1 2 3 4 5 6 7 བ 8 7 "(C) SPECIAL RULE FOR CERTAIN TRANS FERS. The provisions of clauses (iii), (iv) and (v) of subparagraph (B) shall not apply to any acqui sition, lease, farmout or other transfer of working interests to a person related to the general part ner provided the terms of such transfer are con sistent with the terms of similar transfers in the geographic area.". 9 (c) The amendments made by this subsection shall apply 10 to partnership taxable years beginning after December 31, 11 1982. HR 4167 IH SUMMARY AND DESCRIPTION PRESENT LAW In general Under present law, most organizations that generally are exempt from Federal income taxation under Code section 501(a), including any trust that is part of a taxqualified pension, profit-sharing, or stock bonus plan described in section 401(a), are subject to tax on any unrelated business taxable income (Secs. 511-514). In addition, a tax is imposed (sec. 408(e)(1)) on the unrelated trade or business income of an individual retirement account or annuity (an IRA). The term unrelated trade or business generally means any trade or business the conduct of which is not substantially related (aside from the need of such organization for income or funds or the use it makes of the profits derived) to the exercise or performance by such organization of the activities for which the organization is granted tax exemption. Present law provides that a tax-exempt organization is treated as being engaged in the same activities as any partnership (whether limited or general) in which the organization invests. Accordingly, if a tax-exempt organization becomes a limited partner in a partnership that owns a working interest in oil and gas properties and the working interest is not substantially related to the organization's exempt function, the income derived from the working interest is subject to the unrelated trade or business tax. Debt-financed property Present law also provides that the income of an exempt trust or organization, or an IRA, from debt-financed property that is unrelated to its exempt function is subject to the unrelated business income tax in the proportion in which the property is financed by the debt (sec. 514). Debt-financed property means all property (e.g., rental real estate, tangible personal property, and corporate stock) that is held to produce income and with respect to which indebtedness was incurred to acquire or improve the property or an indebtedness would not have been incurred but for the acquisition or improvement of the property. A special rule applies under present law to real property acquired by an educational organization described in section 170 or a tax-exempt trust forming part of a tax-qualified pension, etc., plan. Under this rule, debt-financed real property acquired by such an educational organization or exempt trust is not treated as debtfinanced property unless all of the following applies: (1) the acquisition is a fixed amount determined as of the date of acquisition; (2) the amount of any indebtedness or any other amount payable with respect to such indebtedness, or the time for making any payment with respect to the indebtedness, is not partially or wholly dependent upon any revenue, income, or profits derived from the real property; (3) the real property is not at any time after acquisition leased by the organization or trust to the seller or to any person related to the seller (within the meaning of sec. 267(b)); (4) the real property is not acquired from, or any time after acquisition, leased to any person that bears a certain relationship to organization or the trust; (5) the seller or any person related to the seller or the organization or trust (as described in (3) or (4)) does not provide the organization or trust with financing in connection with the acquisition; and (6) in the case of property acquired by a partnership, either (i) all members of the partnership are tax-exempt organizations with no unrelated trade or business income or (ii) all income, deductions, credits, etc., are allocated to the partners in a qualified allocation (within the meaning of sec. 168(j)(9)). In general EXPLANATION OF THE BILL Under the bill, certain exempt organizations would be permitted to invest in working interests in domestic oil and gas properties without incurring tax for unrelated business income. The organizations that would be eligible under this provision include exempt trusts forming a part of tax-qualified pension plans, IRAs, and taxexempt educational organizations described in Code sections 170(b)(1)(A)(ii) or 170(b)(1)(A)(iv). In order to qualify under the special rule of the bill, the trust or organization would have to receive income from the working interest in oil and gas property as a limited partner from a limited partnership. In addition, the limited partnership could not, at any time during the partnership taxable year for which an income allocation is made (i) allocate to the limited partners a share of any item of deduction, loss, or credit that is less than the limited partners' share of income or gain; (ii) allocate among the limited partners any item of deduction, loss, or credit that differs from the ratio in which they share income or gain; (iii) allocate cash distributions to partners (limited or general) in a manner that differs from the allocation of income or gain. However, under the bill these restrictions would not apply where the allocations of depreciation, depletion, gain, or loss take account of the variation between the basis of property to the limited partnership and its fair market value at the time of its contribution to the partnership and if the allocations are permissible under Treasury regulations (sec. 704(c)). For purposes of determining whether an exempt trust or organization is a limited partner or a general partner in a limited partnership, the interests of certain related parties would be taken into account. In addition, an exempt trust or organization that is a limited partner would be treated as owning an interest in any general partner held by any other exempt trust or organization (including related persons) that is a partner in the partnership. The bill would authorize the Treasury Department to prescribe regulations that would deny the special treatment under the bill in any case in which multi-tier partnerships or other arrangements are used for the principal purpose of avoiding the conditions of the bill. Debt-financed property The bill would provide an exception to the rules relating to debt-financed property for working interests in domestic oil and gas properties acquired by tax-qualified pension plans, IRAs, or certain educational organizations, which would be similar to the rules that apply under present law to investments by certain education organizations or tax-qualified pension plans in debt-financed real property. Under these rules, the exemption would only apply if the acquisition price is a fixed amount and payments are not dependent upon the profits from the property (items 1 and 2 under present law, above). However, the limitations relating to leases between related parties, acquisitions from related parties, and financing from related parties (items 3, 4, and 5, above) would not apply to any acquisition, lease, farmout, or other transfer of a working interest to a person related to the general partner if the terms of the transfer are consistent with the terms of similar transfers in the same geographic area. The restrictions on allocations under present law (item 6 above) would not apply, but special allocation rules would be provided (see In general, above). EFFECTIVE DATE The provisions of the bill would apply retroactively for partnership taxable years beginning after 1982. REVENUE EFFECT The provisions of the bill are estimated to decrease fiscal year budget receipts by less than $10 million annually. ASSOCIATION OF JESUIT COLLEGES & UNIVERSITIES, Hon. DAN ROSTENKOWSKI, Chairman, Ways and Means Committee, House of Representatives, Washington, DC. DEAR REPRESENTATIVE ROSTENKOWSKI: Attached is a letter from the General Counsel of the Americal Council on Education asking your support for S. 1549 and H.R. 4167. I fully endorse his approach to these bills and, on behalf of the association, ask your support. Thank you for your attention to this. Respectfully, JOSEPH KANE, Vice President. Hon. DAN ROSTENKOWSKI, DEAR REPRESENTATIVE ROSTENKOWSKI: On behalf of the American Council on Education, an association representing over 1,700 colleges, universities, and other organizations in higher education, I am writing to request your support for S. 1549 and H.R. 4167. These bills, which are substantially identical, would amend the Internal Revenue Code of 1954 to permit tax exempt pension funds, colleges, and universities to invest in limited partnerships holding oil and gas working interests without becoming subject to unrelated business income taxes. This proposed legislation would permit the endowments of institutions of higher education to invest in "working interests" of domestic oil and gas properties without incurring unrelated business taxable income, if such interests are held by the organization as a passive invester in a qualifying limited partnership. In effect, the legislation would permit income from oil and gas production to be treated exactly like income earned by the organization from stocks, bonds, and royalties (including oil and gas royalties). By permitting passive investments in this form, institutional endowments would be better able to diversify their investment portfolios, thereby reducing total portfolio risk without sacrificing total return. The legislation thus would provide an alternative low risk investment opportunity for colleges and universities which have recently had difficulty maintaining an economic rate of return equal to the inflation rate through investment in traditional opportunities. Besides providing alternative investment opportunities, this legislation would allow colleges and universities to accept and retain donations of oil and gas working interests held as a limited partner without exposure to the unrelated business income tax. It would remove an existing tax barrier to making charitable contributions of this type of property and therefore increase gift opportunities to colleges and universities from the private sector. Education institutions could then retain these very valuable income-generating investments instead of arranging forced sales of interests for which there may be no adequate market. Not only would this legislation benefit higher education endowment funds, but it would also make additional sources of capital available to the independent oil and gas industry. It is our understanding that this two-fold benefit can be achieved without causing a significant loss of revenue to the Treasury. For these reasons, we hope you will support S. 1549 and H.R. 4167. Very truly yours, SHELDON ELLIOT STEINBACH, General Counsel. UNIVERSITY OF ARKANSAS AT LITTLE ROCK, Congressman DAN ROSTENKOWSKI, DEAR CONGRESSMAN ROSTENKOWSKI: H.R. 4167 has come to the attention of the University of Arkansas at Little Rock. According to our review, it appears that this is very beneficial legislation which would permit university endowments to treat, for tax purposes, income from oil and gas production exactly like income earned from stocks, bonds and royalties. In that regard, it would remove its present tax treatment as unrelated business income and give it the same standing as passive income comparable to interest and dividends earned on stocks, bonds, and royalties. This would be beneficial to permit our friends and donors a tax advantage which would facilitate giving to colleges and universities. It is my understanding that this legislation will achieve these results for higher education without causing a loss of revenue to the Treasury and at the same time create a new source of capital for domestic independent petroleum companies. Ultimately, I feel that this would be a tremendous boost to higher education. I personally support this legislation and urge your careful review of its positive effects for higher education and the independent oil industry. Sincerely, JIM MAY, Treasurer. STATEMENT OF HON. BILL ARCHER, A REPRESENTATIVE IN CONGRESS FROM THE STATE OF TEXAS Mr. Chairman, I appreciate you scheduling hearings on H.R. 4167, a measure which has been cosponsored by seventeen members of the Ways and Means Committee to provide additional investment opportunties for pension funds and colleges and universities and to make available new sources of capital to the domestic energy industry. Current law permits these institutional investors to benefit from passive investments in oil and gas royalities and net profit interests, but not in working interests which could provide a greater return on investment. This bill would eliminate that prohibition against investing in working interests. One effect of the legislation would be to permit colleges and universities to retain oil and gas working interests which have been donated to them, thereby enabling them to benefit from donations of this nature. The bill does contain safeguards relating to partnerships allocations, abusive saleleaseback arrangements, and the use of debt in acquiring shares in a limited partnership. The purpose of these sections is to alleviate concerns that the exemption of income from working interests held by exempt pension funds, colleges and universities from the unrelated business income tax might create the potential for abuse of their tax exempt status. The bill is also important in terms of impact in providing additional sources of investment capital for the domestic independent oil industry. Our nation's ability to move toward greater energy independence depends to a great extent on the capital available for exploration and development of our domestic hydrocarbon resources. This legislation will help provide that capital at the same time it provides pension funds and colleges and universities with an investment alternative which can provide a greater return. This translates into increased retirement income for many Americans who depend upon the investments made by their pension plans and into increased income for colleges and universities to use in their educational activities. I urge the speedy adoption of this legislation to amend the tax code and thereby remove an inequitable impediment to investment in limited partnership holding working interest in oil and gas properties. BAYLOR UNIVERSITY, Waco, TX, October 1, 1984. Hon. ROBERT DOLE, Washington, DC. DEAR SENATOR DOLE: I am writing to you to request your support of S.B. 1549, which if passed would amend Sections 512 and 514 of the Internal Revenue Code to permit tax-exempt pension funds and colleges and universities to invest in limited partnerships holding oil and has working interests without becoming subject to unrelated business income tax. Under present law, other passive investments such as stocks, bonds and royalties are not subject ot taxation. This legislation would require the IRS to treat the income from oil and gas investment in a similar fashion. As you are probably aware, the fund administrators of many colleges and universities are trying to put alumni gifts and bequests to work in more innovative ways so as to raise yields on endowments funds. In doing so, colleges and universities are attempting to offset rising inflation rates and cutbacks of federal aid to their schools. Over the last decade, investments of private financial support to colleges and universities have yielded low returns, while direct investments in oil and gas interests have consistently yielded rates of return in excess of the inflation rate. S.B. 1549 would enable colleges and universities to benefit from such investments without being subject to the unrelated business income tax. In addition, the proposed legislation would facilitate portfolio diversification into oil and gas investments by pension funds and colleges and universities. Also, the oil and gas industry would benefit by an additional source of capital which would stimulate exploration for new sources of oil and gas. In view of the substantial benefits which would result if S.B. 1549 is enacted and in the absense of any significant revenue loss to the Treasury from such action, I would sincerely urge your support of this legislation in the Senate. Also, may I request that this letter be made a part of the Record in the House Hearings which are expected to take place on October 3, 1984. Sincerely, BASIS H. THOMSON, Jr., General Counsel. |