curtailment of this type of charitable gift.

8. Charitable Income Trust With Noncharitable Remainders

Present law. Under present law, a taxpayer who transfers property to a trust to pay the income to a charity for a period of years with the remainder to go to a noncharitable beneficiary, such as a friend or member of his family, is allowed a charitable contributions deduction for the value of the income interest given to charity. In addition, neither he nor the trust is taxed on the income earned by the trust which is given to charity.

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Problem.-A taxpayer receives a double tax benefit where he is allowed a charitable deduction for the value of an income interest in trust given to charity and also is not taxed on the income earned by the trust.

House solution.-The bill generally provides that a charitable contribution deduction is not to be allowed where a person gives an income interest to charity in trust unless he is taxable on the trust income. Moreover, even in this case, the charitable deduction will not be allowed unless the charity's income interest is in the form of a guaranteed annuity or is a fixed percentage (payable annually) of the value of the trust property (as determined each year).

The bill also, in effect, provides for the recapture of the part of the charitable deduction previously received by a taxpayer where he ceases to be taxable on the trust income (i.e., that part of the deduction representing the income on which the taxpayer will not be taxed is recaptured).

The provision applies to transfers of property to trusts after April 22, 1969.

Arguments For.-(1) The bill is needed to prevent a taxpayer from taking a charitable contribution deduction for the present value of an income interest in trust, and at the same time failing to pay a tax on the income earned by the trust.

(2) It assures in cases where a deduction is allowed that the amount received by charity will bear a reasonable correlation to the amount of the deduction.

Arguments Against.-(1) This provision is not necessary because local laws which impose heavy responsibilities upon trustees and fiduciaries serve as sufficient assurance that the trusts will be handled properly.

(2) Since this provision restricts the charitable contribution deduction in certain cases, it is undesirable because it will therefore decrease contributions to charity.

D. FARM LOSSES

1. Gains From Dispositions of Property Used in Farming Where Farm Losses Offset Nonfarm Income

Present law. Under present law, income losses from farming may be computed under more liberal accounting rules than those generally applicable to other types of businesses. A cash method of accounting under which costs are deducted currently may be used, rather than an accrual method of accounting and inventories under which the deduction of costs would be postponed. In addition, a taxpayer in the business of farming may deduct expenditures for developing business assets (such as raising a breeding herd or developing a fruit orchard) which other taxpayers would have to capitalize. In addition, capital gains treatment quite often is available on the sale of farm assets.

Problem.-Although the special farm accounting rules were adopted to relieve farmers of bookkeeping burdens, these rules have been used by some high-income taxpayers who are not primarily engaged in farming to obtain a tax, but not an economic, loss which is then deducted from their high-bracket, nonfarm income. In addition, when these high-income taxpayers sell their farm investment, they often

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receive capital gains treatment on the sale. The combination of the current deduction against ordinary income for farm expenses of a capital nature and the capital gains treatment available on the sale of farm assets produces significant tax advantages and tax savings for these high-income taxpayers.

House solution.-The bill generally provides that a gain on the sale of farm property is to be treated as ordinary income to the extent of the taxpayer's previous farm losses. For this purpose, a taxpayer must maintain an excess deductions account to record his farm losses. In the case of individuals, farm losses must be added to the excess deductions account only if the taxpayer has more than $50,000 of nonfarm income for the year and, in addition, only to the extent the farm loss for the year exceeds $25,000. The amount in a taxpayer's excess deductions account would be reduced by the amount of farm income in a subsequent year.

The amount of farm losses recaptured on a sale of farm land would be limited to the deductions for the taxable year and the four previous years with respect to the land for soil and water conservation expenditures and land clearing expenditures.

To the extent gain on the sale of farm property is treated under these rules as ordinary income, this would reduce the amount in the taxpayer's excess deductions account.

The recapture rules provided by the bill would not apply if the taxpayer elected to follow generally applicable business accounting rules (i.e., used inventories and capitalized capital expenses).

This provision applies to dispositions of farm property in years beginning after 1969.

Arguments For. This provision will limit the tax advantages currently available in the case of farming operations by recapturing upon the sale of farm property the farm losses which the taxpayer had deducted from ordinary income. In addition, the provision would not affect the small bona fide farmer because of the high dollar limitations. (2) The present farm tax accounting rules should not be allowed to continue because they have resulted in a tax abuse. By the use of these provisions, some high-income taxpayers have carried on limited farming activities (including racehorse breeding) as a sideline to obtain a tax loss which is deducted from their high-bracket nonfarm income.

(3) These losses are not economic losses but arise instead from the deducation of capital costs which, under the tax laws applicable to most other industries, would reduce capital gains instead of offsetting ordinary income.

(4) The tax abuse in this area has become so large that in recent years a growing body of investment firms have advertised that they would arrange a farm loss for persons in high tax brackets. The advertising emphasizes the fact that "after tax" dollars may be saved by the use of "tax losses" from farming operations. Thus, these provisions have created an industry which manufactures farm "tax losses" as their stock in trade.

(5) The Treasury Department has submitted statistics for 1964, 1965, and 1966 which clearly demonstrates that the average "farm loss" on an individual basis increases as the taxpayer's adjusted gross income increases.