Surprise Some Real Reform

Too weary to be surprised, a House-Senate conference committee late last week finished groping its way through all 250 disputed provisions of the Tax Reform Act of 1976 and found that it had produced more reform than almost anyone had expected. The bill, which is likely to be passed by both houses of Congress this week, falls far short of the wholesale rewrite of the tax code that ardent reformers, including Jimmy Carter, demand. It still leaves the code resembling a shapeless coat crazily patterned by holes and patches. But its provisions add up to the most significant changes in tax law since 1969, and they will raise an estimated $1.6 billion of added federal revenue in fiscal 1977.

Reasonable Bill. The point of greatest significance to most taxpayers is that the bill extends at least through 1977 the $17.3 billion worth of personal and corporate income tax cuts first passed last year. But extension of the cuts had never been in doubt; the reform provisions were another matter. "A long, tortuous struggle," sighed House Ways and Means Committee Chairman Al Ullman, and indeed it was. His committee began work on the bill more than a year and a half ago and produced a reasonable bill passed by the House last December. Despite this effort, the Senate version, passed last month, was a travesty of tax reform. It would have opened many new loopholes in the tax laws, including a $500 tax credit for the training expenses of amateur athletes, and actually would have cost the Treasury $300 million a year.

The conferees' task was to restore both the reform and the revenue. "They said it couldn't be done," declared Ullman, sounding like a cigarette ad. "But we found ways to do it, and Senator Long helped." Russell Long, the wily chairman of the Senate Finance Committee, was the dominant figure in the conference. Though he is no friend of tax reform, Long kept a promise to try to reduce the revenue loss.

The principal reform in the final bill limits the use of tax shelters. These are investments--in farming, real estate, equipment leasing and the purchase of sports franchises, among many other things--that allow a taxpayer to run up "paper" losses. He can then deduct these losses from his other income and thus shield a large part of that income from taxes. For example, under present law the interest paid on a loan while a building is under construction, and taxes too, can be deducted as a current expense. Since the building produces no income until it is finished, the owner or owners can claim a large loss, often exceeding the total amount they have invested. The new bill would stretch out such deductions over several years; in the case of other tax shelters, the deductions are limited to the amount of money that investors have actually put "at risk."

The biggest revenue item is an increase in the "minimum tax," which will raise more than $1 billion next year. That also is a significant piece of reform, since the provision will reduce the number of people who earn high incomes but pay only minuscule taxes. The minimum tax is levied on so-called preference income that is not subject to normal taxation--a part of the long-term capital gains from sale of stock or real estate, for instance. The minimum tax rate is now 10%; the new bill raises the rate to 15% and applies the tax to much more preference income. Also, the bill doubles, to one year, the length of time that assets must be held before they can be sold at favorable capital-gains rates.

A surprise part of the final bill was a sweeping revision of estate and gift taxes--the first major change in these taxes in 30 years. The provisions are formidably complex, but the impact would be to lower taxes on estates and increase them on gifts.

Currently, 150,000 estates are taxed each year; under the new bill, two-thirds would escape. The mechanism is a conversion of exemptions to credits. The effect: at present, the first $60,000 of an estate is not taxed; that would rise to $120,000 next year and $175,000 in 1981. Gift taxes, which now are usually lower than estate taxes, are made equal. A husband or wife, however, can receive lifetime gifts totaling $100,000 from a spouse without paying tax on them.

Many Changes. The bill also takes aim at a longtime target of tax reformers: the rise in value of assets held until death. To illustrate, take the case of an investor who buys stock at $10 a share and dies, leaving it to his son when it is worth $50. Under present law, neither the investor nor his son ever pays tax on any part of the $40 capital gain. The bill would gradually phase in a tax on that appreciation. When its provisions take full effect--perhaps in 30 years --the entire increase would be taxed.

The bill makes many other changes affecting individual taxpayers. Some important ones concern payments that working parents make for child care. At present, these are deductible up to $4,800, but only if the taxpayer's income is $35,000 or less. The bill converts the deduction to a credit of as much as $800, to be subtracted from the tax otherwise owed, and removes the income limit. In all, these changes will save working parents $400 million next year.

The bill also:

>Eliminates the $100 per week exclusion of "sick pay" from taxable income unless the recipient is totally disabled.

>Increases taxes on most U.S. citizens working abroad. At present, the first $20,000 or $25,000 of their income, depending on how long they have been abroad, is excluded from U.S. tax. The bill lowers that to $15,000. In addition, it limits their ability to deduct foreign taxes paid from U.S. taxes owed.

>Limits sharply the right to claim business deductions for offices in the home and for vacation property that is used by the owner and rented.

>Allows a contribution of up to $1,750 annually to an individual retirement account (IRA) owned jointly by a husband and wife, or up to $875 annually to two separately owned IRAS, even though one spouse is unemployed. At present, no contributions can be made for a nonworking spouse.

>Allows employers to provide group legal services to their workers as a tax-free fringe benefit.

Even some of the most ardent tax reformers were not displeased with the conferees' work. Said Robert Brandon, head of Ralph Nader's Tax Reform Research Group: "They haven't dealt adequately with tax shelters, but they have raised some revenue." The bill also furthers one major goal of tax reform by raising most of that added revenue from the people who have the highest incomes and the greatest ability to pay.

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