House Passes Tax Reconciliation Legislation

On May 10, 2006, the House passed the Tax Increase Prevention and Reconciliation Act of 2005 by a vote of 244 to 185. The budget-protected legislation with a cost of $70 billion reflects a careful juggling act to squeeze in as many tax breaks as possible that might be controversial enough to need the budget protection afforded by this reconciliation bill, and enough revenue raisers to try to prevent procedural challenges to the legislation for its out-year costs beyond the budget window.

Key tax break extensions include the following:

1. Two-year extension of reduced rates on capital gains and dividends through 2010;
2. Increase in the AMT exemption levels for 2006 to a higher level than 2005;
3. Extension of the provision allowing nonrefundable credits to be claimed against the AMT;
4. Two-year extension of the Code Sec. 179 small business expensing election; and
5. Extension of the exception from Subpart F for active financing income for two years and creation of a Controlled Foreign Corporation look-through rule exception from Subpart F for cross-border payments of dividends, interest, rents, and royalties funded with unrepatriated active income.

Provisions to help work the budget magic include the following:

1. Waiver of the income limits on eligibility to convert from an IRA to a Roth IRA;
2. Manipulation of the timing of corporate estimated tax installment payments;
3. Application of earnings stripping rules to C Corporations which are partners;
4. Expansion of information reporting requirements to interest on tax-exempt bonds;
5. Lengthening the amortization period for geological and geophysical expenditures for major integrated oil and gas companies;
6. Three provisions tightening the rules under the Foreign Investment in Real Property Tax Act (FIRPTA);
7. Restrictions on tax-free treatment for certain corporate cash-rich spin-off transactions;
8. Imposition of loan and redemption requirements on pooled financing bonds;
9. Tightening of offers-in-compromise requirements;
10. Increase in the age for taxation of passive income of minors at their parents' rate;
11. New withholding requirements of certain payments by government entities;
12. Repeal of certain Foreign Sales Corporation/Extra-Territorial Income grandfather rules for certain binding contracts in order to comply with a recent World Trade Organization ruling;
13. Clarification that the domestic manufacturing deduction wage limitation may only include those wages allocable to domestic production gross receipts;
14. Several modifications to the foreign earned income and employer-provided housing exclusion rules for U.S. citizens living abroad; and
15. Extension of tax shelter penalties to accommodation parties.

Other provisions included in the legislation address a variety of areas:

1. Tax treatment of environmental cleanup funds;
2. Simplification of the active trade or business test;
3. Enhancement of veterans' access to affordable mortgages;
4. Availability of capital gains treatment for sale of self-created music works and election of five-year amortization for a created or acquired music work;
5. Expansion of the tonnage tax option to lighter vessels;
6. Codification and extension of the exception for the Permanent University Fund from the tax-exempt arbitrage rules;
7. Acceleration of the increased limits for industrial development bonds; and
8. Revisions to the tax treatment of loans to continuing care facilities.

The Senate is expected to take up the legislation on Thursday, May 11, and it could reach the President's desk by the weekend. Expired provisions that did not make it into this reconciliation legislation would be taken up in a follow-on piece of tax legislation that Congress would also hope to pass this year.