fair share of his income in tax. Permitting certain forms of compensation arrangements to be taxed at capital gains rates while others are taxed as ordinary income creates serious inequities in the individual income tax. Senator BYRD. Is it reasonable to defer the payment of taxes on restricted stock which is not transferable during the period the restrictions remain outstanding so that the employee will at least have some funds with which to pay his taxes? Mr. COHEN. Where the only restriction is that the employee may not sell the stock for a stated number of years, there is no reason to defer tax. The employee has a vested right to the stock and should be taxed upon having received property just as in the case of any compensation arrangement. Restrictions which lapse at some future time serve no essential business purpose but are used principally to affect the tax consequences. They may properly be disregarded for income tax purposes under these conditions. Employees are taxed in other arrangements on the full value of property over which they may not have full control, as in funded nonqualified pension or profit-sharing arrangements, group life insurance plans, and other such benefits. Senator BYRD. Do you think there should be a distinction in treatment between restricted stock awarded as a bonus for which no compensation is paid and a restricted stock purchase plan which is an integral part of an employer's compensation program? Mr. COHEN. We do not think any distinction along these lines could be justified. If the arrangement involves a bonus or other compensation it should be taxed as ordinary income at the time the employee's interest becomes non forfeitable, and this should be true whether or not other compensation is also paid. Senator BYRD. Thank you, Mr. Secretary. Thank you, Mr. Chair man. The CHAIRMAN. Senator Curtis. Senator CURTIS. I shall try to put my questions precisely and I would hope the answers would be precise. REVENUE GAIN OF THE TREASURY RECOMMENDATIONS ON BONDS OVER PRESENT LAW What is the revenue gain of the Treasury recommendations on State and municipal bonds over the present law? Mr. COHEN. Well, I think in our recommendation it is about $45 million. I said earlier $50 million. We now have a little more precise estimate of $45 million. Senator CURTIS. And the House recommendations would be $25 million more? Mr. COHEN. $35 million more. Senator CURTIS. Now, as I understand it, there are provisions in this bill to encourage activity to meet certain objectives such as the building of houses and the improvement of substandard housing; is that correct? Mr. COHEN. Yes, that is true with respect to housing. RAILROAD BOXCARS AND THE INVESTMENT CREDIT Now, maybe you are not permitted to answer this question right now, but in reference to the repeal of the investment credit, I am very much concerned about the boxcar situation for railroads. Oftentimes there is grain piled all over the ground in my State because they cannot get cars to ship it out. Would not this fall in the same sort of a category? Mr. COHEN. Senator, we have considered this at some length because the House bill provides, in the light of the prospective repeal of the investment credit, a 7-year amortization of the cost of new boxcars. At the present time, the guideline life of railroad cars, I believe, is 14 years. The actual life is estimated in general to be, I think, 30 years, but the Internal Revenue Service now allows depreciation on a basis of 14 years under the double declining balance method, and under this bill a railroad would be permitted to amortize one-seventh of the cost each year for 7 years. That would cost $100 million in revenue. Now, the problem we face is whether or not such a provision is really going to alleviate the shortage of boxcars at harvesttime in the part of the country that produces the grain. We are aware of the problem that you suggest. Senator CURTIS. The carriers do not think it will. Mr. COHEN. Pardon me? Senator CURTIS. The carriers do not think it will. Mr. COHEN. Neither do we, Senator. We are inclined- Mr. COHEN. But we are not inclined to think that the investment credit would solve the problem either. The problem is that there are not sufficient boxcars at the time to be available in the particular areas that want them. Any provision which would increase the number of cars by 50,000 which, as I understand it, is the shortage at harvest time, and allocate those boxcars at that particular time to the grain areas would tend to solve the problem, but in order to succeed you have got to increase the aggregate number of boxcars and allocate them into the areas where they are needed at the particular time. Our concern is whether this method is worth $100 million in revenue-whether it would solve the boxcar shortage problem. It would be of benefit only to the profitable railroads which have a tax liability. Senator CURTIS. Your $100 million, that does not take into account any recouping by reason of additional employment, income taxes of individuals who build these cars, and so on. Mr. COHEN. No, that would not take that into account. I do not know that such factors would produce any additional revenue because the salaries would be deductible by the employers and included in the income of the employees who would probably be in a lower tax bracket. Senator CURTIS. Full employment does make more revenue. Mr. COHEN. Oh, yes; I appreciate the overall impact on the economy. CAPITAL GAINS ON LIVESTOCK Senator CURTIS. Now, what changes do you propose with respect to capital gains on livestock as contrasted to the present law? 33-865 0-69-pt. 1-42 Mr. COHEN. There are several provisions. The holding period that is required now is 1 year. The House bill would change it to 1 year after the animal is normally put into service. As we discussed earlier, if the holding period generally is kept at 6 months, we would be prepared to accept 6 months after the time when the livestock is normally put into service. Now we would require the maintenance of what we call an excess deduction account, which would be invoked in the case of persons, under our recommendation, who have more than $25,000 of adjusted gross income from nonfarm sources. It would therefore not affect the average farmer because he does not have $25,000 of income from off the farm. If he had losses for a year in excess of $15,000, any capital gains that he would otherwise have on the sale of the livestock would have to be reported as ordinary income until he had made good that excess loss. It is a recapture provision comparable to the recapture of depreciation on personal property. Senator CURTIS. Roughly, how much revenue is involved? Mr. COHEN. On the excess deduction account for farm losses, $50 million under our recommendation. It would affect, I think, 9,300 persons, and those persons have an average farm loss of about $44,000. Senator CURTIS. Then it is safe to say that with respect to the, with the exception of the holding period, there is no change in the capital gains treatment of livestock unless they are using farm losses to offset other income. Mr. COHEN. I think that is, in general, true. The problems come from using farm losses to offset other income. Senator GORE. Would the Senator yield? I do not think the Secretary has given a correct answer there. Mr. COHEN. The answer was as to the effect generally, Senator, and it is not true in the specifics, but I was trying to give a generalized answer. There is an effect from the change in the capital gain rule generally that would apply to other taxpayers, also. The excess deduction account provision to provide for capital gains being changed to ordinary income would apply only to persons with more than $25,000 of outside income, so it would apply to 9,300 persons. Senator GORE. That is adjusted gross, though. Mr. COHEN. Pardon me? Senator GORE. That is adjusted gross, outside income. Mr. COHEN. It is nonfarm adjusted gross income. That would include all business deductions. That is not gross income, that is adjusted gross income, so any nonfarm business expenses could be taken off. The only thing that would not be taken off would be personal deductions. It would apply to a taxpayer only if he had $25,000 of nonfarm adjusted gross income, and then it would only affect him if he had capital gains from the sale of livestock or orange groves or whatever. He would only have to restore to ordinary income at the time of sale amounts of previous losses that had exceeded $15,000 in any year. Also, there is another provision that net farm losses on a cash basis would be treated as an item of tax preference, so that if the net farm loss together with other preferences represented more than half of a prson's income, the person would be affected by the limit on tax prefer ences. Senator CURTIS. Now, one other question, and I am not trying to exhaust the agricultural thing at this time, because before we are through with this bill we will go into it further. What changes in present law do you recommend in the field of, in the area of, lumber cutting so far as the lumber people are concerned? EFFECTS OF THE BILL ON TIMBER Mr. COHEN. Well, the incorporated lumber companies would be affected by a raise in the corporate capital gains tax rate from 25 to 30 percent, and that is an increase of 20 percent in their tax. Senator CURTIS. That is for them and not for all capital gains. Mr. COHEN. That is for them. Senator CURTIS. Taxpayers. Mr. COHEN. That is for all corporations. Now, this would be applicable to all corporations on all their capital gains; it would include timber since timber receives a capital gain treatment under present law. Senator CURTIS. Yes. Mr. COHEN. Now, individuals under our recommendation would still be entitled to a limited amount of capital gains at the old 25-percent rate, just as the corporations would be entitled to the 25-percent capital gains rate on the first $50,000 of income under our suggestion. But if individuals have very large capital gains in relation to their ordinary income, whether they were from the sale of timber or from securities or real estate, the tax could go up, in effect, to 322 percent. Senator CURTIS. That would come under the LTP. Mr. COHEN. It would just go up to the 321/2-percent rate under this bill-half of the capital gains would be included in ordinary income and the top rate would be 65 percent. Senator CURTIS. That is under your sections dealing with the limited tax preference. Mr. COHEN. Well, it is based on that concept, but we have provided a separate rule for the capital gains so that it could be more readily calculated the theory is the same. Senator CURTIS. Those are all the changes in reference to timber? Mr. COHEN. Yes, sir; except there is, I think I mentioned earlier, one thing in the House bill dealing with the dividing line between short-term holdings and long-term holdings. Under the bill it was changed to 1 year, and we are recommending that the holding period be changed back to 6 months, but we would calculate that 6 months from the start of the year just as is in existing law. There is also a change in the bill as to the starting point for the holding of timber, and we would suggest returning to the precise provisions of the existing law. Senator CURTIS. You are still talking about timber? Mr. COHEN. Still talking about timber. There is a special holding period rule with respect to timber. Senator CURTIS. Now, dollarwise, what increase in burden would you place on the timber, according to your recommendations, not the House? Mr. COHEN. I would have to give you that, Senator. I can tell you that the increase in the capital gains tax on corporations would range from $150 to $175 million, but what proportion of that is with respect to timber I cannot at the moment tell you, but I will submit it for the record. Secretary KENNEDY. Submit it for the record. (The information supplied by the Treasury Department on this matter follows:) In 1965, the last year for which data is available, corporations reported $2,486 million of long term capital gains taxed at the 25 percent alternative rate. The lumber and wood products industry and the paper industry reported $443 million or 18 percent of this total. We thus estimate that approximately 18 percent or $31 million of the $175 million increase in capital gains tax on corporations would be paid by the timber industry in 1970 if the alternative capital gains rate for corporations is increased to 30 percent. Senator CURTIS. Other than that, is there something else? Mr. COHEN. There would be some increase in capital gains on some sales of timber by individuals if their capital gains were very large in relation to their ordinary income. But since we would permit at least $140,000 of capital gains for a married man, the average farmer who would be cutting timber off of his land would not be affected. FARM COOPERATIVES Senator CURTIS. Now, Mr. Secretary, do the provisions in the Housepassed bill relating to farm cooperatives raise any additional revenue over present law? Secretary KENNEDY.. No. The provisions of the House-passed bill relating to farm cooperatives do not raise any additional revenue over present law. Its primary purpose is to assure the individual patron that the cooperatives will make increased payments within a definite period of time. Senator CURTIS. Is it true that under present law all of the income of the farm cooperatives is taxed to someone; that is, either to the member, patron, or the cooperative iteslf? Secretary KENNEDY. Yes. Under present law, all of the income of the farmer cooperative is taxed either to the patron, shareholder, or the cooperative itself. In determining taxable income under present law, cooperatives are permitted a deduction (or exclusion) for patronage dividends paid in money, qualified patronage allocations, or other property (except nonqualified allocations). They also are permitted a deduction (or exclusion) for qualified per unit retain certificates (that is, certificates issued to patrons to reflect the retention by the cooperative of a portion of the proceeds of the marketing of products for the patrons, computed on the basis of units of products marketed). A patronage allocation or per unit retain certificate is qualified and therefore not taken into account by the cooperative-only if the patron consents to take it into account at its face value as income in the year in which the certificate is issued. Thus, in general, a cooperative is not taxed on patronage allocations or per unit retains only if they are taxable to patrons. If a patronage allocation or a per unit retain allocation is not a qualified allocation, it must be included in the income of the cooperative in the year allocated, and the cooperative may take a deduction |