1. The possibility of adoption of accident health and sickness insurance plan whereunder the employee may receive tax free payments on account of his sickness, injury, or illness, at the same time the employee may deduct the insurance premium which is paid. 2. Adoption of medical or dental reimbursement plan where under the employee may receive tax free direct reimbursement from his employer for medical and dental expenses. And here again, the employer is entitled to a deduction for these payments. 3. Adoption of the wage continuation or sick pay plan where under the employee may exclude a portion of the salary paid to him while he is away from work on account of personal injury or illness. 4. Adoption of the death benefit plan where under the beneficiary of a deceased employee may receive up to $5000 from the employer without the payment of any tax. 5. Adoption of the fiscal year for federal tax reporting purposes without regard to the tax years of the owners, whereas a partnership must adopt the same tax full year as its partners. Mr. HUNGATE. Mr. Corey, is it possible to get that waived with the Internal Revenue Service? Mr. COREY. Yes sir; but they are extremely strict on that. Mr. HUNGATE. I found that out. Mr. COREY. It is very difficult to get that permission to adopt a different year. 6. The possible shelter of a portion of its income through a 22 percent rate of the first $25,000 of taxable income and a maximum of 48 percent rate on the remainder of the corporate income. I might mention here briefly that there has been a lot of talk recently about the imminence of federal legislation which would make professional corporations unnecessary. First of all, this so-called equalization legislation only relates to the qualified retirement plan area and not to the other benefits which I have mentioned. Second, this legislation is not nearly so imminent as it once was thought to be. In fact, a staff member of Joint Committee on Internal Revenue Taxation, I believe it was last week, indicated that there was very little hope for this legislation this year and possibly not until 1973 after the elections. SECTION 2. TAX EXEMPTIONS Finally, I would like to emphasize the importance of section 2 of H.R. 3121. Section 2 preserves the presently existing exemption in the unincorporated business tax which is accorded to professional individuals. If this section of H. R. 3121 is not contained in the bill, most professionals who do not choose to incorporate will be subjected to the 6 percent unincorporated business tax. The reason for this is the District Government now employs an extremely rigid interpretation of the other exemption to this tax-such exemption being a trade or business in which more than 80 percent of the gross income is derived from personal services actually rendered by the individual or members of the partnership or other entity, and in which capital is not a material income producing factor. Specifically, it is our understanding that the District Government considers such things as salaries paid for secretaries and other employees to be capital for the purposes of satisfying this exemption. Subjecting unincorporated professionals to the unincorporated business tax would have extremely harsh consequences to such professionals who do not reside in the District of Columbia. Maryland and Virginia both grant credit to their residents for income taxes paid to another jurisdiction on income generated in that jurisdiction. But the D. C. unincorporated business tax does not qualify for this credit since it is a franchise tax, that is, a tax on the privilege of doing business and not an income tax. Accordingly, the professional who resides in Maryland or Virginia and conducts his practice in the District would be subject to double taxation on the net income of his practice. Finally, subjecting nonincorporated professionals to the unincorporated business tax would result in effect with discrimination against them by imposing a commuter tax on one group of individuals who obtain their income from the performance of personal services. Mr. HUNGATE. This is a joint statement, isn't it, gentlemen? PROPOSED AMENDMENTS Mr. MIDDLEKAUFF. Yes, Mr. Chairman, it is. Our written statement also includes a few suggested technical changes to the bill which we submit for your consideration. Mr. HUNGATE. You are talking about your page 12; is that correct? Mr. MIDDLEKAUFF. Pages 12 and 13, yes. (See p. 24) Mr. HUNGATE. Do you care to discuss that then, the changes you recommend, Mr. Middlekauff or Mr. Corey? Mr. MIDDLEKAUFF. These particular changes are purely technical and I believe also the District of Columbia supports these recommended technical changes in their testimony. Mr. HUNGATE. Mr. Robinson, have you had a chance to look at pages 12 and 13 of their statement? Mr. ROBINSON. Not yet. Mr. HUNGATE. We will wait until he takes the chair then. It is your understanding, Mr. Middlekauff, or do you believe that your recommended changes are strictly technical in nature and the same that the District Government supports. Mr. MIDDLEKAUFF. Yes, I believe so. Mr. HUNGATE. All right. Mr. Smith. LIABILITY OF PROFESSIONALS Mr. SMITH. Mr. Middlekauff, I am interested in the question of liability for members of a professional corporation. Do I understand your statement to say that a professional who is a member of a professional corporation would still bear responsibility for his own malpractice of negligence? Mr. MIDDLEKAUFF. Yes sir. Mr. SMITH. He would not acquire the shelter, the corporate shelter in such a case? Mr. MIDDLEKAUFF. No. This is in section 29-1111 and it does state that "an individual shall be personally liable and accountable for his negilgence or wrongful acts or misconduct committed by him or by any person under his supervision and control in the rendering of professional service on behalf of the corporation." Mr. SMITH. Would the corporation also have a liability in that case? Mr. MIDDLEKAUFF. Yes, the corporation is liable. The corporation itself is liable up to the full value of its property for any negligence or wrongful acts of misconduct caused by any of its officers, share holders, directors, agents, or employees in their rendering of profes sional services on behalf of the corporation. Mr. SMITH. Well, this would be, if I understand correctly, roughly what the law of responsibility is now in a professional partnership firm. The individual, I think, would be liable individually, and the partnership might be liable to the extent of its property. Mr. MIDDLEKAUFF. Yes sir; I believe partnerships may be liable above and beyond the partnership property value. It may be liable, and the individual partners may be. Mr. MIKVA. I don't know about the District of Columbia, but in Illinois and many other states every partner is liable for all of the acts of his other partners. So this is a substantial change unless you had a unique situation here in the District of Columbia. In Illinois, for example, and I think even with the corporation law, every partner is liable for the acts of all of the other partners, including personal liability. Mr. SMITH. Is a non-acting partner, somebody who is not directly involved in a malpractice, is he liable to the extent of his interest in the partnership, or beyond that? Mr. MIKVA. He has personal liability. Mr. HUNGATE. It may vary by states. Mr. MIKVA. Yes, and there are exceptions that have to do with the culpable partner acting beyond his own Mr. HUNGATE. Frolics of his own. Mr. MIDDLEKAUFF. It does reduce the liability of a partner. It does not make him individually responsible for the act of another officer or director of the corporation, although the corporate assets are still available for the responsibility of any one of the individuals acting on behalf of the corporation. Mr. SMITH. Another partner would be liable then to the extent of his interest in the corporation? Mr. MIDDLEKAUFF. Yes sir. Mr. SMITH. So that this would in some effect, in the example given by Mr. Mikva, for instance, would reduce the liability of a partner not directly concerned with the malpractice to his interest in the corporation rather than a personal liability unlimited? Mr. MIDDLEKAUFF. Yes, that is true. As a practical matter though I would think that the professionals would obtain malpractice insurance at least to the limit of their responsibility, so I do not think that it would have much of an impact on the injured client or patient who is attempting to claim recourse against the lawyers or physicians or architects, or what have you, that did commit the supposed malpractice. Mr. MIKVA. By malpractice insurance, I don't think you mean the full implication of that answer. The limit of malpractice insurance and the extent of the liability of the insurance company will depend upon the total pot that is available. If you have four multimillionaire partners, each of whom are personally liable, they are going to take out a lot more malpractice insurance than if their liability is limited only to the assets of the partnership. Mr. MIDDLEKAUFF. Yes, that is true. Mr. MIKVA. So in effect, this does diminish the protection that the client has against the malpractice committed by any partner, or the negligence. Most of these claims arise out of negligence. Mr. HUNGATE. Will the gentleman yield? Those fellows should all own that jointly with their wives. Mr. MIKVA. When their license is at stake the personal liability is enough to get them to persuade their wives to contribute to any judgments that are entered against them. I must say that I feel like I am living my life over again. I opposed this kind of a bill in my state legislature in Illinois and I think I would continue to oppose it in the District of Columbia. I would hope the District would keep away from a real diminution of the professional responsibility that lawyers ought to bear toward their clientele by reaching for a tax gimmick. But aside from the speech I did have a question. Why doesn't the Keogh Act completely satisfy the lawyers of the District of Columiba as far as the pension plans are concerned? Mr. COREY. There are substantial limitations on the amount that can be contributed for an owner-employee. That is a technical term. But a fellow that is the partner that owns the business or has a sole proprietorship is limited to 10 percent of the income or $2500, whereas there is no such limitation in the case of a corporate plan even as to a corporate shareholder employee. Mr. MIKVA. Wouldn't we be wiser to address our attention toward the limitations in the Keogh Act rather than to so drastically change a long-standing relationship between a lawyer and his client? I speak as a lawyer. The architects and the engineers and the doctors and the dentists have to worry about their own professional consciences. But it seems to me that given the standing lawyers have generally in the community, we are ill advised to come around now and look for ways to protect ourselves against liabilities all for the sake of a tax dodge. Mr. COREY. I think there are several answers to that, if I might. First of all, I did mention the so-called equalization legislation, which has been mentioned, by the Treasury Department I guess starting early in 1970. So as to equate the Keogh or H.R. 10 plans with corporate retirement plans, they intended to do this by squeezing from the top and bringing the Keogh plans up a little bit and meeting somewhere in the middle. But the problem is with the change of the Secretary of Treasury and with other pending legislation this has sort of taken a back burner in the Treasury thinking, and it is not likely we will see it before or at least until after the election in 1972. Second of all there are a number of other benefits which this equalization would not extend to, the sickpay plan, the medical reimbursement, the death benefits to widows, this type of thing, which the equalization did not cover as we understand it. Third of all, I guess we have been waiting for a long time for this type of thing and now the District is the only jurisdiction in the country which doesn't have a professional corporation legislation of some kind. Mr. MIKVA. We keep talking about how the District ought to be a model. Maybe this is a good place to start. 62-364 0-71-5 Am I not correct that many of the other larger states did not change their liability laws? As I recall, in my own state of Illinois they had a specific preservation of liability for all of the stockholders in a professional corporation as if they were practicing as partners. Am I correct? Mr. MIDDLEKAUFF. I could not address myself to that particular point, but I would like to say for myself and I believe for the others in the Bar Association, we did not intentionally try to remove ourselves from any segment of liability that we have to our clients. And, I can say at this point as a possibility we would be very pleased to do what we could to assist in modifying that particular section if it is desirable to accord with your wishes in modifying this liability portion. Mr. MIKVA. Speaking personally, that would help a great deal. The Bar then, as far as you know, would be agreeable to an amendment which would say that the present liability pertaining to partners for malpractice or negligence, would be retained under this law? Mr. MIDDLEKAUFF. As far as I know. This would, of course be reviewed with the Board of Directors of the Bar Association and, then Mr. Chairman, may I be permitted to submit a supplementary statement to respond to this? Mr. HUNGATE. Yes. Mr. MIDDLEKAUFF. With the specific viewpoint of the Bar Association Board of Directors? Mr. HUNGATE. Certainly. Mr. COREY. Are you restricting this to lawyers or to Mr. MIKVA. Since this is a general law, I would prefer that the liability of professionals not be changed for tax purposes. That was thr thrust of the bill. TAX EFFECT I am not sure I understood what you said the tax impact of this law would be. Would this kind of corporation pay its full share of corporate taxes? Mr. COREY. Yes, it would. Mr. MIKVA. And would the individual stockholders and directors pay their full share of personal income taxes? Mr. COREY. With respect to any dividend they receive from the corporation. In practicality they would be receiving mainly salaries. Mr. MIKVA. And their salaries would be subject to income tax in the same way that their partnership earnings are now subject to income tax? Mr. COREY. Subject like any other corporation. It depends on where they live at the present time. Mr. MIKVA. Let's talk about a District of Columbia resident. He now pays an income tax based on the amount of his earnings in the partnership, a D.C. income tax? Mr. COREY. Yes, sir. Mr. MIKVA. And the partnership itself pays what kind of tax? Mr. MIKVA. I assume they pay a personal property tax but they don't pay an income tax? Mr. COREY. That is right. Mr. MIKVA. If this law were to go through the professional corporation would pay an income tax like any other corporation; is that correct? |