cation, or less arbitrary than the purchase rule; it would not depend upon either a valuation of the acquired enterprise or the determination of a suitable imputation rate to be applied to that value. These advantages, even if real, may well seem insufficient to justify the complications that arise from having two rules instead of one.

But the much more important question has to do with transactions that do not involve acquisition of a loss corporation at all. Consider a large corporation that has gone out of business but has a large tax loss carryover. One way to exploit that carryover is by acquiring profitable corporations in merger transactions. The effect of these mergers is to expand the pool of corporate capital against whose earnings the carryovers can be deducted, and thus to enhance the value of the loss carryovers; and the prospect of such enhancement has therefore functioned as an inducement to keeping loss corporations alive and conducting merger transactions that otherwise might well not have occurred. Section 382 would not apply to limit the deductiblity of carryovers in this transaction, in either its present-law form or as proposed to be amended in the Revision Act. The ALI merger rule would apply, however, on the general theory that there is just as much reason to be concerned about tax motivations distorting economic decisions in the acquisition of profit corporations by loss corporations as in the contrary case. (Some might even argue that there is more reason to be concerned since a transfer of control from successful

operators into the hands of proven losers is presumably less desirable than a transfer of control of an unsuccessful

corporation.)

The main reason for having the merger rule is to reach cases that do not involve any acquisition (however defined) of the loss corporation in a merger or combination transaction.

If one has

the merger rule, then it seems most natural to let it apply also to mergers that do involve an acquisition of the loss

corporation.

It would be possible, however, if one wanted to have only a single rule for acquisitions, to make the purchase rule applicable to all acquisitions of loss corporations, whatever the consideration, and then also adopt the merger limitation but only for mergers that do not involve acquisition of a loss corporation.

In my view the Revision Act would be even better than it is if it contained a merger limitation in addition to its purchase limitation. But no general consensus has emerged in support of that view, and the purchase rule alone, as set forth in the Revision Act, would represent an enormous improvement over existing law. I would therefore urge that it be adopted now, with the possibility of adopting a merger rule too, to reach nonacquisition merger transactions, left for further study and future action if and when that is deemed desirable.

Timing and Priorities

These are very busy times for this Committee and for other

people concerned with issues of tax policy. On the one hand, the President has issued a call for comprehensive reexamination and sweeping revision of the income tax.

Evaluation of the

President's proposals is obviously a matter of urgent, immediate concern. On the other hand there have been a series of very particular legislative enactments, dealing with a variety of quite specific abuses that have emerged in practice under the existing law firefighting enactments, as it were. These too are matters of immediate concern, requiring prompt action as soon as the opportunities for abuse with which they deal become apparent.

Some of the Staff proposals in its preliminary report on Subchapter C, of September 22, 1983, fell in this category, and some of them have already found their way into the law in the Tax Reform Act of 1984.

The Subchapter C Revision Act is in something of an intermediate category. It involves fundamental revision of the law in a special but very important area. It is not an emergency response to things perceived as immediately pressing abuses, but it would eliminate a variety of important, chronic abuses and create an environment in which acute abuses are less likely to emerge as time goes by. For the long-term health and simplification of the system it is vitally important that legislation of this kind be developed, supported and enacted.

This kind of legislation need not be enacted in haste. It deserves and needs and can afford extended study. But that condition has been met. The Subchapter C Revision Act itself was

published in May of this year, but the proposals it embodies have been the subject of intense study, and general approval, in a variety of forums over an extended period of time.

There is a risk that legislation of this kind will fall between the boards, as attention is devoted to what seem more pressing matters. But it would be a great mistake, in my view, to let that happen. The Committee Staff, with help from a wide variety of other sectors, has brought this legislation to a point of development where it ought not to be left to languish. Substantial improvements on the present draft are not likely and not worth waiting for. I earnestly hope that the Committee will make the time to bring this statute forward reasonably promptly for consideration and enactment.

Conclusion

For all these reasons I earnestly urge that the Committee take up and report favorably on the Subchapter C Revision Act, substantially as presented in the Staff Report.

Thank you.

STATEMENT OF JAMES S. EUSTICE, PROFESSOR OF LAW, NEW YORK UNIVERSITY SCHOOL OF LAW, NEW YORK, NY

Professor EUSTICE. Mr. Chairman, my name is James Eustice. I am a professor at New York University School of Law. I, too, appear on my own behalf as a specialist, if you will, in the area of subchapter C.

I read the other week that the President said that the main thing about the present tax law is that it is a boon for tax lawyers and a drag on just about everybody else. I would beg to disagree with that conclusion.

Senator CHAFEE. Maybe that is a fair equation.

Professor EUSTICE. Most of us in this room would think it is pretty much of a drag on the tax lawyers as well. Certainly, it has been for me. I have the feeling that there is a tax bill out there somewhere with my number on it; one that is going to catch me before I am too young to quit and too old to learn.

This, however, is not one of those bills. I think it goes a giant step forward in creating reasonable order out of what, while fun to teach, can only be described as definitional chaos. I don't think even the Secretary would disagree that the definitional change of what constitutes an acquisition would be a major step forward. If nothing else came of it, we would get rid of the present alphabet soup of acquisitive transactions in which we now have at least 14 different types of acquisitions, all with their own set of rules, which is absurd. That alone would be worth the effort.

I think the other features of the bill are equally sound. This is not something that has jumped off somebody's table; people have been working on this for a substantial period of time.

The key to the proposal, I think, is a sound one. Its essence depends on what happens to asset basis. If the parties want to keep asset basis at historical cost, then nothing will happen at the corporate level. If they choose to engage in a transaction with a step-up in basis, then the tax toll will have to be paid. In other words, the repeal of General Utilities in this context is an essential ingredient. The key proposal here is electivity as to basis treatment. Today this is essentially what happens, but you have to go through this incredible minuet of transactional selectivity in order to find the right letter of the alphabet to get the desired tax results.

I think if we could slice through this particular facet of the tax law, it would be a major step forward, at least in my life and I believe the lives of most people in this room.

When we come, however, to General Utilities on the other side of the coin, not in the acquisition context but in the case of a straight liquidation, I think we begin to get a little more controversial. I am sure we will hear much today about "mom and pop" and the longheld businesses that were built up over 25 years. "You can't do that to us." I have a terrible feeling, though, that if you put aside the relief proposal which the staff suggests, which I think is eminently suitable to "mom and pop," what you really have out there is "Dynasty" waiting to use General Utilities in the way it has been used. And whether you want to draw the line between "large" and "small" is not the important point; I think the line has to be drawn. The staff's line, which is based on a small-business share