FROM THE OFFICE OF PUBLIC AFFAIRS

Mr. Chairman, Mr. Rangel, and distinguished Members of the Committee:

Thank you for giving me the opportunity to discuss the problem of corporate tax shelters with you today. The Committee on Ways and Means has reacted quickly with legislation as specific corporate tax shelters come to light. As you mentioned, Mr. Chairman, the Committee in recent years has acted to close down about $50 billion in tax shelters. Unfortunately, based on all the indications we see, there is an increasing number of avoidance transactions being undertaken, despite your willingness to enact legislation to stop particular schemes as they are uncovered. Consequently, we are here before you today in support of legislation to deter corporate tax shelter activity on a more comprehensive, before-the-fact basis.

The Treasury Department, in addition to many others, including the American Bar Association, the New York State Bar Association and the staff of the Joint Committee on Taxation, has expressed concerns about the proliferation of corporate tax shelters. These concerns range from the short-term revenue loss to the tax system, to the potentially more troubling long-term effects on our voluntary income tax system. In its FY 2000 Budget, released in February of this year, the Administration made several proposals to inhibit the growth of corporate tax shelters.

In July of this year, the Treasury Department issued its White Paper, The Problem of Corporate Tax Shelters: Discussion, Analysis and Legislative Proposals. This report discussed more fully the reasoning underlying the Budget proposals relating to corporate tax shelters, provided a description and analysis of the comments on the Budget proposals, and provided refinements to those proposals.

Since the issuance of our White Paper, there have been some important developments regarding corporate tax shelters, including the issuance of the staff of the Joint Committee on Taxation's study of present-law penalty and interest provisions, as well as some important court decisions. With these developments in mind, I would like to emphasize the following points in my testimony today.

First, corporate tax shelters continue to be a substantial and ongoing problem. While Congress, the Treasury Department and the Internal Revenue Service take action to stop particular transactions as they are uncovered, many abusive transactions remain undiscovered and numerous new transactions are created all the time.

Second, the current ad hoc and piecemeal approach to addressing corporate tax shelters is inadequate. The current system is costly and inefficient. Admittedly, recent court decisions denying the purported tax benefits of certain shelter transactions are important. However, these decisions are after-the-fact actions against shelters - they do not prevent the design, marketing, and implementation of new and different shelters. Furthermore, even though Congress has enacted certain legislative changes curbing certain types of shelters, these statutory prohibitions can sometimes be avoided by making certain adjustments to a transaction to avoid the impact of the revised statutory provisions. A global legislative solution is needed to prevent abusive, tax-engineered transactions before they occur. The Treasury Department believes this global solution should include four parts: increased disclosure, changes to the substantial understatement penalty, codification of the economic substance doctrine and sanctions on other parties to the transaction.

Third, while increased disclosure and changes to the penalty regime are necessary to uncover transactions and change the cost/benefit analysis of entering into corporate tax shelters, these remedies are not enough. Accordingly, the Treasury Department continues to believe that it is necessary to codify the economic substance doctrine, thus requiring taxpayers to perform a careful analysis of the pre-tax effects of a potential transaction before they enter into it. The Treasury Department's proposed substantive provision is intended to be a coherent standard derived from the economic substance doctrine as enunciated in a body of case law to the exclusion of less developed, inconsistent decisions. Codification of the doctrine, while not creating a new doctrine, would create a consistent standard so that taxpayers may not choose between the conflicting decisions to support their position. Codification would isolate the doctrine from the facts of the cases so that taxpayers could not simply distinguish the cases based on the facts.

Fourth, there are substantial similarities between the Treasury Department's proposals and other proposals to curb corporate tax shelters. For example, the staff of the Joint Committee on Taxation agrees that there should be increased disclosure by participants, increased penalties on understatements attributable to undisclosed transactions and tightening of the reasonable cause exception, and sanctions on other parties to the transaction. As discussed more fully in the White Paper, the American Bar Association and the New York State Bar Association proposals contain several elements similar to those in the Administration's proposal. Finally, H.R. 2255, introduced by Mr. Doggett, also contains an approach similar to the Administration's proposal, including the codification of the economic substance doctrine. We commend Mr. Doggett for his leadership.

Fifth, the proposed legislation would be inadequate without effective enforcement. The Internal Revenue Service is undergoing a substantial restructuring. This restructuring will concentrate IRS resources relating to corporate tax shelters, enabling it to identify, focus on, and coordinate its efforts against corporate tax shelters in a more efficient manner, while instituting and maintaining appropriate taxpayer safeguards. The enactment of corporate tax shelter legislation, combined with the efforts of the restructured IRS, will deter abusive transactions before they occur and uncover and stop these transactions to the extent they continue to occur.

The balance of my testimony will elaborate on these points.

First, corporate tax shelters are designed to, and do, substantially reduce the corporate tax base. Moreover, corporate tax shelters breed disrespect for the tax system - both by the parties who participate in the tax shelter market and by others who perceive unfairness. A view that well-advised corporations avoid their legal tax liabilities by engaging in tax-engineered transactions may cause a "race to the bottom." The New York State Bar Association recently noted this "corrosive effect" of tax shelters: "The constant promotion of these frequently artificial transactions breeds significant disrespect for the tax system, encouraging responsible corporate taxpayers to expect this type of activity to be the norm, and to follow the lead of other taxpayers who have engaged in tax advantaged transactions." If unabated, this will have long-term consequences to our voluntary tax system far more important than the revenue losses we currently are experiencing in the corporate tax base.

Finally, significant resources - both in the private sector and the government - are currently being wasted on this uneconomic activity. Private sector resources used to create, implement and defend complex sheltering transactions are better used in productive activities. Corporations distort their business decisions to take advantage of tax shelter opportunities. Similarly, the Congress (particularly the tax-writing committees and their staffs), the Treasury Department, and the IRS must expend significant resources to address and combat these transactions.

Some have argued that the growth of corporate income tax receipts demonstrates that corporate tax shelters cannot be a problem. Of course, the size of the problem is not indicated by the amount of corporate tax receipts, which vary over time for a number of reasons, but by the difference between actual tax payments and those that would be remitted absent corporate tax shelters. That difference is impossible to measure directly, but the increasing difference between the income taxpayers report on their corporate tax forms (taxable income) and the income they report to shareholders (book income) appears to be consistent with the increasing use of corporate tax shelters.

One feature of many tax shelters is that they reduce taxable income and taxes without reducing book income. Corporate taxpayers report their book income on Schedule M-1 of Form 1120. Such data show that the difference between book income and taxable income for large corporations (average assets greater than $1 billion) increased between 1991 and 1996. Current income reported on corporate tax returns (total receipts less total deductions) represented a much smaller share of book income (calculated as book income after tax, plus Federal taxes, less tax-exempt income) in 1996 than in the early 1990s. (See Figure 1.) Thus, even though corporate income reported on tax returns has increased markedly in the 1990s, book income has increased even faster. It is unclear how much of the divergence between tax and book income reflects tax shelter activity, but the data are clearly consistent with other evidence that the problem is significant.

Book and tax measures of income can diverge for many reasons that are unrelated to tax shelters. For example, increases in the rate of new investment can cause book and taxable income to diverge because tax depreciation is accelerated compared with book depreciation. But depreciation does not seem to be a significant factor. Figure 2 shows that the difference due to depreciation has declined over the last several years while the difference between book and tax income continues to climb. Hence, removing the depreciation discrepancy would actually make the proportional gap between the two income measures larger in recent years.

To date, most attacks on corporate tax shelters have targeted specific transactions and have occurred on an ad hoc, after-the-fact basis - through legislative proposals, administrative guidance, and litigation. In the past few years alone, Congress, the Treasury Department and the IRS have taken a number of actions to address specific corporate tax shelters. These include:

Addressing corporate tax shelters on a transaction-by-transaction, ad hoc basis, however, has substantial defects. First, because it is not possible to identify and address all (or even most) current and future sheltering transactions, this type of transaction-by-transaction approach is inadequate. There will always be transactions that are unidentified or not addressed by the legislation. As Treasury Secretary Lawrence H. Summers said: "One is reminded of painting the Brooklyn Bridge: no sooner is one section painted over, than another appears needing work. Taxpayers with an appetite for corporate tax shelters will simply move from those transactions that are specifically prohibited by the new legislation to other transactions the treatment of which is less clear."

Second, addressing tax shelters on a piecemeal basis complicates the tax law. In the past few years alone, Congress has passed numerous provisions to prevent specific tax shelter abuses. The layering of provision upon provision may lead one to believe that there is a rule for every situation and thus what is not specifically proscribed is, by negative inference, allowed. In time these specific rules themselves are used in unintended ways to create corporate tax shelters.

Third, a legislative strategy that deals with tax shelter transactions on a piecemeal basis calls into question the viability of current rules and standards, particularly the common law tax doctrines such as sham transaction, business purpose, economic substance and substance-over-form. Finally, reliance on a transaction-by-transaction legislative approach to corporate tax shelters may embolden some promoters and participants to rush shelter products to market on the assumption that any Governmental reaction would be applied only on a prospective basis.

We believe that a more comprehensive approach to corporate tax shelters is needed. In developing such an approach in the President's FY 2000 Budget and the Treasury Department's White Paper, we examined characteristics of known corporate tax shelters.

Because corporate tax shelters take many different forms and utilize many different structures, they are difficult to define with a single formulation. A number of common characteristics, however, can be identified that are useful in crafting an approach to solving the corporate tax shelter problem.

Lack of economic substance -Professor Michael Graetz recently defined a tax shelter as "a deal done by very smart people that, absent tax considerations, would be very stupid." This definition highlights one of the most important characteristics common to most corporate tax shelters - the lack of any significant economic substance or risk to the participating parties. Through hedges, circular cash flows, defeasements and the like, the participant in a shelter is insulated from any significant economic risk.

Inconsistent financial accounting and tax treatments - There is a current trend among public companies to treat corporate in-house tax departments as profit centers that strive to keep the corporation's effective tax rate (i.e., the ratio of corporate tax liability to book income) low and in line with that of competitors. Accordingly, in many recent corporate tax shelters involving public companies, the financial accounting treatment of the shelter item has been inconsistent with the claimed Federal income tax treatment.

Tax-indifferent parties - Many recent shelters have relied on the use of "tax-indifferent" parties - such as foreign or tax-exempt entities - who participate in the transaction in exchange for a fee to absorb taxable income or otherwise deflect tax liability from the taxable party.

Marketing activity - Promoters often design tax shelters so that they can be replicated multiple times for use by different participants, rather than to address the tax planning issues of a single taxpayer. This allows the shelter "product" to be marketed and sold to many different corporate participants, thereby maximizing the promoter's return from its shelter idea.

Secrecy - Similar to marketing, maintaining secrecy of a tax shelter transaction helps to maximize the promoter's return from its shelter idea - it prevents expropriation by others and it protects the efficacy of the idea by preventing or delaying discovery of the idea by the Treasury Department and the IRS. In the past, many promoters have required prospective participants to sign a non-disclosure agreement that provides for large payments for any disclosure of the "proprietary" advice.

Contingent or refundable fees and rescission or insurance arrangements - Corporate tax shelters often involve contingent or refundable fees in order to reduce the cost and risk of the shelter to the participants. In a contingent fee arrangement, the promoter's fee depends on the level of tax savings realized by the corporate participant. Some corporate tax shelters also involve insurance or rescission arrangements. Like contingent or refundable fees, insurance or rescission arrangements reduce the cost and risk of the shelter to the participants.

High transaction costs - Corporate tax shelters carry unusually high transaction costs. For example, the transaction costs in the ASA Investerings Partnership case ($24,783,800) were approximately 26.5 percent of the purported tax savings (approximately $93,500,000).

In its FY 2000 Budget, the Administration made several proposals designed to inhibit the growth of corporate tax shelters. These proposals build upon the common characteristics of corporate tax shelters described above and focus on the following areas:

(1) increasing disclosure of corporate tax shelter activities,

(2) increasing and modifying the penalty relating to the substantial understatement of income tax,

(3) codifying the economic substance doctrine, and

(4) providing consequences to all the parties to the transaction (e.g., promoters, advisors, and tax-indifferent, accommodating parties).

Increasing disclosure

Greater disclosure of corporate tax shelters would aid the IRS in identifying corporate tax shelters and would therefore lead to better enforcement by the IRS. Also, greater disclosure likely would discourage corporations from entering into questionable transactions. The probability of discovery by the IRS should enter into a corporation's cost/benefit analysis of whether to enter into a corporate tax shelter.

In order to be effective, disclosure must be both timely and sufficient. In order to facilitate examination of a particular taxpayer's return with respect to a questionable transaction, the transaction should be prominently disclosed on the return. Moreover, because corporate tax returns may not be examined for a number of years after they are filed, an "early warning" system should be required to alert the IRS to tax shelter "products" that may be promoted to, or entered into by, a number of taxpayers. Disclosure should be limited to the factual and legal essence of the transaction to avoid being overly burdensome to taxpayers.

Disclosure would be required if a transaction has certain of the objective characteristics identified above that are common in many corporate tax shelters. The Treasury Department believes that two forms of disclosure are necessary. Disclosure would be made on a short form separately filed with the National Office of the IRS. Promoters would be required to file the form within 30 days of offering the tax shelter to a corporation. Corporations entering into transactions requiring disclosure would file the form by the due date of the tax return for the taxable year for which the transaction is entered into (unless the corporation had actual knowledge that the promoter had filed with respect to the transaction) and would include the form in all tax returns to which the transaction applies. The form would require the taxpayer to provide a description of the characteristics that apply to the transaction and information similar to the information in the ABA disclosure proposal. The form should be signed by a corporate officer who has, or should have, knowledge of the factual underpinnings of the transaction for which disclosure is required. Such officer should be made personally liable for misstatements on the form, with appropriate penalties for fraud or gross negligence and the officer would be accorded appropriate due process rights.

Substantial understatement penalty

In order to serve as an adequate deterrent, the risk of penalty for corporations that participate in corporate tax shelters must be real. The penalty also must be sufficient to affect the cost/benefit analysis that a corporation considers when entering into a tax shelter transaction.

The Treasury Department believes that the substantial understatement penalty imposed on understatements of tax attributable to corporate tax shelters should be greater than the penalty generally imposed on other understatements. This view is shared by the staff of the Joint Committee on Taxation, the ABA, the NYSBA and others. Thus, to discourage the use of shelters, the Treasury Department would double the current-law substantial understatement penalty rate to 40 percent for corporate tax shelters. To encourage disclosure, the penalty rate would be reduced to 20 percent if the taxpayer files the appropriate disclosures.

In the original Budget proposal, the Administration provided that the rate could not be further reduced below 20 percent or eliminated by a showing of reasonable cause (i.e., the penalty would be subject to a strict liability standard). Although one may rhetorically question whether there ever is any reasonable cause for entering into a corporate tax shelter transaction, many commentators have criticized the proposed elimination of the reasonable cause exception for corporate tax shelters. These commentators cited the potentially vague definitions of corporate tax shelter and tax avoidance transaction, the allowance of a reasonable cause exception for other penalties, and basic fairness for opposing a "strict liability" penalty. The Treasury Department still believes that the penalty structure set forth in the Administration's FY 2000 Budget is appropriate. However, in light of the comments received, the Treasury Department believes that consideration should be given to reducing or eliminating the substantial understatement penalty where the taxpayer properly discloses the transaction and the taxpayer has a reasonable belief that it has a strong chance of sustaining its tax position. In addition, because many commentators believe that taxpayers are either ignoring or circumventing the requirements of Reg. 1.6664-4 as to what constitutes reasonable cause, these requirements would be codified to heighten visibility and strengthened to the extent necessary.

Under the Treasury Department's modified approach, a strengthened reasonable cause standard could be used to reduce or eliminate the substantial understatement penalty if the taxpayer also properly disclosed the transaction in question, even if the transaction ultimately is deemed to be a corporate tax shelter. This limited exception would encourage disclosure and would alleviate some taxpayer concerns with respect to the definition of corporate tax shelter.

Finally, as discussed below, fears that the IRS may abuse the potential availability of increased substantial understatement penalties would be addressed by establishing procedures that would enhance issue escalation and facilitate consistent and centralized resolution of such matters.

Codify the economic substance doctrine

As evidenced by the comments from the ABA, AICPA, NYSBA, and others, corporate tax shelters are proliferating under the existing legal regime. This proliferation results, in part, because discontinuities in objective statutory or regulatory rules can lead to inappropriate results that have been exploited through corporate tax shelters. Current statutory anti-abuse provisions are limited to particular situations and are thus inapplicable to most current corporate tax shelters. Further, application of existing judicial doctrines has been inconsistent over time, which encourages the most aggressive taxpayers to pick and choose among the most favorable court opinions.

The current piecemeal approach to addressing corporate tax shelters has proven untenable, as (1) policymakers do not have the knowledge, expertise and time to continually address these transactions; (2) adding more mechanical rules to the Code adds to complexity, unintended results, and potential fodder for new shelters; (3) the approach may reward taxpayers and promoters who rush to complete transactions before the anticipated prospective effective date of any reactive legislation; and (4) the approach results in further misuse and neglect of common law tax doctrines. Thus, the Treasury Department believes that a codification of the economic substance doctrine is necessary in order to curb the growth of corporate tax shelters. While increased disclosure and changes to the penalty regime are necessary to escalate issues and change the cost/benefit analysis of entering into corporate tax shelters, these remedies are not enough if taxpayers continue to believe that they will prevail on the underlying substantive issue.

The centerpiece of the substantive law proposal is the codification of the economic substance doctrine first found in seminal case law such as Gregory v. Helvering and most recently utilized in ACM Partnership and the cases in footnote one. The economic substance doctrine requires a comparison of the expected pre-tax profits and expected tax benefits. This test is incorporated in the first part of the Administration's proposed definition of "tax avoidance transaction." Under that test, a tax avoidance transaction would be defined as any transaction in which the reasonably expected pre-tax profit (determined on a present value basis, after taking into account foreign taxes as expenses and transaction costs) of the transaction is insignificant relative to the reasonably expected net tax benefits (i.e., tax benefits in excess of the tax liability arising from the transaction, determined on a present value basis) of such transaction. In addition, the economic substance doctrine would apply to financing transactions (that do not lend themselves to a pre-tax profit comparison) by comparing the tax benefits claimed by the issuing corporation to the economic profits derived by the person providing the financing.

A tax benefit would be defined to include a reduction, exclusion, avoidance or deferral of tax, or an increase in a refund. However, the definition of tax benefit subject to disallowance would not include those benefits that are clearly contemplated by the applicable Code provision (taking into account the Congressional purpose for such provision and the interaction of the provision with other provisions of the Code). Thus, tax benefits that would normally meet the definition, such as the low-income housing credit and deductions generated by standard leveraged leases, would not be subject to disallowance.

The above definition of a tax-avoidance transaction is a modification of the Administration's original FY 2000 Budget proposal. The modifications address commentators' concerns about the potential vagueness of the original proposal. Concerns that the IRS might abuse the authority indicated in the original Budget proposal are addressed by a more concrete definition of tax avoidance transaction. In addition, the tax attribute disallowance rule would apply by operation of law, rather than being subject to the discretion of the Secretary.

A similar approach to that discussed above can be found in H.R. 2255, the "Abusive Tax Shelter Shutdown Act of 1999," introduced by Messrs. Doggett, Stark, Hinchey and Tierney on June 17, 1999.

The Treasury Department continues to believe that it is necessary to codify the economic substance doctrine, thus requiring taxpayers to perform a careful analysis of the pre-tax effects of a potential transaction before they enter into it. The Treasury Department's proposed substantive provision is intended to be a coherent standard derived from the economic substance doctrine as enunciated in a body of case law to the exclusion of less developed, inconsistent decisions. Codification of the doctrine, while not creating a new doctrine, would create a consistent standard so that taxpayers may not choose between the conflicting decisions to support their position. Codification would isolate the doctrine from the facts of the cases so that taxpayers could not simply distinguish the cases based on the facts.

Consequences to other parties

Proposals to deter the use of corporate tax shelters should provide sanctions or remedies on other parties that participate in, and benefit from, a corporate tax shelter. These remedies or sanctions would reduce or eliminate the economic incentives for parties that facilitate sheltering transactions, thus discouraging those transactions. As the ABA stated in its recent testimony: "All essential parties to a tax-driven transaction should have an incentive to make certain that the transaction is within the law." With respect to corporate tax shelters, the "other parties" generally are promoters, advisors, and tax-indifferent parties that lend their tax-exempt status to the shelter transaction to absorb or deflect otherwise taxable income.

When Congress was concerned with the proliferation of individual tax shelters in the early 1980s, it enacted several penalty and disclosure provisions that applied to advisors and promoters. These provisions were tailored to the types of "cookie-cutter" tax shelter products then being developed. Similar provisions could be enacted that are tailored to corporate tax shelters.

Alternatively, with respect to promoters and advisors of corporate tax shelters, the Treasury Department proposed to affect directly their economic incentives by levying an excise tax of 25 percent upon the fees derived by such persons from the corporate tax shelter transaction. Only persons who perform services in furtherance of the corporate tax shelter would be subject to the proposal, and appropriate due process procedures for such parties with respect to an assessment would be provided.

A tax-indifferent party often has a special tax status conferred upon it by operation of statute or treaty. To the extent such person is using this status in an inappropriate or unforeseen manner, the system should not condone such use. Imposing a tax on the income allocated to tax-indifferent parties could deter the inappropriate rental of their special tax status, limiting their participation in corporate tax shelters, and thus reducing other taxpayers' use of shelters that utilize this technique.

The Treasury Department proposes to require tax-indifferent parties to include in income (either as unrelated business taxable income or effectively connected income) income earned in a corporate tax shelter transaction. To the extent such parties are outside the U.S. tax jurisdiction, such liability would be joint and severable with the U.S. corporate participant. The proposal would apply only to tax-indifferent parties that are trading on their special tax status and such parties would have appropriate due process rights.

The staff of the Joint Committee on Taxation (JCT), in its study and report on penalty and interest provisions of the Code, also analyzes corporate tax shelters. The JCT staff concluded that there "is evidence that the use of corporate tax shelters has grown significantly in recent years" and "that present law does not sufficiently deter corporations from entering into arrangements with a significant purpose of avoiding or evading Federal income tax." In this regard, the staff made certain legislative recommendations.

The proposals made by the JCT staff are quite similar to those made by the Administration. The JCT staff proposal would require increased disclosure, increase the substantial understatement penalty on undisclosed transactions and tighten the reasonable cause standard, and provide sanctions on other parties to shelter transactions. The major difference between the two sets of recommendations is that the JCT would not codify the economic substance doctrine. However, the JCT proposal does incorporate a version of the economic substance doctrine similar to that of the Administration's proposals in identifying corporate tax shelters.

Since we last testified before this Committee on the problem of corporate tax shelters, the IRS has won some significant tax shelter cases, including Compaq, IES Industries, Winn-Dixie, and Saba Partnership. The courts in these cases applied an economic substance analysis in denying tax benefits that purportedly met the black letter of the applicable Code provisions.

These cases are helpful as part of an overall approach to address corporate tax shelters. First, the cases stand for the proposition that both the economic substance doctrine and the role of penalties are important components in the fight against corporate tax shelters. Some may argue that these cases demonstrate that the IRS currently has all the tools it needs to combat corporate tax shelters and that further legislation is unnecessary. Such an assertion ignores the realities of the litigation process and is premised on a misunderstanding of the intent of the Administration's legislative proposals.

Reliance on judicial decisions, which taxpayers may attempt to distinguish, is not the most efficient means of addressing corporate tax shelters. Litigation is expensive and time-consuming, both for the government and taxpayers, and frequently does not provide a coherent set of rules to be applied to subsequent transactions. Tax Court Judge Laro, speaking on his own behalf before the Tax Executives Institute last month, acknowledged that the courts have provided little guidance on the amount of economic substance or business purpose sufficient for a transaction to be respected. He stated that such concepts "may require further development in the case law," but highlighted the difficulty with such an approach when he said that judges "decide cases one at a time...and don't make tax policy."

The Treasury Department strongly believes that the economic substance doctrine upon which these recent cases have been decided should be codified. The doctrine has been a part of the fabric of our tax system since the seminal case of Gregory v. Helvering, but has, until recently, been eroded by some admittedly confusing and conflicting case law that has led to a lack of respect for the doctrine on the part of some taxpayers and tax practitioners. The economic substance doctrine is the most objective, most understandable, and most easily applied of all the judicially created doctrines. We believe that it is appropriate for the Congress to elevate this standard by codifying it, rather than waiting and hoping that the case law evolves in a more coherent and understandable manner.

The Administration's corporate tax shelter proposals, including enactment of the economic substance doctrine, attempt to change the outcome of the cost-benefit analysis undertaken by taxpayers in deciding whether or not to engage in a questionable transaction. Taxpayers should be encouraged to apply these principles before the fact, rather than playing the audit lottery. The Administration's proposals provide a level playing field between overly aggressive taxpayers and compliant taxpayers and between overly aggressive taxpayers and their advisors and the government by ensuring that all parties are playing by the same objective rules, encouraging timely disclosure of potentially questionable transactions, and providing appropriate sanctions to parties that "cross the line."

The IRS currently is undergoing a substantial restructuring. The IRS will be reorganized into divisions based on types of taxpayers. Because the Treasury proposals generally apply to large corporate transactions, the IRS personnel focusing on corporate shelters probably will be located in the IRS's new Large and Mid-Size Business Division, which will be fully operational in 2000.

The restructuring of the IRS will enhance its ability to deal with corporate tax shelters. Centralization of IRS resources focusing on corporate tax shelters will facilitate training and coordination among IRS agents, IRS litigators, their supervisors and Chief Counsel. The IRS also is considering methods to centralize and coordinate the formulation of strategy regarding corporate shelters generally and particular shelter transactions.

Further, to prevent interference with legitimate business transactions, the IRS is considering whether to require examining agents to refer corporate tax shelter issues to a centralized office for consideration. Such a referral process might be similar to that used with respect to the partnership anti-abuse regulations. The IRS is also considering whether to establish of a procedure whereby a taxpayer could obtain an expedited ruling from the IRS as to whether a contemplated transaction constitutes a corporate tax shelter.

The Treasury Department will work closely with the IRS to create appropriate systems and procedures to centralize review and analysis, to ensure fair, consistent, and expeditious consideration of corporate tax shelter issues.

Mr. Chairman, the proliferation of corporate tax shelters presents an unacceptable and growing level of tax avoidance behavior by wasting economic resources, reducing tax receipts, and threatening the integrity of the tax system. This morning we have laid out the rationale for our suggested approach for combating this problem, and discussed why we believe that existing law does not provide sufficient tools to combat this behavior. We look forward to working with you and the members of the Committee to address this important problem, as we have in the past to curb specific abuses.