Without the benefits of income averaging, the total tax for 1964 would be $41,130. Thus, the tax saving in this case from income averaging is $4,390.

Eligible individuals

To be eligible for averaging the individual's income must have been subject to tax by the United States throughout the entire base period as well as in the computation year. No one is eligible for averaging who was a nonresident alien in any of the 4 base period years or in the computation year. To be eligible for averaging, the individual must be a citizen or resident in the computation year. In addition, even though a citizen in the computation year, the individual must be claiming no exclusions in that year for income earned abroad. He may have claimed such an exclusion with respect to a base period year, but for purposes of determining his income for the computation year subject to averaging, this income is added back to his base period income.

The bill also intends that the individual in general must have been a member of the labor force in both the computation year and in the 4 base period years. The general rule designed to achieve this result provides that the individual and his spouse must have furnished onehalf or more of their support in each of the base period years. However, because it is not intended to exclude from the benefits of averaging an individual who was in the labor force but unemployed in part or all of the base period years, individuals generally are eligible for averaging if they are 25 years old and there have been at least 4 years since the individual attained age 21 in which he was not a full-time student. As a result, individuals age 25 or over will be eligible for averaging so long as they have been out of school for at least 4 years since age 21.

A second exception is provided for the individual who although not self-supporting in the 4 base period years, nevertheless has income in the current year more than half of which is attributable in substantial part to work he did in two or more of the base period years. This is designed to make sure that those who have performed some work of a substantial nature which has occurred over a period of years will be eligible for averaging even below the 25-year age limit.

A third exception is provided for an individual (usually the wife) who was not self-supporting in the base period and who makes a joint return with a spouse, if not more than 25 percent of the total adjusted gross income of the couple in the computation year is attributable to the individual in question. This is designed to make sure that an individual (usually the husband) who has been in the labor force and marries someone who was a dependent of another will not be deprived of averaging, assuming three-quarters or more of the income in the computation year is attributable to the individual who was in the labor force in the base period. This, for example, means that a man who marries a woman, who was a dependent of her father during part or all of the base period years, will not be deprived of income averaging as a result of this marriage if he is the major wage

earner.

Special rules with respect to marital status

No special problems arise in applying the averaging provision where a husband and wife file a joint return in the computation year and

also did so in each of the base period years. However, it is necessary to reconstruct their income where they either filed separately (or were married to other spouses) in the base period years, or are filing separately in the computation year.

For example, if a married couple files a joint return in the current year and filed separate returns for one or more of the base period years, their base period income for purposes of averaging in the current year will be their combined base period incomes for their base period years.

In addition, the bill provides that an individual's base period income is to be either his actual base period income in each of the base period years, or, if higher, 50 percent of the combined base period income of him and of his spouse."

In determining base period income for purposes of this provision, community property laws are not taken into account in the case of earned income. Thus, for these years the income attributed to an individual will be the income earned by him without regard to whether it was considered to be his or his spouse's income under community property laws. In determining adjusted taxable income for the computation year the same rules are applied except that in no event is the amount taken into account to exceed the amount reported by the individual for tax purposes for that year.'

Continuation of present averaging device in certain cases

The House bill provides that the averaging device in present law with respect to compensation from an employment is to continue to be available if the taxpayer so elects where he receives or accrues compensation from employment which began before February 6, 1963. If the taxpayer elects this treatment he must forgo for that year the generally available averaging device.

This provision, which on this elective basis is continued for compensation for employment begun before the specified date, provides in general that the employment must cover a period of 36 months or more and that the gross compensation from the employment received by the individual (or partnership) in the year in question must not be less than 80 percent of the total compensation for such employment. Where these conditions are met, present law provides that the tax is not to be greater than if the compensation had been included in the gross income of the individual ratably over the period of the employment prior to the date of the receipt or accrual. Effective date

The amendments made by this provision apply to taxable years beginning after December 31, 1963. This means that averaging will be available for the first time with respect to taxable years beginning in 1964. This will involve base period years as far back as 1960. However, as indicated above, the averaging device in present law relating to compensation from employment, where the employment began prior to February 6, 1963, may continue to be applicable for taxable

If the individual involved was married to another person in one or more of the base period years, his base period income is not to be less than 50 percent of his income of that year combined with the income of whichever spouse had the higher income.

7 As a result where a husband and wife have community or perty income and file separate returns, if more than half of the community income is attributable to the husband's services, this excess will not be eligible for averaging either to the husband or to the wife,

years beginning after December 31, 1963, at the election of the taxpayer.

Revenue effect This provision is expected to result in a reduction of $40 million in tax liabilities in the calendar year 1964 and subsequent years.

SECTION 222. REPEAL OF ADDITIONAL 2-PERCENT TAX FOR CORPORATIONS FILING CONSOLIDATED RETURNS

Under present law, a domestic parent corporation and its 80-percent owned domestic subsidiaries may generally elect to file a consolidated Federal income tax return in lieu of having each corporation file a separate tax return. For this purpose, at least 80 percent of the voting power of all classes of stock, and at least 80 percent of each class of the nonvoting stock, of each subsidiary corporation must be owned directly by one or more of the corporations in the group. In general, the principal advantages derived from the filing of a consolidated return are

(1) an ability to offset losses of corporations in the group against the income of other corporations in the group;

(2) to eliminate from taxable income, income that would otherwise be recognized as a result of intercorporate transactions, for example, the sale of inventory from one corporation to another; and

(3) the ability of corporations to pay and receive dividends within the group without the imposition of a tax on the dividends (generally a 7.8-percent tax).

Present law limits corporations filing a consolidated return to one surtax exemption and also generally requires that the tax of the corporations filing a consolidated return be increased by 2 percent of the consolidated taxable income of the consolidated group. Thus, although the taxable income of a group is normally reduced as a result of the filing of a consolidated return, the total tax rate applicable to taxable income under $25,000 is increased from 30 to 32 percent and the tax rate applicable to taxable income in excess of $25,000 is increased from 52 to 54 percent. The 2-percent additional tax does not apply to the portion of the consolidated taxable income attributable to includible corporations which are (1) Western Hemisphere trade corporations or (2) regulated public utilities.

The House bill repeals the 2-percent additional tax applicable to consolidated taxable income.

Effective date

This provision applies to taxable years beginning after December 31, 1963.

Revenue effect

It is estimated that enactment of this provision will result in an annual revenue loss of approximately $50 million. However, this estimate only reflects the loss of revenue due to repeal of the 2-percent tax on those corporations which now file consolidated returns and who now pay the additional 2-percent tax. Adoption of the provision may result in a loss of additional revenue if groups which do not now file consolidated returns adopt that practice and thereby eliminate intercorporate dividends, gain on transfers of inventory between corporations, etc., from the tax base.

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SECTION 223. REDUCTION OF SURTAX EXEMPTION IN CASE OF CERTAIN CONTROLLED CORPORATIONS, ETC.

Under present law, corporations are generally taxed at a 30-percent rate on the first $25,000 of their taxable income and at a 52-percent rate on all income over that amount. This tax rate differential results from the fact that the first $25,000 of income of a corporation is subject to the 30-percent normal tax, but is exempt from the 22percent surtax, while income in excess of $25,000 is subject to both the 30-percent normal tax and the 22-percent surtax.

The House bill reduces the tax applicable to the first $25,000 of taxable income from 30 to 22 percent and decreases the tax applicable to income above $25,000 from 52 to 50 percent in 1964 and to 48 percent in subsequent years. One of the effects of this change is to increase the value of the surtax exemption from $5,500 per corporation under present law to $6,500 per corporation for 1965 and subsequent years. This effect is illustrated by the following example: Example (1). Assume taxpayer A owns two corporations, X and Y, and that each corporation has taxable income of $25,000. Tax under present law on the two-corporation group, with a total taxable income of $50,000, would be $15,000 computed as follows:

Further, assume taxpayer B has $50,000 of income, but that the entire amount is received by one coporation, Z, rather than by two corporations as was the case with taxpayer A. Tax of Z corporation under present law would be $20,500, copmuted as follows:

Thus, under present law, the tax advantage from multiple incorporation is $5,500 for each additional corporation in the group: