Mr. Speaker, I would like to insert in the Record, the following letter concerning the Conference Report to H.R. 4520, the ``American Jobs Creation Act of 2004.'' Department of the Treasury, Internal Revenue Service, Washington, DC,…
Mr. Speaker, I would like to insert in the Record, the following letter concerning the Conference Report to H.R. 4520, the ``American Jobs Creation Act of 2004.''
Department of the Treasury,
Internal Revenue Service,
Washington, DC, October 7, 2004.
Mr. George K. Yin,
Chief of Staff, Joint Committee on Taxation,
Washington, DC.
Dear Mr. Yin: Enclosed are the combined comments of the
Internal Revenue Service and the Treasury Department on the
new deduction relating to income attributable to domestic
production activities contained in the Conference Committee
Report on the ``American Jobs Creation Act'', that you
identified for complexity analysis in your letter of October
6, 2004.
Our comments are based on the description of the provision
provided in your letter, and the statutory language and
description of this provision in the Chairman's Mark for the
Conference Committee on H.R. 4520, dated October 4, 2004, as
posted on the House Ways and Means Committee web site. Due to
the short turnaround time, our comments are provisional and
subject to change upon a more complete and in-depth analysis
of the provision.
Overall, the conference report provides new tools that will
assist the IRS in administering the tax laws. However, thus
far in the appropriations process, I would note that Congress
has not taken favorable action with regard to the request for
incremental enforcement resources for the IRS in the
President's FY 05 budget request. As noted in the attached
analysis, IRS will face additional challenges and resource
requirements in administering the proposed domestic
production activities credit.
Sincerely,
Mark W. Everson,
Commissioner.
Enclosure.
Complexity Analysis of Provision From H.R. 4520, American Jobs Creation
Act of 2004
Deduction Relating to Income Attributable to Domestic Production
Activities
Provision
The provision provides a deduction from taxable income (or,
in the case of an individual, adjusted gross income) that is
equal to a portion of the taxpayer's qualified production
activities income. For taxable years beginning after 2009,
the deduction is equal to nine percent of the lesser of (i)
the qualified production activities income of the taxpayer
for the taxable year, or (ii) taxable income (determined
without regard to this section) for the taxable year. For
taxable years beginning in 2005 and 2006, the deduction is
three percent of income and, for taxable years beginning in
2007, 2008 and 2009, the deduction is six percent of income.
However, the deduction for a taxable year is limited to 50
percent of the W-2 wages paid by the taxpayer during the
calendar year that ends in such taxable year.
For purposes of determining the deduction, qualified
production activities income is equal to domestic production
gross receipts, reduced by the sum of (a) cost of goods sold
allocable to such receipts, (b) other deductions, expenses,
or losses, directly allocable to such receipts, and (c) a
ratable portion of deductions, expenses, and losses not
directly allocable to such receipts or another class of
income.
The provision is effective for taxable years beginning
after 2004.
IRS and Treasury comments
Administration, Compliance and Controversy
The new deduction for domestic production activities will
require the promulgation of extensive, detailed new guidance,
particularly in the form of regulations. We anticipate that
guidance will be required to address:
1. Which activities constitute production activities;
2. The statutory exceptions to the definition of production
activity;
3. The allocation of revenues between production and non-
production activities;
4. The allocation of deductions between production and non-
production activities;
5. The application of the provision when related and
unrelated taxpayers perform parts of the production activity;
and
6. Numerous other issues.
We expect that such guidance will be difficult to craft. By
distinguishing ``production'' from other activities, the
provision places considerable tension on defining terms and
designing anti-abuse rules.
Many businesses, particularly small businesses, will find
it difficult to understand and comply with these complex new
rules, which will affect not only the computation of a
taxpayer's regular tax liability but also its alternative
minimum tax liability. It will be difficult, if not
impossible, for the IRS to craft simplified provisions
tailored to small businesses or other taxpayers.
Taxpayers will be required to devote substantial additional
resources to meeting their tax responsibilities, including
not only employees and outside tax advisers, but also
recordkeeping and systems modification resources. The
resulting costs will reduce significantly the benefits of the
proposal. Some small businesses may find that the additional
costs outweigh the benefits, particularly during the initial
phase-in period.
It will be necessary to devote significant audit resources
to administering the new deduction. This will be due not only
to the novelty of the rule but also to the benefits that are
provided to ``production activities'' over other aspects of a
taxpayer's business. Taxpayers naturally will classify
everything possible as production activities. Audits,
particularly those involving integrated businesses, will have
to focus on classification and the allocation of income and
costs. Significant additional IRS resources will be needed to
administer the provision to avoid diverting resources from
other compliance issues (such as tax shelters).
Finally, for all of the reasons discussed above, we
anticipate a significant increase in controversies between
taxpayers and the IRS. This will increase the number of IRS
appeals cases and litigated tax cases.
Tax Forms and Publications
The computation of the deduction relating to income
attributable to domestic production activities would be
figured on a new form for 2005 of at least 10 lines. The
instructions for the new form would likely be at least 3
pages.
Two additional lines would have to be added to each 2005
form or schedule on which the deduction from the new form
could be claimed. The deduction would be claimed on the
following forms and schedules, among others.
1. Schedule C (Form 1040) (sole proprietors);
2. Schedule F (Form 1040) (farm businesses);
3. Form 1041 (estates and trusts);
4. Form 1065 (partnerships);
5. Form 1065-B (electing large partnerships);
6. Form 1120 (corporations);
7. Form 1120-A (short tax return for corporations);
8. Form 1120S (S corporations); and
9. Other Form 1120 series returns.
2005 Forms 4626, 6251, and Schedule I of Form 1041 would
have to be revised to add a new line to reflect the
difference between the regular tax deduction and alternative
minimum tax deduction.
The instructions for all affected forms and schedules
listed above would have to be revised to reflect the new
deduction.
The tax forms and publications for 2007 and 2010 would have
to be updated to reflect the increasing percentage of
qualified production activities income taken into account
beginning in those years.
Programming changes would be required to reflect the new 10
line form, the two additional lines on the above forms and
schedules, and the changing percentages. Currently, the IRS
tax computation programs are updated annually to incorporate
mandated inflation adjustments. Any programming changes
necessitated by the provision would be included during that
process.
The following 2005 publications, among others, would have
to be revised to cover the new deduction, adding 3 to 6 pages
to each.
1. Publication 225 (farmers);
2. Publication 334 (small business tax guide);
3. Publication 541 (corporations);
4. Publication 542 (partnerships); and
5. Publication 535 (business expenses).
Training materials and the Internal Revenue Manual would
have to be revised to reflect the new deduction.