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recognized generally would be subject to the reduced tax rates applicable to capital gains.

For certain other purposes, U.S. tax law does take inflation into account. Under the Economic Recovery Tax Act of 1981, income tax brackets for individuals, as well as the zero bracket and personal exemption amounts, will be adjusted each year for inflation beginning in 1985 (Code sec. 1(f)). The adjustment for each year will be based upon the percentage by which the consumer price index (CPI) for the preceding year exceeds the CPI for 1983. This provision is designed to prevent taxpayers from being pushed into higher percentage tax brackets by inflation.

In addition, the base price for determining the windfall profit tax on domestic crude oil is adjusted for inflation as measured by the implicit price deflator for the gross national product (sec. 4989(b)). Further, beginning in 1986, the limits on contributions to, and benefits from, a qualified pension plan will be adjusted for post1984 cost-of-living increases, as determined under the formula then in effect for determining social security benefit levels (sec. 415(d)(2)).1

Effect of inflation-foreign tax laws

United Kingdom

In 1982, the United Kingdom enacted an indexation allowance for assets held for one year or longer.2 The allowance applies only for inflation occurring after 1982. The allowance is based on the percentage by which the retail price index for the month in which an asset is disposed of exceeds the index at a time one year after the related expenditure was made. The amount of any capital gain is reduced by the indexation allowance for the applicable holding period. Where the allowance exceeds the adjusted gain, no gain or loss is recognized. The allowance is not applicable to capital losses. Canada

The Canadian Government, in its budget of April 1983, proposed an elective indexation program for Canadian securities, known as the Indexed Security Investment Plan (ISIP). The plan would be limited to publicly listed common stock of Canadian corporations.

Under the Canadian plan, stock purchased under an ISIP would be adjusted each month according to the percentage increase in the consumer price index. At the end of each year, the investor would be required to recognize 25 percent of the real increase in value of the investment (i.e., after adjusting for the inflation rate) over the course of the year. The remaining 75 percent of increased value would be deferred until the succeeding year, to be taxed (together with any real increase in value during the succeeding year) under the same formula (i.e., 25 percent of the 75 percent would be taxed in the succeeding year). Any remaining untaxed increase in value

1 The Tax Equity and Fiscal Responsibility Act of 1982 suspended the otherwise allowable cost-of-living adjustment for the years 1983, 1984, and 1985. 2 Finance Act 1982, secs. 86, 87.

3 Budget Speech, delivered in the House of Commons by the Honourable Marc Lalonde, Minister of Finance, April 19, 1983. Canada has indexed personal income tax brackets and exemptions since 1974.

would be taxed on disposition of the investment. The plan generally would treat losses in the same manner as capital gains.*

Investors would be allowed to transfer presently held securities to an ISIP. However, these securities would be indexed only for the period beginning in 1983.

The Canadian Government plans to deny an interest deduction on funds borrowed for ISIP investments.


Explanation of the Bill

The bill would provide generally for an inflation adjustment to (i.e., indexing of) the basis of certain assets for purposes of determining gain or loss on disposition. Assets eligible for the inflation adjustment would be certain corporate stock and real property. The adjustment would be applicable only to assets held for more than

one year.

The adjustment would be based on the level of the gross national product (GNP) deflator for the calendar quarter in which disposition takes place compared with the deflator for the quarter in which the asset was acquired. The inflation adjustment would apply only to inflation occurring after 1983.

Under the bill, the inflation adjustment would apply with respect to sales, exchanges, or other dispositions of property. However, the adjustment would not apply for purposes of determining any deduction for depreciation, cost depletion, or amortization.

Indexed assets

Stock.-The bill would generally provide for the indexing of corporate stock which is a capital asset. (For this purpose, options, warrants, or other contract rights with respect to stock would not be considered stock.) However, no adjustment would be allowed in the case of preferred stock which provides for a fixed return with no significant participation in corporate growth. The inflation adjustment also would not apply to stock in an S corporation, in a personal holding company, or, in general, in a foreign corporation.5 An interest in a common trust fund would be treated as stock.

Realty. The bill would provide for indexing of real property (or any interest therein) which is a capital asset or property used in a trade or business (within the meaning of sec. 1231). This includes land, leasehold interests, and buildings. However, the inflation adjustment would not apply (1) to any contract rights with respect to real property which are not themselves real property, (2) to any mortgage or other creditor's interest, or (3) to realty subject to certain long-term net leases.

General requirements.-The bill would apply only to assets held for more than one year. An asset would not be treated as an in

Canadian law generally requires that only one-half of recognized capital gain be included in income. Thus, under an ISIP, one-half of 25 percent of increased value would actually be subject to tax in each year.

5 However, the inflation adjustment would apply to stock in foreign corporations which is traded on an established domestic securities market, other than stock in foreign investment companies or stock held by persons subject to potential dividend treatment on the sale of the stock.

dexed asset for any period during which the taxpayer, or his or her spouse, has sold short property substantially identical to the asset. Computation of inflation adjustment

The inflation adjustment under the bill would be computed by multiplying the taxpayer's adjusted basis in the indexed asset by the ratio of the GNP deflator for the calendar quarter in which disposition of the asset takes place to the deflator for the quarter in which the asset was acquired. For example, if the deflator at the time of sale was 50 percent higher than at the time of acquisition, the gain or loss would be determined by reducing the sales proceeds by an amount equal to 150 percent of the asset basis at the time of acquisition.

If the inflation adjustment exceeds the amount of gain (determined without the adjustment) on disposition of an indexed asset, the taxpayer would recognize a loss to the extent of the excess. However, any loss created (or increased) by application of the inflation adjustment would be treated as a capital loss, regardless of other provisions of the Code.

In the case of an asset acquired before 1984, the GNP deflator for the quarter ending December 31, 1983, would be used to compute the inflation adjustment. Thus, the bill would not provide an adjustment for inflation occurring before 1984.7

Pass-through entities

Under the bill, partnership interests and stock of S corporations would not be treated as indexed assets. However, any adjustment made with respect to assets held at the entity level would be passed through to the partners or S corporation shareholders for purposes of determining gain or loss on disposition of their partnership interests or stock.

Special rules would apply in the case of regulated investment companies (mutual funds), real estate investment trusts, and common trust funds which hold indexed assets. In general, stock in these entities would qualify for partial indexing based on the ratio of the value of the indexed assets held by the entity to its total assets.

Special rules

The bill would disallow the inflation adjustment in cases of transfers between related persons except to the extent the transferee has a carryover basis in the asset. Also, the bill would authorize the Treasury Department to disallow all or part of an adjustment if the principal purpose of a transfer of an asset is to create or increase an inflation adjustment (or to increase a deduction by reason of such adjustment).

The bill also would provide that, if the inflation adjustment has already been applied to an asset while it was held by the taxpayer,

6 The GNP deflator is an index of the price of all goods and services produced in the United States in the relevant quarter. By contrast, the consumer price index measures the price of consumer goods (including imports) during the relevant period.

7 Although the language of the bill as introduced refers to inflation occurring after December 31, 1984, it is understood that the bill is intended to take into account, as well, inflation occurring during 1984.

the taxpayer may not claim a date of acquisition prior to the date on which the adjustment was applied. This would prevent a taxpayer from benefitting twice from an adjustment for the same period. The bill would provide that, in cases where a corporation is treated as a collapsible corporation with respect to a distribution or sale of stock (sec. 341), the full amount of gain which would be recognized and taxed as ordinary income under present law would continue to be so treated.

Effective Date

The bill would apply to dispositions of indexed assets after December 31, 1983.

Prior Congressional Action

In 1978, the House passed a provision similar to the bill as part of H.R. 13511, the Revenue Act of 1978. That provision was deleted in conference.

In 1982, the Senate passed a similar provision as part of H.R. 4961, the Tax Equity and Fiscal Responsibility Act of 1982. That provision was deleted in conference.

2. S. 1579-Senator Armstrong

Charitable Expense Deduction for Use of Passenger Automobile

Present Law

Individual taxpayers who itemize their deductions may deduct charitable contributions made to qualified organizations, subject to certain limitations (Code sec. 170(a)).

Individuals who do not itemize deductions may also deduct charitable contributions, subject to limitations (sec. 170(i)). For 1982 and 1983, the deduction is limited to 25 percent of the first $100 of contributions, or a maximum deduction of $25. For 1984, the contribution limit is raised to $300, or a maximum deduction of $75. For 1985, the deduction is allowed for 50 percent of contributions, with no dollar limit, and for 1986 the deduction is allowed for 100 percent of contributions (subject to the general limitations). This provision expires after 1986.

Under present law, a taxpayer may deduct unreimbursed out-ofpocket expenses incurred incident to the rendition of services provided to a charitable organization, such as fuel costs for a vehicle (Treas. Reg. sec. 1.170A-1(g)). In determining the amount of the contribution deduction attributable to the operation of a vehicle, the taxpayer may deduct actual expenses or, may use a standard rate. As most recently established, this rate is nine cents a mile.8 Under either computation method, the taxpayer may also deduct parking fees and tolls, but may not deduct general repair or maintenance expenses, depreciation, or insurance.

Explanation of the Bill

Under the bill, taxpayers could determine the amount of their charitable contribution deduction for the use of a passenger automobile under the standard mileage rate applicable for that year in computing the business expense deduction (sec. 162) for business use of a passenger automobile.

As most recently established, the standard mileage rate which may be used in computing the business expense deduction for business use of a passenger automobile (if the vehicle is not fully depreciated) is 20 cents a mile for the first 15,000 miles of business use during the taxable year, and 11 cents a mile for each additional mile.9

8 This rate was established in a revenue procedure issued by the Internal Revenue Service (Rev. Proc. 82–61, 1982–2 C.B. 849).

9 Rev. Proc. 82-61, supra note 8.

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