RRA 1998 House Ways Report p3

RRA 1998 House Ways Report Page 3

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IRS Restructuring and Reform Act of 1998

House ways & Means Committee Report page3

Subtitle B --Budget

SEC . 411. FUNDING FOR CENTURY DATE CHANGE.

It is the sense of Congress that the Internal Revenue Service efforts to resolve the century date change computing problems should be funded fully to provide for certain resolution of such problems.

SEC . 412. FINANCIAL MANAGEMENT ADVISORY GROUP.

The Commissioner shall convene a financial management advisory group consisting of individuals with expertise in governmental accounting and auditing from both the private sector and the Government to advise the Commissioner on financial management issues, including --

(1) the continued partnership between the Internal Revenue Service and the General Accounting Office;

(2) the financial accounting aspects of the Internal Revenue Service's system modernization;

(3) the necessity and utility of year-round auditing; and

(4) the Commissioner's plans for improving its financial management system.

Subtitle C --Tax Law Complexity

SEC . 421. ROLE OF THE INTERNAL REVENUE SERVICE.

It is the sense of Congress that the Internal Revenue Service should provide the Congress with an independent view of tax administration, and that during the legislative process, the tax writing committees of the Congress should hear from frontline technical experts at the Internal Revenue Service with respect to the administrability of pending amendments to the Internal Revenue Code of 1986.

SEC . 422. TAX COMPLEXITY ANALYSIS.

(a) IN GENERAL. --Chapter 92 (relating to powers and duties of the Joint Committee on Taxation) is amended by adding at the end the following new section:

" SEC . 8024. TAX COMPLEXITY ANALYSIS.

"(a) IN GENERAL. --If --

"(1) legislation is reported by the Committee on Finance of the Senate, the Committee on Ways and Means of the House of Representatives, or any committee of conference, and

"(2) such legislation includes any provision amending the Internal Revenue Code of 1986, the report or statement accompanying such legislation shall contain a Tax Complexity Analysis prepared by the staff of the Joint Committee on Taxation.

"(b) CONTENT OF COMPLEXITY ANALYSIS. --Each Tax Complexity Analysis shall identify the provisions, if any, adding significant complexity or providing significant simplification, as determined by the staff of the Joint Committee on Taxation, and shall include the basis for such determination.

"(c) LEGISLATION SUBJECT TO POINT OF ORDER. --It shall not be in order in the Senate or the House of Representatives to consider any legislation described in subsection (a) required to be accompanied by a Tax Complexity Analysis that does not contain a Tax Complexity Analysis.

"(d) RESPONSIBILITIES OF THE COMMISSIONER. --The Commissioner shall provide the Joint Committee on Taxation with such information as is necessary to prepare Tax Complexity Analyses."

(b) CLERICAL AMENDMENT --The table of sections for chapter 92 is amended by adding at the end the following new item:

"Sec. 8024. Tax complexity analysis."

(c) EFFECTIVE DATE. --The amendments made by this section shall apply to legislation considered on or after January 1, 1998 .

TITLE V --CLARIFICATION OF DEDUCTION FOR DEFERRED COMPENSATION

SEC . 501. CLARIFICATION OF DEDUCTION FOR DEFERRED COMPENSATION.

(a) IN GENERAL. --Subsection (a) of section 404 is amended by adding at the end the following new paragraph:

"(11) DETERMINATIONS RELATING TO DEFERRED COMPENSATION. --

"(A) IN GENERAL. --For purposes of determining under this section --

"(i) whether compensation of an employee is deferred compensation, and

"(ii) when deferred compensation is paid, no amount shall be treated as received by the employee, or paid, until it is actually received by the employee.

"(B) EXCEPTION. --Subparagraph (A) shall not apply to severance pay."

(b) SICK LEAVE PAY TREATED LIKE VACATION PAY. --Paragraph (5) of section 404(a) is amended by inserting "or sick leave pay" after "vacation pay".

(c) EFFECTIVE DATE. --

(1) IN GENERAL. --The amendments made by this section shall apply to taxable years ending after October 8, 1997 .

(2) CHANGE IN METHOD OF ACCOUNTING. --In the case of any taxpayer required by this section to change its method of accounting for its first taxable year ending after October 8, 1997 --

(A) such change shall be treated as initiated by the taxpayer,

(B) such change shall be treated as made with the consent of the Secretary of the Treasury, and

(C) the net amount of the adjustments required to be taken into account by the taxpayer under section 481 of the Internal Revenue Code of 1986 shall be taken into account in such first taxable year.

I. SUMMARY AND BACKGROUND

A. PURPOSE AND SUMMARY

H.R. 2676, as amended, modifies the structure and procedures of the Internal Revenue Service (" IRS "), provides IRS personnel flexibilities, encourages electronic filing, provides additional taxpayer rights and protections, modifies Congressional oversight of the IRS , and provides a revenue offset relating to the treatment of the employer deduction for vacation pay.

Title I --Executive branch governance.

The bill establishes within the Treasury Department the Internal Revenue Service Oversight Board (the "Board"). The general responsibility of the Board is to oversee the IRS in the administration, management, conduct, direction, and supervision of the execution and application of the internal revenue laws. The Board is to have the following specific responsibilities: to review and approve strategic plans of the IRS ; to review the operational functions of the IRS ; to provide for the review of the Commissioner's selection, evaluation and compensation of senior managers; to review and approve plans for major reorganizations; and to review and approve the budget of the IRS prepared by the Commissioner. The Board is to be composed of 8 private-life members appointed by the President with the advice and consent of the Senate, plus the Secretary of the Treasury (or the Deputy Secretary), the IRS Commissioner, and a representative of a union representing a significant number of IRS employees (who would be appointed by the President, with the advice and consent of the Senate).

The bill provides that the IRS Commissioner is appointed as under present law by the President, with the advice and consent of the Senate. However, the Board has the authority to recommend candidates for Commissioner to the President, and to recommend removal of the Commissioner. The Commissioner has such duties and powers as prescribed by the Secretary. Unless otherwise prescribed by the Secretary, such duties include certain statutorily enumerated duties. The Secretary must notify the Congress of any changes in the duties delegated to the Commissioner.

The bill deletes the present-law funding mechanism for the employee plans and exempt organizations division of the IRS in Code section 7802(b)(2). Such funding mechanism has never been utilized under present law.

The bill makes changes relating to the Taxpayer Advocate designed to strengthen the office, and prohibits Executive Branch influence over taxpayer audits and collection activity.

The bill also makes certain changes to facilitate IRS personnel flexibilities.

Title II. Electronic filing

The bill provides rules designed to facilitate and encourage electronic filing of tax returns, whenever feasible. Under the bill, electronic filing is encouraged by the use of advertising, development of incentives, and setting a goal of 80 percent of returns to be electronically filed by the year 2007. With respect to information returns, submitters are encouraged to use electronic filing by extending the due date for filing from February 28 to March 31. The bill requires development of procedures to facilitate electronic filing, including those that would permit the Secretary to accept returns without a manual signature. The bill also requires the IRS to study and develop procedures to implement a return free system. The IRS also must develop procedures that would permit, to the extent feasible, taxpayers who use electronic filing to review their account information electronically.

Title III . Taxpayer bill of rights 3

The bill contains a number of provisions designed to strengthen the rights of taxpayers in their dealings with the Internal Revenue Service. Among the more significant of these provisions are modifying the burden of proof, providing more generous innocent spouse relief, protecting the confidentiality of tax advice, expanding the conditions under which taxpayers can receive awards of attorney's fees in disputes with the IRS , permitting taxpayers to receive civil damages for negligence by the IRS in collection actions, and suspending the statute of limitations on filing refund claims during periods of disability.

Title IV. Congressional accountability for the Internal Revenue Service

The bill provides that all requests for studies of the IRS by the General Accounting Office (other than requests by the Chair or ranking member of a committee or subcommittee) must be approved by the Joint Committee on Taxation. The bill provides for two joint hearings a year of the 6 Congressional Committees with oversight jurisdiction over the IRS . The Joint Committee on Taxation is required to report annually to the tax-writing committees on the state of the Federal tax system, and at the joint hearings.

The bill provides that a committee report or conference report on tax legislation is to include a Tax Complexity Analysis prepared by the staff of the Joint Committee on Taxation.

Title V. Clarification of deduction for vacation pay

The bill overrules a Tax Court decision by providing that vacation pay that is actually received by employees more than 2 1/2 months after the end of the year is not deductible until paid by the employer. Under the bill, amounts are not considered received by employees or paid unless they are actually received. Letters of credit, trusts, and similar mechanisms will not constitute payment or receipt. B. BACKGROUND AND NEED FOR LEGISLATION

The National Commission on Restructuring the Internal Revenue Service (the "Commission") was established to review the present practices of the Internal Revenue Service (" IRS ") and to make recommendations for modernizing and improving its efficiency and taxpayer services. The Commission's report, issued June 25, 1997 ¹ contains recommendations relating to executive branch governance and management of the IRS , Congressional oversight of the IRS , personnel flexibilities, customer service and compliance, technology modernization, electronic filing, tax law simplification, taxpayer rights, and financial accountability. H.R. 2292, introduced on July 30, 1997, by Mr. Portman and Mr. Cardin, generally mirrors the recommendations of the Commission.

H.R. 2676 builds on the Commission's report and recommendations and the provisions of H.R. 2292 to provide for a more effective IRS in its administration of the tax laws and in improving the IRS 's service and responsiveness to taxpayers.

C. LEGISLATIVE HISTORY

Committee bill

H.R. 2676 ² was introduced by Chairman Archer and Messrs. Portman and Cardin on October 21, 1997, and was amended by the Committee in a markup on October 22, 1997. An amendment in the nature of a substitute (offered by Chairman Archer) was adopted by a voice vote, with a quorum present. The bill, as amended, was ordered favorably reported by a roll call of 33 yeas and 4 nays on October 22, 1997, with a quorum present.

Committee hearings

Full Committee. --The Committee held public bearings on September 16-17, 1997, on the recommendations of the National Commission on Restructuring the Internal Revenue Service.

Subcommittee on Oversight. --The Subcommittee on Oversight held public hearings on IRS -related topics in 1997 as follows:

Annual Report of the Internal Revenue Service Taxpayer Advocate (February 25, 1997).

"High-Risk" Programs Within the Jurisdiction of the Committee on Ways and Means (March 4, 1997).

IRS Budget for Fiscal Year 1998 and the 1997 Tax Return Filing Season (March 18, 1997).

Electronic Federal Tax Payment System (April 16, 1997).

Report of the National Commission on Restructuring the Internal Revenue Service (July 24, 1997).

Recommendations of the National Commission on Restructuring the Internal Revenue Service to Expand Electronic Filing of Tax Returns (September 9, 1997).

Recommendations of the National Commission on Restructuring the Internal Revenue Service on Taxpayer Protections and Rights (September 26, 1997).

In addition, the Subcommittee on Oversight submitted recommendations on October 20, 1997, to the Full Committee relating to (1) electronic filing and (2) taxpayer rights and protections. These Subcommittee recommendations are the basis for the provisions in Title II and Title III , respectively, of the Committee bill. Chairman Archer had directed the Subcommittee on Oversight to review these two areas of the Commission's report and to make recommendations to the Full Committee.

II. EXPLANATION OF THE BILL

TITLE I. EXECUTIVE BRANCH GOVERNANCE

A. CREATION OF IRS OVERSIGHT BOARD (sec. 101 of the bill and sec. 7802 of the Code)

PRESENT LAW

Under present law, the administration and enforcement of the internal revenue laws are performed by or under the supervision of the Secretary of the Treasury.³

Present law imposes standards of ethical conduct on Federal employees in order to avoid conflicts of interest. Criminal penalties are imposed on violations of these standards. In some cases, less strict standards apply to special government employees than to regular, full-time Federal government employees. In general, a special government employee is an individual who is expected to serve no more than 130 days during any 365-day period.

In general, the ethical conduct rules (1) prohibit a Federal employee from accepting compensation for representing clients before the agency in which the employee serves or against the United States;⁴ (2) prohibit a Federal employee from acting as agent or attorney for anyone in a claim against the United States;⁵ (3) impose post-employment restrictions on senior employees in order to prohibit the unfair use of prior Government employment;⁶ and (4) prohibit a Federal employee from participating personally and substantially in matters that affect his or her own financial interest or that of persons with certain relationships to the employee.⁷

In the case of a special government employee who serves less than 60 days in the preceding 365 days, the restrictions in (1) and (2) above only apply with respect to matters in which the special government employee personally and substantially participated in his or her official capacity.

One of the post-employment restrictions prohibits senior government employees from representing parties other than the United States before their former department or agency for one year after employment. This restriction does not apply to special government employees who serve less than 60 days in the final 1-year period of service.

Federal government employees compensated at certain pay grades are subject to public financial disclosure requirements. Special government employees who serve less than 60 days in a year are not subject to the public financial disclosure requirements, but are subject to confidential financial disclosure requirements.

REASONS FOR CHANGE

The Committee believes that a well-run IRS is critical to the operation of our tax system. Public confidence in the IRS must be restored so that our system of voluntary compliance will not be compromised. The Committee believes that most Americans are willing to pay their fair share of taxes, and that public faith in the IRS is key to maintaining that willingness.

The National Commission on Restructuring the IRS (the "Restructuring Commission"), which conducted a year-long study of the IRS , found that a number of factors contribute to current IRS management problems, including the following. While the Treasury is responsible for IRS oversight, it has generally provided little consistent strategic oversight or guidance to the IRS . The Secretary and Deputy Secretary have many other broad responsibilities, and generally leave the IRS largely independent. The average tenure of an IRS Commissioner is under 3 years, as is the average tenure of senior Treasury officials responsible for IRS oversight. Many of the issues that need to be addressed by the IRS will require expertise in various areas, particularly management and technology.

The Restructuring Commission concluded that "problems throughout the IRS cannot be solved without focus, consistency and direction from the top. The current structure, which includes Congress, the President, the Department of the Treasury, and the IRS itself, does not allow the IRS to set and maintain consistent long-term strategy and priorities, nor to develop and execute focused plans for improvement. Additionally, the structure does not ensure that the IRS budget, staffing and technology are targeted toward achieving organizational success."

The Committee shares the concerns of the Commission, and agrees that fundamental change in IRS management and oversight is essential. The Committee believes that a new management structure that will bring greater expertise in more areas, focus, and continuity will help the IRS on the path toward becoming an efficient, responsive, and respected agency that always acts appropriately in carrying out its functions.

The Committee believes that private sector input is a necessary part of any new management structure. The Committee believes that the ethics rules applicable to special government employees (without regard to exceptions for length of service or pay grade) should be applied to the private sector members of the new IRS management. These rules will enhance the ability of such members to demonstrate impartiality in the performance of their duties, while not unduly restricting the available pool of potential candidates.

The Committee is aware that the taxpaying public may never relish contacts with the agency responsible for collecting taxes. Nevertheless, by establishing a new management structure that will better enable the IRS to develop and fulfill long-term goals, the Committee believes that the IRS will be able to gain public support, and will make contacts with the IRS as infrequent and as pleasant as possible. The Committee is also aware that changes being made to IRS management structure are not the final step, and that continued oversight of the IRS , by Congress as well as the Administration, is necessary in order to ensure long-term progress.

EXPLANATION OF PROVISION

Duties, responsibilities, and powers of the IRS Oversight Board

The bill provides for the establishment within the Treasury Department of the Internal Revenue Service Oversight Board (referred to as the "Board"). The general responsibilities of the Board are to oversee the Internal Revenue Service (the " IRS ") in its administration, management, conduct, direction, and supervision of the execution and application of the internal revenue laws. The Board has no responsibilities or authority with respect to (1) the development and formulation of Federal tax policy relating to existing or proposed internal revenue laws, (2) law enforcement activities of the IRS , including compliance activities such as criminal investigations, examinations, and collection activities,⁸ and (3) specific procurement activities of the IRS (e.g., selecting vendors or awarding contracts). As discussed more fully in Part B., below, the Board also has the authority to recommend candidates for IRS Commissioner to the President, and to recommend removal of the Commissioner. The members of the Board do not have authority to receive confidential taxpayer return information.⁹

The Board has the following specific responsibilities: (1) to review and approve strategic plans of the IRS , including the establishment of mission and objectives and standards of performance) and annual and long-range strategic plans; (2) to review the operational functions of the IRS , including plans for modernization of the tax system, out sourcing or managed competition, and training and education; (3) to provide for the review of the Commissioner's selection, evaluation and compensation of senior managers; and (4) to review and approve the Commissioner's plans for major reorganization of the IRS . It is intended that major reorganizations subject to the Board's review and approval are limited to major changes in organizational structure, such as the 1995 IRS reorganization that combined 7 regions into 4 and 63 districts into 33. In addition, the Board will review and approve the budget request of the IRS prepared by the Commissioner, submit such budget request to the Secretary, and ensure that the budget request supports the annual and long-range strategic plans of the IRS . The Secretary is required to submit the budget request approved by the Board to the President, who is required to submit such request, without revision, to the Congress together with the President's annual budget request for the IRS . The bill does not affect the ability of the President to include, in addition, his own budget request relating to the IRS .

It is intended that the Board will reach a formal decision on all matters subject to its review. With respect to those matters over which the Board has approval authority, the Board's decisions are determinative. It is fully expected that, with respect to those matters over which the Board has approval authority (other than as relates to the development of the budget), the Secretary will exert his or her oversight responsibility over the IRS by working through and with the Board.¹⁰

The Board is required to report each year to the President and the Congress regarding the conduct of its responsibilities.

It is expected that the Treasury Department will no longer utilize the IRS Management Board once the new Board created by the bill is in place, as the functions of the IRS Management Board would be taken over by the new Board.

Composition of the Board

The Board is composed of 11 members. Eight of the members are so-called "private-life" members who are not Federal officers or employees. These private-life members will be appointed by the President, with the advice and consent of the Senate. The remaining members are (1) the Secretary of the Treasury (or, if the Secretary so designates, the Deputy Secretary of the Treasury), (2) a representative from a union representing a substantial number of IRS employees, who will be appointed by the President with the advice and consent of the Senate, and ¹¹ (3) the Commissioner of the IRS .

The private-life members of the Board are to be appointed based on their expertise in the following areas: management of large service organizations; customer service; the Federal tax laws, including administration and compliance; information technology; organization development; and the needs and concerns of taxpayers. In the aggregate, the members of the Board should collectively bring to bear expertise in all these enumerated areas.

The private-life members are considered special government employees during the entire period of their appointment. That is, they will be considered to be performing services as a special government employee on each day during their appointment, not just on those days on which they actually perform services. Thus, they will be subject to the ethical conduct rules applicable to special government employees who serve more than 60 days during any 365-day period. Thus, for example, private-life Board members would not be able to represent clients before the IRS on matters during their term as a Board member. Private-life Board members would also be subject to the 1-year post-employment restriction applicable to senior-level employees. Finally, private-life members would be subject to the public financial disclosure rules generally applicable to special government employees above certain pay grades.

Compensation of Board members

The private-life members of the Board will be compensated at a rate of $30,000 per year, except that the Chair will be compensated at a rate of $50,000 a year. Other members of the Board will receive no compensation for their services as Board members. The members of the Board will be entitled to travel expenses for purposes of attending meetings of the Board.

Administrative matters

The 8 private-life Board members and the union representative generally will be appointed for 5-year terms. The private-life members may serve no more than two 5-year terms. Each 5-year term begins upon appointment. Board member terms are staggered, as a result of a special rule providing that some private-life members first appointed to the Board will serve initial terms of less than 5 years. The members of the Board are to elect a chairperson from among the private-life Board members for a 2-year term. Any member of the Board can be removed at the will of the President. In addition, the Secretary of the Treasury (or, if so delegated, the Deputy Secretary) and the IRS Commissioner are removed from the Board upon termination of employment in such positions and the representative of IRS employees is removed from the Board upon termination of their employment, membership, or other affiliation with the organization representing IRS employees.

The Board is required to meet at least once a month, and can meet at such other times as the Board determines appropriate.

A quorum of 6 members is required in order for the Board to conduct business. Actions of the Board are taken by a majority vote of those members present and voting.

The Board will not have its own permanent staff, but will have such staff as detailed by the Commissioner at the request of the Chair of the Board. The Chair can procure temporary and intermittent services under section 3109(b) of title 5 of the U.S. Code.

Claims against Board members

The private-life members of the Board and the union representative have no personal liability under Federal law with respect to any claim arising out of or resulting from an act or omission by such Board member within the scope of service as a Board member. The bill does not limit personal liability for criminal acts or omissions, wilful or malicious conduct, acts or omissions for private gain, or any other act or omission outside the scope of service of the Board member.

The bill does not affect any other immunities and protections that may be available under applicable law or any other right or remedy against the United States under applicable law, or limit or alter the immunities that are available under applicable law for Federal officers and employees.

EFFECTIVE DATE

The provision s of the bill relating to the Board are effective on the date of enactment. The President is directed to submit nominations for Board members to the Senate within 6 months of the date of enactment.

B. APPOINTMENT AND DUTIES OF IRS COMMISSIONER (secs. 102 and 103 of the bill and secs. 7803 and 7804 of the Code)

PRESENT LAW

Within the Department of the Treasury is a Commissioner of Internal Revenue, who is appointed by the President, with the advice and consent of the Senate. The Commissioner has such duties and powers as may be prescribed by the Secretary.¹² The Secretary has delegated to the Commissioner the administration and enforcement of the internal revenue laws.¹³ The Commissioner generally does not have authority with respect to policy matters.¹⁴

The Secretary is authorized to employ such persons as the Secretary deems appropriate for the administration and enforcement of the internal revenue laws and to assign posts of duty.

REASONS FOR CHANGE

The Committee believes that the duties and responsibilities of the Commissioner are of such significance that the Commissioner should continue to be appointed by the President.¹⁵ However, the frequency with which the Commissioner changes --the average tenure in office is under 3 years --is one of the factors contributing to lack of IRS management continuity. The Committee believes (as did the National Commission on Restructuring the IRS ) that providing a statutory term for the Commissioner to serve would help ensure greater continuity of IRS management.

The Committee believes that it is appropriate to preserve the present-law structure under which the duties of the Commissioner are delegated by the Secretary of the Treasury. Modifying this structure may unnecessarily interfere with the operations of the IRS and other agencies within the Treasury. In order to enable the Congress to properly fulfill its oversight responsibilities with respect to the IRS , the Committee believes that the Congress should be notified of changes in the delegation of authority to the Commissioner.

EXPLANATION OF PROVISION

As under present law, the Commissioner will be appointed by the President, with the advice and consent of the Senate, and can be removed at will by the President. The Commissioner will be appointed to a 5-year term, beginning with the date of appointment. The Board has the power to recommend candidates to the President for Commissioner. The Board has the authority to recommend the removal of the Commissioner. Although the President is not required to nominate for Commissioner a candidate recommended by the Board (or to remove a Commissioner when the Board so recommends), it is expected that the President will generally give deference to the Board's expertise and familiarity with the needs and functions of the IRS and will act in accordance with the Board's recommendations.

The Commissioner has such duties and powers as prescribed by the Secretary. Unless otherwise specified by the Secretary, such duties and powers include the power to administer, manage, conduct, direct, and supervise the execution and application of the internal revenue laws or related statutes and tax conventions to which the United States is a party and to recommend to the President a candidate for Chief Counsel (and recommend the removal of the Chief Counsel). It is intended that the listed duties codify present delegations. However, if the Secretary changes such orders, they may be subject to the notice requirement of the bill, described below.

If the Secretary determines not to delegate the specified duties to the Commissioner, such determination will not take effect until 30 days after the Secretary notifies the House Committees on Ways and Means, Government Reform and Oversight, and Appropriations, the Senate Committees on Finance, Government Operations, and Appropriations, and the Joint Committee on Taxation.

This provision is not intended to alter the Secretary's existing authority to delegate to agencies other than the IRS the authority to administer and enforce certain portions of the internal revenue laws. For example, the Secretary currently has delegated to the Bureau of Alcohol, Tobacco and Firearms the authority to administer and enforce the taxes under section 4181 and chapters 51, 52, and 53 of the Internal Revenue Code (regarding excise and other taxes on alcohol, tobacco, firearms, and destructive devices).

The Commissioner is to consult with the Board on all matters within the Board's authority (other than the recommendation of candidates for Commissioner and the recommendation to remove the Commissioner). With respect to those matters within the Board's approval authority (other than with respect to the development of the budget), it is fully expected that the Secretary will exert his or her oversight responsibility over the IRS by working through and with the Board.¹⁶

Unless otherwise specified by the Secretary, the Commissioner is authorized to employ such persons as the Commissioner deems proper for the administration and enforcement of the internal revenue laws and would be required to issue all necessary directions, instructions, orders, and rules applicable to such persons. Unless otherwise provided by the Secretary, the Commissioner will determine and designate the posts of duty.

The Commissioner is compensated as under present law. EFFECTIVE DATE

The provision s of the bill relating to the Commissioner generally are effective on the date of enactment. The provision relating to the 5-year term of office applies to the Commissioner in office on the date of enactment. This 5-year term runs from the date of appointment.

C. STRUCTURE AND FUNDING OF THE EMPLOYEE PLANS AND EXEMPT ORGANIZATIONS ("EP/EO") DIVISION

(sec. 102 of the bill and sec. 7802(b) of the Code) PRESENT LAW

Prior to 1974, no one specific office in the IRS had primary responsibility for employee plans and tax-exempt organizations. As part of the reforms contained in the Employee Retirement Income Security Act of 1974 ("ERISA"), Congress statutorily created the Office of Employee Plans and Exempt Organizations ("EP/EO") under the direction of an Assistant Commissioner.¹⁷ EP/EO was created to oversee deferred compensation plans governed by sections 401-414 of the Code and organizations exempt from tax under Code section 501(a).

In general, EP/EO was established in response to concern about the level of IRS resources devoted to oversight of employee plans and exempt organizations. The legislative history of Code section 7802(b) states that, with respect to administration of laws relating to employee plans and exempt organizations, "the natural tendency is for the Service to emphasize those areas that produce revenue rather than those areas primarily concerned with maintaining the integrity and carrying out the purposes of exemption provisions."¹⁸

To provide funding for the new EP/EO office, ERISA authorized the appropriation of an amount equal to the sum of the section 4940 excise tax on investment income of private foundations (assuming a rate of 2 percent) as would have been collected during the second preceding year plus the greater of the same amount or $30 million.¹⁹ However, amounts raised by the section 4940 excise tax have never been dedicated to the administration of EP/EO, but are transferred instead to general revenues. Thus, the level of EP/EO funding, like that of the rest of the IRS , is dependent on annual Congressional appropriations to the Treasury Department.

REASONS FOR CHANGE

The Committee believes that it is important to retain the Office of Employee Plans and Exempt Organizations under the supervision and direction of an Assistant Commissioner of the Internal Revenue. Because of EP/EO's expertise in the area of retirement benefits, the Committee believes that its responsibilities should be expanded to include nonqualified deferred compensation arrangements. In addition, the inclusion of an annual reporting mechanism in the bill is designed to ensure that the Commissioner is adequately informed regarding the activities of EP/EO.

The funding formula for EP/EO set forth in section 7802(b)(2) would, if utilized, result in an unstable level of funding that may bear little or no relation to the amount of financial resources actually required by the EP/EO division. In repealing the funding mechanism, however, the Committee notes that, given the magnitude of the sectors EP/EO is charged with regulating, as well as the unique nature of its mandate, an adequately funded EP/EO is extremely important to the efficient and fair administration of the Federal tax system. Accordingly, financial resources for EP/EO should not be constrained on the basis that EP/EO is a "non-core" IRS function; rather, EP/EO, like all functions of the IRS , should be funded so as to promote the efficient and fair administration of the Federal tax system.

EXPLANATION OF PROVISION

The bill retains the Office of Employee Plans and Exempt Organizations under the supervision and direction of an Assistant Commissioner of the Internal Revenue. As under present law, EP/EO is responsible for carrying out functions and duties associated with organizations designed to be exempt from tax under section 501(a) of the Code and with respect to plans designed to be qualified under section 401(a). In addition, however, EP/EO's responsibilities are expanded to include nonqualified deferred compensation arrangements. The bill also provides that the Assistant Commissioner shall report annually to the Commissioner on EP/EO operations.

In addition, the bill repeals the funding mechanism for EP/EO set forth in section 7802(b). Thus, the appropriate level of funding for EP/EO is, consistent with current practice, subject to annual Congressional appropriations, as are other functions within the IRS .

EFFECTIVE DATE

The provision is effective on the date of enactment.

D. TAXPAYER ADVOCATE (sec. 102 of the bill and sec. 7803 of the Code)

PRESENT LAW

In 1996, the Taxpayer Bill of Rights 2 ("TBOR 2")²⁰ established the position of Taxpayer Advocate, which replaced the position of Taxpayer Ombudsman, created in 1979 by the IRS . Before the creation of the Taxpayer Advocate, the Taxpayer Ombudsman was a career civil servant selected by and serving at the pleasure of the IRS Commissioner. The Taxpayer Advocate is appointed by and reports directly to the IRS Commissioner.

TBOR 2 also created the office of the Taxpayer Advocate. The functions of the office are (1) to assist taxpayers in resolving problems with the IRS , (2) to identify areas in which taxpayers have problems in dealings with the IRS , (3) to propose changes (to the extent possible) in the administrative practices of the IRS that will mitigate those problems, and (4) to identify potential legislative changes that may mitigate those problems.

The Taxpayer Advocate is required to submit two annual reports to the tax-writing committees, one, due by June 30, that describes the objectives of the Taxpayer Advocate for the next fiscal year and another, due by December 31, that describes the activities of the Taxpayer Advocate for the previous fiscal year. The December 31 report must identify what the Taxpayer Advocate has done to improve taxpayer services and IRS responsiveness, contain recommendations received from individuals who have the authority to issue a Taxpayer Assistance Order, describe in detail the progress made in implementing those recommendations, contain a summary of at least 20 of the most serious problems encountered by taxpayers in dealing with the IRS , include recommendations for such administrative and legislative action as may be appropriate to resolve such problems, describe the extent to which regional problem resolution officers participate in the selection and evaluation of local problem resolution officers, and include other such information as the Taxpayer Advocate may deem advisable. The reports are submitted without review by the Commissioner, the Secretary of the Treasury, or any other officer or employee of the Department of Treasury or the Office of Management and Budget.

REASONS FOR CHANGE

The Committee believes that the Taxpayer Advocate serves an important role within the IRS in terms of preserving taxpayer rights and solving problems that taxpayers encounter in their dealings with the IRS . To that end, it is appropriate that the IRS Oversight Board have input in the selection of the Taxpayer Advocate. In addition, the Committee believes that the Taxpayer Advocate should have experience appropriate to the position and that the Taxpayer Advocate's objectivity would be best preserved by limiting future employment with the IRS . The Committee also believes that the reporting requirements of the Taxpayer Advocate should be targeted not only towards solving problems with the IRS but also towards preventing problems before they arise.

EXPLANATION OF PROVISION

The bill requires the Commissioner to obtain the approval of the IRS Oversight Board on the selection of the Taxpayer Advocate. A candidate for the Taxpayer Advocate must have either substantial experience representing taxpayers before the IRS or have substantial experience within the IRS . If the prospective Taxpayer Advocate was an officer or an employee of the IRS before being appointed as the Taxpayer Advocate, the individual is required to agree not to accept any employment with the IRS for at least 5 years after ceasing to be the Taxpayer Advocate.

The bill modifies the information to be included in the December 31 report to the tax-writing committees. The report no longer needs to include information about the extent to which regional problem resolution officers participate in the selection and evaluation of local problem resolution officers. The report identifies areas of the tax law that impose significant compliance burdens on taxpayers or the IRS , including specific recommendations for solving these problems. The Taxpayer Advocate also is required to work in conjunction with the National Director of Appeals to identify the 10 most litigated issues for each category of taxpayers, and include the list of issues and recommendations for mitigating such disputes in the report. Categories of taxpayers include, for example, individuals, self-employed individuals, small businesses, etc.

As under present law, the reports are submitted directly to the tax-writing committees, without review by the IRS Oversight Board, the Secretary of the Treasury, or any other officer or employee of the Department of the Treasury or the Office of Management and Budget.

In addition, the bill imposes new responsibilities on the Taxpayer Advocate. The Taxpayer Advocate is requested to monitor the coverage and geographical allocation of problem resolution officers and develop guidance that outlines criteria to be used by IRS employees in referring taxpayer inquiries to problem resolution officers. In connection with these responsibilities, it is anticipated that the Taxpayer Advocate will work with the IRS District Offices to ensure convenient taxpayer access to the local problem resolution officer. For example, the local telephone number for the problem resolution officer in each district should be published and available to taxpayers.

It is intended that the Taxpayer Advocate will work with the Commissioner in developing career paths for local problem resolution officers, so that individuals can progress through the General Schedule in the same manner as examination employees, without having to leave the problem resolution system. In that regard, it is contemplated that the compensation levels of local and regional problem resolution officers should be the same as those of IRS personnel operating in other functional units. Under the current system, local problem resolution officers generally must return to an audit or collection function to achieve promotion. This lack of a career path within the problem resolution system reduces the independence of the system. It is contemplated that, to the extent feasible, regional problem resolution officers should be selected from the available pool of local problem resolution officers.

EFFECTIVE DATE

This provision is effective on the date of enactment, except that the post-employment restrictions on the Taxpayer Advocate do not apply to an individual holding that position on the date of enactment.

E. PROHIBITION ON EXECUTIVE BRANCH INFLUENCE OVER TAXPAYER AUDITS

(sec. 104 of the bill and new sec. 7217 of the Code) PRESENT LAW

There is no explicit prohibition in the Code on high-level Executive Branch influence over taxpayer audits and collection activity.

The Internal Revenue Code prohibits disclosure of tax returns and return information, except to the extent specifically authorized by the Internal Revenue Code (sec. 6103). Unauthorized disclosure is a felony punishable by a fine not exceeding $5,000 or imprisonment of not more than five years, or both (sec. 7213). An action for civil damages also may be brought for unauthorized disclosure (sec. 7431).

REASONS FOR CHANGE

The Committee believes that the perception that it is possible that high-level Executive Branch influence over taxpayer audits and collection activity could occur has a negative influence on taxpayers' views of the tax system. Accordingly, the Committee believes that it is appropriate to prohibit such influence.

EXPLANATION OF PROVISION

The bill makes it unlawful for a specified person to request that any officer or employee of the IRS conduct or terminate an audit or otherwise investigate or terminate the investigation of any particular taxpayer with respect to the tax liability of that taxpayer. The prohibition applies to the President, the Vice President, and employees of the executive offices of either the President or Vice President, as well as any individual (except the Attorney General) serving in a position specified in section 5312 of Title 5 of the United States Code (these are generally Cabinet-level positions). The prohibition applies to both direct requests and requests made through an intermediary.

Any request made in violation of this rule must be reported by the IRS employee to whom the request was made to the Chief Inspector of the IRS . The Chief Inspector has the authority to investigate such violations and to refer any violations to the Department of Justice for possible prosecution, as appropriate. Anyone convicted of violating this provision will be punished by imprisonment of not more than 5 years or a fine not exceeding $5,000 (or both).

Three exceptions to the general prohibition apply. First, the prohibition does not apply to a request made to a specified person by a taxpayer or a taxpayer's representative that is forwarded by the specified person to the IRS . This exception is intended to cover two types of situations. The first situation is where a taxpayer (or a taxpayer's representative) writes to a specified person seeking assistance in resolving a difficulty with the IRS . This exception permits the specified person who receives such a request to forward it to the IRS for resolution without violating the general prohibition. The second situation that this first exception is intended to cover is an audit or investigation by the IRS of a Presidential nominee. Under present law (sec. 6103(c)), nominees for Presidentially appointed positions consent to disclosure of their tax returns and return information so that background checks may be conducted. Sometimes an audit or other investigation is initiated as part of that background check. The Committee anticipates that any such audit or investigation that is part of such a background check will be encompassed within this first exception.

The second exception to the general prohibition applies to requests for disclosure of returns or return information under section 6103 if the request is made in accordance with the requirements of section 6103.

The third exception to the general prohibition applies to requests made by the Secretary of the Treasury as a consequence of the implementation of a change in tax policy.

EFFECTIVE DATE

The provision applies to violations occurring after the date of enactment.

F. IRS PERSONNEL FLEXIBILITIES (sec. 111 of the bill and new secs. 9301-9304 of title 5, U.S.C.)

PRESENT LAW

The Internal Revenue Service, like almost all other federal agencies, is subject to the personnel rules and procedures set forth in title 5, United States Code. As such, its employees generally are classified under the General Schedule or the Senior Executive Service.

REASONS FOR CHANGE

Under the existing personnel rules and procedures set forth in title 5, hiring, evaluating, promoting, and firing employees is subject to extensive regulation. Given the role of the IRS in the federal government, its unique needs in terms of skilled tax, technology, and service personnel, and its present needs to motivate its managers and employees to embrace continuous improvements and cost savings while maintaining adequate levels of service for taxpayers, the Committee finds that certain flexibilities are appropriate and will facilitate the efforts of the IRS to better manage its workforce.

The Committee finds that the vast majority of IRS employees are competent professionals who perform their jobs as well as can be expected under existing organizational constraints. However, over the past decade, the quality of IRS interaction with taxpayers and the public has deteriorated, in part due to lower personnel qualifications, pay levels, and training quality. In addition, the stovepipe nature of IRS operations, in which functional units such as taxpayer services, exam, collection, and appeals set and implement their own priorities and objectives, which often are disconnected from the other functions and the organization as a whole, adds to the problem of decreased taxpayer service. Moreover, the risk averse nature of the IRS , which provides minimal incentive for managers or front-line employees for achieving mission, stifles creativity, innovation, and quick problem resolution.

Consistent with the rest of this bill, the Committee intends section 111 to lead to increased accountability on the part of IRS managers and employees and increased focus on the IRS mission, goals, and objectives. At the core of this accountability and focus lies increased attention on providing adequate levels of service to taxpayers. The Committee believes that taxpayers should deal only with IRS employees who are trained adequately and possess the skills and tools necessary to do their jobs well. To provide such service to taxpayers, the Committee expects the IRS to use the flexibilities provided by this section to hire and promote qualified professionals, to provide incentives for employees to treat taxpayers with the service and respect that they deserve, and to discipline employees who cannot or will not treat taxpayers fairly. In short, the Committee expects the IRS to hold all workers --from senior managers to front-line employees --accountable for carrying out the IRS mission.

EXPLANATION OF PROVISION

In general

Section 111 of the bill would amend title 5, United States Code, by inserting a new chapter 93 providing certain personnel flexibilities to the IRS . By providing these flexibilities in this manner, the Committee intends for the IRS to remain subject to all of the rules and procedures of title 5, except to the extent that the exercise of flexibilities provided under this new chapter 93 is inconsistent with prior law.

The bill clarifies that the personnel flexibilities for the IRS are intended to be exercised consistently with existing rules relating to merit system principles, prohibited personnel practices, and preference eligibles. Moreover, the Committee believes that the employees of the IRS should be involved in the reinvention of the bureaucracies in which they work. Accordingly, the bill provides that the flexibilities provided to the IRS must be negotiated between the IRS and the employees' union. Such negotiations need not address all of the flexibilities provided under this provision. The written agreement should be a consensus document, but is not a contract that can be appealed to the federal services impasse panel, or otherwise create additional appeal rights. To the extent that the exercise of any flexibility, such as that provided by new section 9303(c), would not affect members of the employees' union, then no written agreement is required.

Performance management

The bill would require the IRS to establish a new performance management system within one year from the date of enactment. The Committee expects that this system will refocus the IRS 's personnel system on the overall mission of the IRS and how each employee's performance relates to that mission. The new performance standards are premised on the notion of retention --performance at the retention standard indicates that an employee has performed fully successfully, no better or worse. Failure to meet this standard indicates that the employee has not performed adequately, and managers should use the tools available to encourage the employee to improve performance, or if such efforts do not lead to improved performance, to remove the employee. The performance standard above the retention standard is intended to encourage employees to perform at a higher level, and to allow managers to make performance distinctions among employees.

The Committee encourages the IRS to redesign its performance measures to more appropriately align employee behavior with organizational goals. One of the most significant efforts that the IRS must undertake in this regard is to design internal measures that will encourage behavior which makes it easier for taxpayers to interact with the IRS . While this will involve significant effort, the Committee expects that these measures will bring the organizational goals and objectives, including those established under the Government Performance and Results Act of 1993 and Revenue Procedure 64-22, down to the individual employee level. In addition, the Committee expects the IRS to develop taxpayer service surveys that will gauge the level of service that taxpayers actually receive, for use in evaluating organizational and group performance. In no case should measures be used which rank employees or groups of employees based solely on enforcement results, establish dollar goals for assessments or collections, or otherwise undermine fair treatment of taxpayers. While any system of measures must reflect the efficiency and productivity of employees, the Committee expects that the IRS will establish a balanced system of measures that will ensure that taxpayer satisfaction is paramount throughout all IRS functions.

Awards

There are three types of awards specifically referenced in the bill. First, certain awards for superior accomplishments will continue to require certification to the Office of Personnel Management (OPM), but absent objection from OPM within 60 days, the Commissioner's recommendations for such awards will take effect. As with all awards, these awards should be made based on performance under the new performance management system, and in no case should awards be made (or performance measured) based solely or principally on tax enforcement results.

The second category of awards relates to the most senior managers in the IRS . The Commissioner will have discretion, upon consultation with the IRS Oversight Board established under section 101 of this bill, to make awards of up to 50 percent of salary to such managers, so long as the total compensation for an employee as a result of such an award does not equal or exceed the annual rate of compensation for the Vice President for such calendar year. As with awards for superior accomplishments, OPM will have 60 days to object. The Commissioner will be required to prescribe regulations defining how determinations will be made as to whether an employee is eligible for such awards. In no case, however, will more than 8 employees be eligible to receive such awards in any calendar year. Moreover, it is not expected that all of the eligible pool will receive such awards each year, or that the full 50 percent would be appropriate, except in cases of extraordinary performance.

Finally, the third category of awards --based on savings --is intended to encourage the practice of rewarding employees for developing more efficient methods of administration. The Committee encourages the IRS to establish programs that encourage employee input into reorganizing business processes leading to efficiency gains, and sharing resultant savings with employees. Provided that taxpayers receive adequate levels of service, the Committee expects that such gainsharing awards will help to improve the efficiency of the IRS .

Streamlined procedures

The bill provides two tools to streamline the process of taking certain adverse actions for poor performance. First, the notice period for taking adverse actions is reduced from 30 days to 15 days. At the discretion of the IRS , and in accordance with regulations issued by OPM, this period can be extended.

Second, the bill prohibits appeals of the denial of a step increase to the Merit Systems Protections Board. Aggrieved employees nonetheless can appeal such actions pursuant to internal agency procedures, including any procedures agreed to pursuant to collective bargaining agreements or pursuant to the written agreement under section 9301(b) authorizing the use of this flexibility.

Staffing flexibilities

The bill provides the IRS with flexibility in filling certain permanent appointments in the competitive service by authorizing the IRS to fill such vacancies with either qualified veterans or qualified temporary employees. For purposes of this provision, a qualified veteran is an individual who is either a preference eligible or has been separated from the armed forces under honorable conditions after at least three years of active service, and who meets the minimum qualifications for the vacant position. A qualified temporary employee is defined under the bill as a temporary employee of the IRS with at least two years of continuous service, who has met all applicable retention standards and who meets the minimum qualifications for the vacant position.

The bill also authorizes the IRS to establish category rating systems for evaluating job applicants, under which qualified candidates are divided into two or more quality categories on the basis of relative degrees of merit, rather than assigned individual numerical ratings. Managers would be authorized to select any candidate from the highest quality category, and would not be limited to the three highest ranked candidates, as is the case under existing law. In administering these category rating systems, the IRS generally will be required to list preference eligibles ahead of other individuals within each quality category. Nonetheless, the appointing authority can select any candidate from the highest quality category, as long as existing requirements relating to passing over preference eligibles are satisfied.

The bill authorizes the Commissioner to reassign or remove career appointees in the Senior Executive Service immediately upon taking office. While the Committee does not intend for any Commissioner to make wholesale management changes without thorough evaluations, the Committee believes that if the Commissioner is to be held accountable, then the Commissioner must have the flexibility to recruit his own management team.

The bill authorizes the Commissioner to establish probation periods for IRS employees of up to 3 years, when the Commissioner determines that a shorter period is not sufficient for an employee to demonstrate proficiency in a position.

Demonstration projects

The bill makes it easier for the IRS to establish demonstration projects under title 5. The Committee expects that the IRS will use this flexibility to establish demonstration projects to improve personnel management, particularly to the extent that such projects lead to increased individual accountability. For example, the IRS might use this flexibility to establish demonstration projects involving broad-banded pay systems or alternative classification systems, to provide for variations in the existing rules regarding grade and pay retention, or to provide for variations from existing provisions relating to payment of recruitment, relocation, and retention bonuses. In addition, the Committee expects that the IRS will use this flexibility to develop more efficient means of handling employee appeals of personnel actions. No flexibility can be exercised under this provision that does not preserve due process for employees, however.

To allow the IRS the flexibility to establish these and other demonstration projects, as appropriate, the bill authorizes any number of projects, and exempts the IRS from many of the requirements applicable to demonstration projects under section 4703 of title 5, United States Code. Specifically, the bill eliminates the requirement that the IRS submit plans to establish demonstration projects to a public hearing, and streamlines the advance notice requirements of section 4703. In addition, the bill allows the IRS to establish demonstration projects for any number of its employees, and gives the Commissioner greater latitude in working with OPM to develop and implement demonstration projects. The bill maintains a number of the existing prohibitions on demonstration projects, including the prohibition on using demonstration projects to waive any requirement of title 5 relating to family and medical leave. As with the other personnel flexibilities provided under this section, the bill requires the IRS to negotiate a written agreement with the employees' union to the extent that the implementation of a demonstration project affects such employees.

The bill establishes a general time limitation of 5 years on the duration of any demonstration project established under this section. However, if the Commissioner and the Director of OPM concur, a demonstration project may be extended for an additional 2 years if necessary to validate the results of the project. Not later than 6 months prior to the termination of a project, the bill requires the Commissioner to submit a legislative proposal to the Congress if the Commissioner determines that such project should be made permanent.

EFFECTIVE DATE

The provision s shall take effect on the date of the enactment of this Act.

TITLE II. ELECTRONIC FILING

A. ELECTRONIC FILING OF TAX AND INFORMATION RETURNS (sec. 201 of the bill and sec. 6011 of the Code)

PRESENT LAW

Treas. Reg. section 1.6012-5 provides that the Commissioner may authorize, at the option of a person required to make a return, the use of a composite return in lieu of a paper return. An electronically filed return is a composite return consisting of electronically transmitted data and certain paper documents that cannot be electronically transmitted. Form 8453 is a paper form that must be received by the IRS before any electronically filed return is complete. Form 8453 provides signature information to the IRS .

The IRS conducted the first test of electronic filing in 1986, for a limited number of tax year 1985 returns.²¹ In 1990, the IRS permitted nationwide electronic filing of returns that had refunds owing.²² In 1991, the IRS accepted electronically filed returns that had balances due.²³ In 1993, the IRS established an electronic filing goal of 80 million tax returns by 2001. During the 1997 tax filing season, the IRS received approximately 20 million individual tax returns electronically.

REASONS FOR CHANGE

The Committee believes that the implementation of a comprehensive strategy to encourage electronic filing of tax and information returns holds significant potential to benefit taxpayers and make the IRS returns processing function more efficient. For example, the error rate associated with processing paper tax returns is approximately 20 percent, half of which is attributable to the IRS and half to error in taxpayer data. Because electronically-filed returns usually are prepared using computer software programs with built-in accuracy checks, undergo pre-screening by the IRS , and experience no key punch errors, electronic returns have an error rate of less than one percent. Thus, the Committee believes that an expansion of electronic filing will significantly reduce errors (and the resulting notices that are triggered by such errors). In addition, taxpayers who file their returns electronically receive confirmation from the IRS that their return was received.

EXPLANATION OF PROVISION

The bill states that the policy of Congress is to promote paperless filing, with a long-range goal of providing for the filing of at least 80 percent of all tax returns in electronic form by the year 2007. The bill requires the Secretary of the Treasury to establish a strategic plan to eliminate barriers, provide incentives, and use competitive market forces to increase taxpayer use of electronic filing. The strategic plan initially targets returns prepared in electronic form but filed in paper form, such as a return prepared by the taxpayer using return preparation software, which the taxpayer then printed and filed in paper form. The bill requires all such returns to be filed electronically, to the extent feasible, by the year 2002.

The bill requires the Secretary to create an electronic commerce advisory group comprised of representatives from the small business, tax practitioner, preparer, and computerized tax processor communities and other representatives from the electronic filing industry. Under the bill, the Chair of the IRS Oversight Board, together with the Secretary and the Chair of the electronic commerce advisory group, are required to report annually to the tax-writing committees on the IRS 's progress in implementing its plan to meet the goal of 80 percent electronic filing by 2007.

To promote electronic filing, the bill authorizes the Secretary to publicize the benefits of electronic filing by using mass communications and other means. In addition, the bill authorizes the Secretary to implement procedures for paying appropriate incentives for electronically filed returns. This provision is not intended to override section 1205 of the Taxpayer Relief Act of 1997,²⁴ which prohibits the IRS from paying fees to credit card companies in connection with receiving tax payments by credit card.

EFFECTIVE DATE

The provision is effective on the date of enactment.

B. TIME FOR FILING CERTAIN INFORMATION RETURNS WITH THE IRS (sec. 202 of the bill and sec. 6071 of the Code)

PRESENT LAW

Information such as the amount of dividends, partnership distributions, and interest paid during the tax year must be supplied to taxpayers by the payors by January 31 of the year following the calendar year for which the return must be filed. The payors must file an information return with the IRS with the information by February 28 of the year following the calendar year for which the return must be filed. Under present law, the due date for information returns is the same whether such returns are filed on paper, on magnetic media, or electronically. Most information returns are filed on magnetic media (such as computer tapes) which must be physically shipped to the IRS .

REASONS FOR CHANGE

The Committee believes that encouraging information return filers to file electronically will substantially increase the efficiency of the tax system by avoiding the need to convert the information from magnetic media or paper to electronic form before return matching.

EXPLANATION OF PROVISION

The bill provides an incentive to filers of information returns to use electronic filing by extending the due date for filing such returns from February 28 (under present law) to March 31 of the year following the calendar year to which the return relates. The bill does not change the requirement that payors must supply taxpayers with the applicable information by January 31. The Committee anticipates that the IRS will cooperate with interested private sector filers of information returns in facilitating to the maximum extent feasible the utilization of electronic filing for such forms.

EFFECTIVE DATE

The provision applies to information returns required to be filed after December 31, 1999.

C. PAPERLESS ELECTRONIC FILING (sec. 203 of the bill and sec. 6061 of the Code)

PRESENT LAW

Code section 6061 requires that tax forms be signed as required by the Secretary. The IRS will not accept an electronically filed return unless it has received a Form 8453 providing signature information on the filer.

Generally, a return is considered timely filed when it is received by the IRS on or before the due date of the return. If the requirements of Code section 7502 are met, timely mailing is treated as timely filing. If the return if mailed by registered mail, the dated registration statement is prima facie evidence of delivery. As an electronically filed return is not mailed, section 7502 does not apply.

The IRS periodically publishes a list of the forms and schedules that may be electronically transmitted, as well as a list of forms, schedules, and other information that cannot be electronically filed.

REASONS FOR CHANGE

Electronically filed returns cannot provide the maximum efficiency for taxpayers and the IRS under current rules that require signature information to be filed on paper. Also, taxpayers need to know how the IRS will determine the filing date of a return filed electronically. The Committee believes that more types of returns could be filed electronically if proper procedures were in place.

EXPLANATION OF PROVISION

The bill requires the Secretary to develop procedures that would eliminate the need to file a paper form relating to signature information. The Secretary is required to develop procedures for the acceptance of signatures in digital or other electronic form. Until the procedures are in place, the bill authorizes the Secretary to waive the requirement of a signature or to provide for alternative methods of subscribing all returns, declarations, statements, or other documents. The bill treats documents subscribed under such alternative methods as signed for all purposes, both civil and criminal, and provides a rebuttable presumption that any such return, declaration, statement or other document was actually submitted and subscribed by the person on whose behalf it was submitted. It is contemplated that the IRS will establish procedures for rebuttal of the presumption.

The bill also provides rules for determining when electronic returns are deemed filed, and for authorization for return preparers to communicate with the IRS on matters included on electronically filed returns.

The bill also requires that the Secretary establish procedures, to the extent practicable, to receive all tax forms electronically by December 31, 1998.

EFFECTIVE DATE

The provision is effective on the date of enactment.

D. RETURN- FREE TAX SYSTEM (sec. 204 of the bill)

PRESENT LAW

Under present law, taxpayers are required to calculate their own tax liabilities and submit returns showing their calculations.

REASONS FOR CHANGE

The Committee believes that it would benefit taxpayers to be relieved, to the extent feasible, from the burden of determining tax liability and filing returns.

EXPLANATION OF PROVISION

The bill requires the Secretary or his delegate to study the feasibility of and develop procedures for the implementation of a return-free tax system for taxable years beginning after 2007. The Secretary is required annually to report to the tax-writing committees on the progress of the development of such system, including what additional resources the IRS would need to implement the system, the changes to the Internal Revenue Code that would facilitate the system, the procedures developed to date, and the number and classes of taxpayers who would be permitted to use such a system. The Secretary is required to make the first report on the development of the return-free filing system to the tax-writing committees on June 30, 1999. It is contemplated that the return-free filing system would initially be targeted at taxpayers who had taxable income from wages, interest, dividends, pensions, and unemployment compensation; did not itemize deductions; and did not take any tax credits other than the earned income tax credit.²⁵

EFFECTIVE DATE

The provision is effective on the date of enactment.

E. ACCESS TO ACCOUNT INFORMATION (sec. 205 of the bill)

PRESENT LAW

Taxpayers who file their returns electronically cannot review their accounts electronically.

REASONS FOR CHANGE

The Committee believes, to the extent feasible, that taxpayers should have access to their account information held by the IRS . If taxpayers file electronically, they should be able to review the information electronically, to the extent feasible.

EXPLANATION OF PROVISION

The bill requires the Secretary to develop procedures under which a taxpayer filing returns electronically could review the taxpayer's account electronically not later than December 31, 2006, but only if all necessary privacy safeguards are in place by that date.

EFFECTIVE DATE

The provision is effective on the date of enactment.

TITLE III . TAXPAYER BILL OF RIGHTS 3

A. BURDEN OF PROOF (sec. 301 of the bill and new sec. 7491 of the Code)

PRESENT LAW

Under present law, a rebuttable presumption exists that the Commissioner's determination of tax liability is correct.²⁶ "This presumption in favor of the Commissioner is a procedural device that requires the plaintiff to go forward with prima facie evidence to support a finding contrary to the Commissioner's determination. Once this procedural burden is satisfied, the taxpayer must still carry the ultimate burden of proof or persuasion on the merits. Thus, the plaintiff not only has the burden of proof of establishing that the Commissioner's determination was incorrect, but also of establishing the merit of its claims by a preponderance of the evidence".²⁷

The general rebuttable presumption that the Commissioner's determination of tax liability is correct is a fundamental element of the structure of the Internal Revenue Code. Although this presumption is judicially based, rather than legislatively based, there is considerable evidence that the presumption has been repeatedly considered and approved by the Congress. This is the case because the Internal Revenue Code contains a number of civil provisions that explicitly place the burden of proof on the Commissioner in specifically designated circumstances. The Congress would have enacted these provisions only if it recognized and approved of the general rule of presumptive correctness of the Commissioner's determination. A list of these civil provisions follows.

(1) Fraud. --Any proceeding involving the issue of whether the taxpayer has been guilty of fraud with intent to evade tax (secs. 7454(a) and 7422(e)).

(2) Required reasonable verification of information returns. --In any court proceeding, if a taxpayer asserts a reasonable dispute with respect to any item of income reported on an information returned filed with the Secretary by a third party and the taxpayer has fully cooperated with the Secretary (including providing, within a reasonable period of time, access to and inspection of all witnesses, information, and documents within the control of the taxpayer as reasonably requested by the Secretary), the Secretary has the burden of producing reasonable and probative information concerning such deficiency in addition to such information return (sec. 6201(d)).

(3) Foundation managers. --Any proceeding involving the issue of whether a foundation manager has knowingly participated in prohibited transactions (sec. 7454(b)).

(4) Transferee liability. --Any proceeding in the Tax Court to show that a petitioner is liable as a transferee of property of a taxpayer (sec. 6902(a)).

(5) Review of jeopardy levy or assessment procedures. --Any proceeding to review the reasonableness of a jeopardy levy or jeopardy assessment (sec. 7429(g)(1)).

(6) Property transferred in connection with performance of services. --In the case of property subject to a restriction that by its terms will never lapse and that allows the transferee to sell only at a price determined under a formula, the price is deemed to be fair market value unless established to the contrary by the Secretary (sec. 83(d)(1)).

(7) Illegal bribes, kickbacks, and other payments. --As to whether a payment constitutes an illegal bribe, illegal kickback, or other illegal payment (sec. 162(c)(1) and (2)).

(8) Golden parachute payments. --As to whether a payment is a parachute payment on account of a violation of any generally enforced securities laws or regulations (sec. 280G(b)(2)(B)).

(9) Unreasonable accumulation of earnings and profits. --In any Tax Court proceeding as to whether earnings and profits have been permitted to accumulate beyond the reasonable needs of the business, provided that the Commissioner has not fulfilled specified procedural requirements (sec. 534).

(10) Expatriation. --As to whether it is reasonable to believe that an individual's loss of citizenship would result in a substantial reduction in the individual's income taxes or transfer taxes (secs. 877(e), 2107(e), 2501(a)(4)).

(11) Public inspection of written determinations. --In any proceeding seeking additional disclosure of information (sec. 6110(f)(4)(A)).

(12) Penalties for promoting abusive tax shelters, aiding and abetting the understatement of tax liability, and filing a frivolous income return. --As to whether the person is liable for the penalty (sec. 6703(a)).

(13) Income tax return preparers' penalty. --As to whether a preparer has willfully attempted to understate tax liability (sec. 7427).

(14) Status as employees. --As to whether individuals are employees for purposes of employment taxes (pursuant to the safe harbor provisions of section 530 of the Revenue Act of 1978).²⁸

REASONS FOR CHANGE

The Committee is concerned that individual and small business taxpayers frequently are at a disadvantage when forced to litigate with the Internal Revenue Service. The Committee believes that the present burden of proof rules contribute to that disadvantage. The Committee believes that, all other things being equal, facts asserted by individual and small business taxpayers who fully cooperate with the IRS and satisfy all relevant substantiation requirements should be accepted. The Committee believes that shifting the burden of proof to the Secretary in such circumstances will create a better balance between the IRS and such taxpayers, without encouraging tax avoidance.

EXPLANATION OF PROVISION

The bill provides that the Secretary shall have the burden of proof in any court proceeding with respect to a factual issue if the taxpayer asserts a reasonable dispute with respect to any such issue relevant to ascertaining the taxpayer's income tax liability. Two conditions apply. First, the taxpayer must fully cooperate at all times with the Secretary (including providing, within a reasonable period of time, access to and inspection of all witnesses, information, and documents within the control of the taxpayer, as reasonably requested by the Secretary).²⁹ Full cooperation also includes providing reasonable assistance to the Secretary in obtaining access to and inspection of witnesses, information, or documents not within the control of the taxpayer (including any witnesses, information, or documents located in foreign countries ³⁰ ). A necessary element of fully cooperating with the Secretary is that the taxpayer must exhaust his or her administrative remedies (including any appeal rights provided by the IRS ). The taxpayer is not required to agree to extend the statute of limitations to be considered to have fully cooperated with the Secretary. Second, certain taxpayers must meet the net worth limitations that apply for awarding attorney's fees. In general, corporations, trusts, and partnerships whose net worth exceeds $7 million are not eligible for the benefits of the provision. The taxpayer has the burden of proving that it meets each of these conditions, because they are necessary prerequisites to establishing that the burden of proof is on the Secretary.

The provision explicitly states that nothing in the provision shall be construed to override any requirement under the Code or regulations to substantiate any item. Accordingly, taxpayers must meet all applicable substantiation requirements, whether generally imposed ³¹ or imposed with respect to specific items, such as charitable contributions ³² or meals, entertainment, travel, and certain other expenses.³³ Substantiation requirements include any requirement of the Code or regulations that the taxpayer establish an item to the satisfaction of the Secretary.³⁴ Taxpayers who fail to substantiate any item in accordance with the legal requirement of substantiation will not have satisfied all of the legal conditions that are prerequisite to claiming the item on the taxpayer's tax return and will accordingly be unable to avail themselves of this provision regarding the burden of proof. Thus, if a taxpayer required to substantiate an item fails to do so in the manner required (or destroys the substantiation), this burden of proof provision is inapplicable.³⁵

EFFECTIVE DATE

The provision applies to court proceedings arising in connection with examinations commencing after the date of enactment.

B. PROCEEDINGS BY TAXPAYERS

1. Expansion of Authority to Award Costs and Certain Fees (sec. 311 of the bill and sec. 7430 of the Code)

PRESENT LAW

Any person who substantially prevails in any action by or against the United States in connection with the determination, collection, or refund of any tax, interest, or penalty may be awarded reasonable administrative costs incurred before the IRS and reasonable litigation costs incurred in connection with any court proceeding. In general, only an individual whose net worth does not exceed $2 million is eligible for an award, and only a corporation or partnership whose net worth does not exceed $7 million is eligible for an award.

Reasonable litigation costs include reasonable fees paid or incurred for the services of attorneys, except that the attorney's fees will not be reimbursed at a rate in excess of $110 per hour (indexed for inflation) unless the court determines that a special factor, such as the limited availability of qualified attorneys for the proceeding, justifies a higher rate. Awards of reasonable litigation costs and reasonable administrative costs cannot exceed amounts paid or incurred.

Once a taxpayer has substantially prevailed over the IRS in a tax dispute, the IRS has the burden of proof to establish that it was substantially justified in maintaining its position against the taxpayer. A rebuttable presumption exists that provides that the position of the United States is not considered to be substantially justified if the IRS did not follow in the administrative proceeding (1) its published regulations, revenue rulings, revenue procedures, information releases, notices, or announcements, or (2) a private letter ruling, determination letter, or technical advice memorandum issued to the taxpayer.

REASONS FOR CHANGE

The Committee believes that taxpayers should be allowed to recover the reasonable administrative costs they incur where the IRS takes a position against the taxpayer that is not substantially justified, beginning at the time that the IRS establishes its initial position by issuing a letter of proposed deficiency which allows the taxpayer an opportunity for administrative review in the IRS Office of Appeals. In determining what constitutes reasonable costs, the Committee believes that either the difficulty of issues or the limited local availability of tax expertise may justify the payment of higher hourly rates.

The Committee believes that the pro bono publicum representation of taxpayers should be encouraged and the value of the legal services rendered in these situations should be recognized. Where the IRS takes positions that are not substantially justified, it should not be relieved of its obligation to bear reasonable administrative and litigation costs because representation was provided the taxpayer on a pro bono basis.

The Committee is concerned that the IRS may continue to litigate issues that have previously been decided in favor of taxpayers in other circuits. The Committee believes that this places an undue burden on taxpayers that are required to litigate such issues. Accordingly, the Committee believes it is important that the court take into account whether the IRS has lost in the courts of appeals of other circuits on similar issues in determining whether the IRS has taken a position that is not substantially justified and thus liable for reasonable administrative and litigation costs.

EXPLANATION OF PROVISION

The bill: (1) provides that the difficulty of the issues presented or the unavailability of local tax expertise can be used to justify an award of attorney's fees of more than the statutory limit of $110 per hour; (2) moves the point in time after which reasonable administrative costs can be awarded to the date on which the first letter of proposed deficiency which allows the taxpayer an opportunity for administrative review in the IRS Office of Appeals is sent; (3) permits the award of attorney's fees (in amounts up to the statutory limit determined to be appropriate) to specified persons who represent for no more than a nominal fee a taxpayer who is a prevailing party; and (4) provides that in determining whether the position of the United States was substantially justified, the court shall take into account whether the United States has lost in courts of appeal for other circuits on substantially similar issues. The court may also take into account whether the United States has won in courts of appeal for other circuits on substantially similar issues.

EFFECTIVE DATE

The provision applies to costs incurred and services performed more than 180 days after the date of enactment.

2. Civil Damages for Negligence in Collection Actions (sec. 312 of the bill and sec. 7433 of the Code)

PRESENT LAW

A taxpayer may sue the United States for up to $1 million of civil damages caused by an officer or employee of the IRS who recklessly or intentionally disregards provisions of the Internal Revenue Code or Treasury regulations in connection with the collection of Federal tax with respect to the taxpayer.

REASONS FOR CHANGE

The Committee believes that taxpayers should also be able to recover economic damages they incur as a result of the negligent disregard of the Code or regulations by an officer or employee of the IRS in connection with a collection matter.

EXPLANATION OF PROVISION

The bill provides for up to $100,000 in civil damages caused by an officer or employee of the IRS who negligently disregards provisions of the Internal Revenue Code or Treasury regulations in connection with the collection of Federal tax with respect to the taxpayer. Inadvertent errors in IRS functions, such as in computer programming, do not trigger the application of this provision. No person is entitled to seek civil damages for negligent, reckless, or intentional disregard of the Code or regulations in a court of law unless he first exhausts his administrative remedies.

EFFECTIVE DATE

The provision is effective with respect to actions of officers or employees of the IRS occurring after the date of enactment.

3. Increase in Size of Cases Permitted on Small Case Calendar (sec. 313 of the bill and sec. 7463 of the Code)

PRESENT LAW

Taxpayers may choose to contest many tax disputes in the Tax Court. Special small case procedures apply to disputes involving $10,000 or less, if the taxpayer chooses to utilize these procedures (and the Tax Court concurs).

REASONS FOR CHANGE

The Committee believes that use of the small case procedures should be expanded.

EXPLANATION OF PROVISION

The bill increases the cap for small case treatment from $10,000 to $25,000.

EFFECTIVE DATE

The provision applies to proceedings commenced after the date of enactment.

C. RELIEF FOR INNOCENT SPOUSES AND PERSONS WITH DISABILITIES

1. Innocent Spouse Relief (sec. 321 of the bill and new sec. 6015 of the Code)

PRESENT LAW

Spouses who file a joint tax return are each fully responsible for the accuracy of the return and for the full tax liability. This is true even though only one spouse may have earned the wages or income which is shown on the return. This is "joint and several" liability. A spouse who wishes to avoid joint liability may file as a "married person filing separately."

Relief from liability for tax, interest and penalties is available for "innocent spouses" in certain limited circumstances. To qualify for such relief, the innocent spouse must establish: (1) that a joint return was made; (2) that an understatement of tax, which exceeds the greater of $500 or a specified percentage of the innocent spouse's adjusted gross income for the preadjustment (most recent) year, is attributable to a grossly erroneous item ³⁶ of the other spouse; (3) that in signing the return, the innocent spouse did not know, and had no reason to know, that there was an understatement of tax; and (4) that taking into account all the facts and circumstances, it is inequitable to hold the innocent spouse liable for the deficiency in tax. The specified percentage of adjusted gross income is 10 percent if adjusted gross income is $20,000 or less. Otherwise, the specified percentage is 25 percent.

It is unclear under present law whether a court may grant partial innocent spouse relief. The Ninth Circuit Court of Appeals in Wiksell v. Commissioner's ³⁷ has allowed partial innocent spouse relief where the spouse did not know, and had no reason to know, the magnitude of the understatement of tax, even though the spouse knew that the return may have included some understatement.

The proper forum for contesting a denial by the Secretary of innocent spouse relief is determined by whether an underpayment is asserted or the taxpayer is seeking a refund of overpaid taxes. Accordingly, the Tax Court may not have jurisdiction to review all denials of innocent spouse relief.

No form is currently provided to assist taxpayers in applying for innocent spouse relief.

REASONS FOR CHANGE

The Committee is concerned that the innocent spouse provisions of present law are inadequate. The Committee believes it is inappropriate to limit innocent spouse relief only to the most egregious cases where the understatement is large and the tax position taken is grossly erroneous. The Committee also believes that partial innocent spouse relief should be considered in appropriate circumstances, and that all taxpayers should have access to the Tax Court in resolving disputes concerning their status as an innocent spouse. Finally, the Committee believes that taxpayers need to be better informed of their right to apply for innocent spouse relief in appropriate cases and that the IRS is the best source of that information.

EXPLANATION OF PROVISION

The bill generally makes innocent spouse status easier to obtain. The bill eliminates all of the understatement thresholds and requires only that the understatement of tax be attributable to an erroneous (and not just a grossly erroneous) item of the other spouse.

The bill provides that innocent spouse relief may be provided on an apportioned basis. That is, the spouse may be relieved of liability as an innocent spouse to the extent the liability is attributable to the portion of an understatement of tax which such spouse did not know of and had no reason to know of.

The bill specifically provides that the Tax Court has jurisdiction to review any denial (or failure to rule) by the Secretary regarding an application for innocent spouse relief. The Tax Court may order refunds as appropriate where it determines the spouse qualifies for relief and an overpayment exists as a result of the innocent spouse qualifying for such relief. The taxpayer must file his or her petition for review with the Tax Court during the 90-day period that begins on the earlier of (1) 6 months after the date the taxpayer filed his or her claim for innocent spouse relief with the Secretary or (2) the date a notice denying innocent spouse relief was mailed by the Secretary. Except for termination and jeopardy assessments (secs. 6851, 6861), the Secretary may not levy or proceed in court to collect any tax from a taxpayer claiming innocent spouse status with regard to such tax until the expiration of the 90-day period in which such taxpayer may petition the Tax Court or, if the Tax Court considers such petition, before the decision of the Tax Court has become final. The running of the statute of limitations is suspended in such situations with respect to the spouse claiming innocent spouse status.

The bill also requires the Secretary of the Treasury to develop a separate form with instructions for taxpayers to use in applying for innocent spouse relief within 180 days from the date of enactment. An innocent spouse seeking relief under this provision must claim innocent spouse status with regard to any assessment not later than two years after the date of such assessment.

EFFECTIVE DATE

The provision is effective for understatements with respect to taxable years beginning after the date of enactment.

2. Suspension of Statute of Limitations on Filing Refund Claims During Periods of Disability (sec. 322 of the bill and sec. 6511 of the Code)

PRESENT LAW

In general, a taxpayer must file a refund claim within three years of the filing of the return or within two years of the payment of the tax, whichever period expires later (if no return is filed, the two-year limit applies) (sec. 6511(a)). A refund claim that is not filed within these time periods is rejected as untimely.

There is no explicit statutory rule providing for equitable tolling of the statute of limitations. Several courts have considered whether equitable tolling implicitly exists. The First, Third, Fourth, and Eleventh Circuits have rejected equitable tolling with respect to tax refund claims. The Ninth Circuit has permitted equitable tolling. However, the U.S. Supreme Court has reversed the Ninth Circuit in U.S. v. Brockamp, ³⁸ holding that Congress did not intend the equitable tolling doctrine to apply to the statutory limitations of section 6511 on the filing of tax refund claims.

REASONS FOR CHANGE

The Committee believes that, in cases of severe disability, equitable tolling should be considered in the application of the statutory limitations on the filing of tax refund claims.

EXPLANATION OF PROVISION

The bill permits equitable tolling of the statute of limitations for refund claims of an individual taxpayer during any period of the individual's life in which he or she is unable to manage his or her financial affairs by reason of a medically determinable physical or mental impairment that can be expected to result in death or to last for a continuous period of not less than 12 months. Proof of the existence of the impairment must be furnished in the form and manner required by the Secretary. It is anticipated that, in applying the medically determinable test, the Secretary will evaluate whether a medical opinion that a physical or mental impairment exists has been offered by a person qualified to do so with respect to that particular type of impairment. Tolling does not apply during periods in which the taxpayer's spouse or another person is authorized to act on the taxpayer's behalf in financial matters.

EFFECTIVE DATE

The provision applies to periods of disability before, on, or after the date of enactment but would not apply to any claim for refund or credit which (without regard to the provision) is barred by the statute of limitations as of January 1, 1998.

D. PROVISIONS RELATING TO INTEREST

1. Elimination of Interest Differential on Overlapping Periods of Interest on Income Tax Overpayments and Underpayments (sec. 331 of the bill and sec. 6621 of the Code)

PRESENT LAW

A taxpayer that underpays its taxes is required to pay interest on the underpayment at a rate equal to the Federal short term interest rate plus three percentage points. A special "hot interest" rate equal to the Federal short term interest rate plus five percentage points applies in the case of certain large corporate underpayments.

A taxpayer that overpays its taxes receives interest on the overpayment at a rate equal to the Federal short term interest rate plus two percentage points. In the case of corporate overpayments in excess of $10,000, this is reduced to the Federal short term interest rate plus one-half of a percentage point.

If a taxpayer has an underpayment of tax from one year and an overpayment of tax from a different year that are outstanding at the same time, the IRS will typically offset the overpayment against the underpayment and apply the appropriate interest to the resulting net underpayment or overpayment. However, if either the underpayment or overpayment have been satisfied, the IRS will not typically offset the two amounts, but rather will assess or credit interest on the full underpayment or overpayment at the underpayment or overpayment rate. This has the effect of assessing the underpayment at the higher underpayment rate and crediting the overpayment at the lower overpayment rate. This results in the taxpayer being assessed a net interest charge, even if the amounts of the overpayment and underpayment are the same.

The Secretary has the authority to credit the amount of any overpayment against any liability under the Code.³⁹ Congress has previously directed the Internal Revenue Service to consider procedures for "netting" overpayments and underpayments and, to the extent a portion of tax due is satisfied by a credit of an overpayment, not impose interest.⁴⁰

REASONS FOR CHANGE

The Committee believes that taxpayers should be charged interest only on the amount they actually owe, taking into account overpayments and underpayments from all open years. The Committee does not believe that the different interest rates provided for overpayments and underpayments were ever intended to result in the charging of the differential on periods of mutual indebtedness.

The Committee is also concerned that current practices provide an incentive to taxpayers to delay the payment of underpayments they do not contest, so that the underpayments will be available to offset any overpayments that are later determined. The Committee believes that this is contrary to sound tax administrative practice and that taxpayers should not be disadvantaged solely because they promptly pay their tax bills.

EXPLANATION OF PROVISION

The bill establishes a net interest rate of zero on equivalent amounts of overpayment and underpayment that exist for any period. Each overpayment and underpayment is to be considered only once in determining whether equivalent amounts of overpayment and underpayment exist. The special rules that increase the interest rate paid on large corporate underpayments and decrease the interest rate received on corporate underpayments in excess of $10,000 do not prevent the application of the net zero rate. The bill applies to income taxes and self-employment taxes.

For example, following an examination of his 1998 return, a corporate taxpayer is determined to have overpaid its 1998 taxes by $5,000. Previously, the taxpayer established by an amended return that it had underpaid its 1999 taxes by $7,000. The taxpayer has paid the 1999 underpayment, plus interest determined at the underpayment rate. The statute of limitations has not run with respect to either 1998 or 1999. In determining the amount of the refund owed the taxpayer with regard to the 1998 overpayment, the period for which the 1999 underpayment was outstanding must be taken into account. For all periods in which the underpayment and overpayment run concurrently (i.e., from the due date of the 1999 return until the underpayment was paid), the interest rate on the $5,000 overpayment and $5,000 of the underpayment must be the same so that the net interest rate of zero applies.⁴¹ The interest rate on the remaining $2,000 of the underpayment that was originally calculated at the short term Federal rate plus three percent would not be affected.

EFFECTIVE DATE

The provision applies to interest for calendar quarters beginning after the date of enactment. Until such time as procedures are implemented that allow for the automatic application of this provision by the IRS, the Committee expects that the Secretary will promptly and carefully consider any taxpayer's request to have interest charges recalculated in accordance with this provision. It is expected that the Secretary will extend the statute of limitations where necessary to allow for the consideration of such requests.

In light of past Congressional statements urging the Secretary to eliminate interest rate differentials in these circumstances, and taking into consideration Congress' belief that the Secretary may do so, the Committee continues to expect that the Secretary will implement the most comprehensive crediting procedures that are consistent with sound administrative practice, and not only those affected by this provision.

2. Increase in Overpayment Rate Payable to Taxpayers Other than Corporations (sec. 332 of the bill and sec. 6621 of the Code)

PRESENT LAW

A taxpayer that underpays its taxes is required to pay interest on the underpayment at a rate equal to the Federal short-term interest rate (AFR) plus three percentage points. A taxpayer that overpays its taxes receives interest on the overpayment at a rate equal to the Federal short-term interest rate (AFR) plus two percentage points.

REASONS FOR CHANGE

The Committee believes that the interest differential for noncorporate taxpayers should be eliminated.

EXPLANATION OF PROVISION

The bill provides that the overpayment interest rate will be AFR plus three percentage points, except that for corporations, the rate will remain at AFR plus two percentage points.

EFFECTIVE DATE

The provision applies to interest for calendar quarters beginning after the date of enactment.

E. PROTECTIONS FOR TAXPAYERS SUBJECT TO AUDIT OR COLLECTION

1. Privilege of Confidentiality Extended to Taxpayer's Dealings with Non-attorneys Authorized to Practice Before IRS (sec. 341 of the bill and sec. 7602 of the Code)

PRESENT LAW

A common law privilege of confidentiality exists for communications between an attorney and client with respect to the legal advice the attorney gives the client. Communications protected by the attorney-client privilege must be based on facts of which the attorney is informed by the taxpayer, without the presence of strangers, for the purpose of securing the advice of the attorney. The privilege may not be claimed where the purpose of the communication is the commission of a crime or tort. The taxpayer must be, or be seeking to become, a client of the attorney.

The privilege of confidentiality applies only where the attorney is advising the client on legal matters. It does not apply in situations where the attorney is acting in other capacities. Thus, a taxpayer may not claim the benefits of the attorney-client privilege simply by hiring an attorney to perform some other function. For example, if an attorney is retained to prepare a tax return, the attorney-client privilege will not automatically apply to communications and documents generated in the course of preparing the return. The privilege of confidentiality also does not apply where an attorney that is licensed to practice another profession is performing such other profession. For example, if a taxpayer retains an attorney who is also licensed as a certified public accountant (CPA), the taxpayer may not assert the attorney-client privilege with regard to communications made and documents prepared by the attorney in his role as a CPA.

The attorney-client privilege is limited to communications between taxpayers and attorneys. No equivalent privilege is provided for communications between taxpayers and other professionals authorized to practice before the Internal Revenue Service, such as accountants or enrolled agents.

REASONS FOR CHANGE

The Committee believes that a right to privileged communications between a taxpayer and his or her advisor should be available in noncriminal proceedings before the Internal Revenue Service, so long as the advisor is authorized to practice before the Internal Revenue Service. A right to privileged communications in such situations should not depend upon whether the advisor is also licensed to practice law. The Committee believes that it is appropriate to provide for this right within the Committee's jurisdiction, by applying it to noncriminal proceedings before the IRS.

EXPLANATION OF PROVISION

The bill extends the present law attorney-client privilege of confidentiality to tax advice that is furnished by any individual who is authorized to practice before the Internal Revenue Service, acting in a manner consistent with State law for such individual's profession, to a client-taxpayer (or potential client-taxpayer) in any noncriminal proceeding before the Internal Revenue Service.

The provision will allow taxpayers to consult with other qualified tax advisors in the same manner they currently may consult with tax advisors that are licensed to practice law. The provision does not modify the attorney-client privilege. Accordingly, except for criminal proceedings, the privilege of confidentiality under this provision applies in the same manner and with the same limitations as the attorney-client privilege of present law. The provision does not extend the privilege of confidentiality to communications that would not be eligible for the privilege if prepared by an attorney.

The provision applies to individuals authorized to practice before the Internal Revenue Service, regardless of the method pursuant to which they are so authorized. Some, such as accountants, are authorized to practice by fulfilling State licensing requirements. Others, such as enrolled agents and enrolled actuaries, are authorized to practice by passing a Treasury Department examination.

EFFECTIVE DATE

The provision is effective on the date of enactment.

2. Expansion of Authority to Issue Taxpayer Assistance Orders (sec. 342 of the bill and sec. 7811 of the Code)

PRESENT LAW

Taxpayers can request that the Taxpayer Advocate in the Internal Revenue Service ("IRS") issue a taxpayer assistance order ("TAO") if they are suffering or about to suffer a significant hardship as a result of the manner in which the internal revenue laws are being administered (sec. 7811). A TAO may require the IRS to release property of the taxpayer that has been levied upon, or to cease any action, take any action as permitted by law, or refrain from taking any action with respect to the taxpayer.

REASONS FOR CHANGE

The Committee believes that certain factors should generally be considered by the Taxpayer Advocate in determining whether a taxpayer assistance order should be issued.

EXPLANATION OF PROVISION

The bill provides that in determining whether to issue a TAO, the Taxpayer Advocate shall consider, among others, the following four factors: (1) whether there is an immediate threat of adverse action; (2) whether there has been an unreasonable delay in resolving the taxpayer's account problems; (3) whether the taxpayer will have to pay significant costs (including fees for professional representation) if relief is not granted; and (4) whether the taxpayer will suffer irreparable injury, or a long-term adverse impact, if relief is not granted. In addition, in cases where an IRS employee to whom the order would be issued is not following applicable published administrative guidance, including the Internal Revenue Manual ("IRM"), the Taxpayer Advocate shall construe the factors taken into account in determining whether to issue a TAO in the manner most favorable to the taxpayer.

EFFECTIVE DATE

The provision is effective on the date of enactment.

3. Limitation on Financial Status Audit Techniques (sec. 343 of the bill and sec. 7602 of the Code)

PRESENT LAW

The IRS examines Federal tax returns to determine the correct liability of taxpayers. The IRS selects returns to be audited in a number of ways, such as through a computerized classification system (the discriminant function ("DIF") system).

REASONS FOR CHANGE

The Committee believes that financial status audit techniques are intrusive, and that their use should be limited to situations where the IRS already has indications of unreported income.

EXPLANATION OF PROVISION

The bill prohibits IRS from using financial status or economic reality examination techniques to determine the existence of unreported income of any taxpayer unless the IRS has a reasonable indication that there is a likelihood of unreported income.

EFFECTIVE DATE

The provision is effective on the date of enactment.