CONGRESSWOMAN ELISE STEFANIK
H.R. 4337 is expected to be considered on the House floor on Wednesday, December 15, 2010, under suspension of the rules, requiring a two-thirds majority vote for passage. This legislation was introduced by Rep. Charles Rangel (D-NY) on December 16, 2010.
H.R. 4337 was originally approved in the House by voice vote on September 28, 2010, and was slightly modified in the Senate. The bill would make a number of changes to technical rules governing the tax treatment of regulated investment companies, which are allowed to pass capital gains, dividends, and interest directly to shareholders so it is only taxed at a personal level. In addition, the bill would allow certain regulated investment companies (such as mutual funds) to pass-through tax exempt interest and foreign tax credits without meeting certain asset requirements.
Capital Loss Carryovers of Regulated Investment Companies: Under current law, regulated investment companies (RIC) may only carry forward capital losses for up to eight years. Should a RIC fail to generate enough capital gains over the eight-year period to offset its capital loss carry forwards, gains of the RIC are still required to be distributed to shareholders, even though the RIC may still have a cumulative net loss. H.R. 4337 would permit RICs unlimited carry forwards of their net capital losses. This provision is estimated to cost $30 million over 10 years.
Savings Provisions for Failure of Regulated Investment Companies to Satisfy Gross Income and Asset Tests: Under current law, RICs must derive at least 90 percent of their income from sources of “good income,” such as dividends, interest gains, or the sale of stock. If a RIC fails to comply with the 90 percent requirement, it is subject being taxed as a corporation at the 35 percent rate. The proposed legislation would allow RICs to fix inadvertent failures to comply with the gross income test by paying a tax equal to the amount by which the RIC failed the gross income test.
In addition, the bill would treat RICs similar to real estate investment trusts (REITs) in regard to asset diversification requirements. If a REIT fails an asset diversification requirement, but comes into compliance within six months after it identifies the failure, then the REIT is treated as satisfying the asset tests. A REIT can avoid disqualification under subchapter M if the failure is the result of reasonable cause, the REIT notifies the IRS, and corrects the failure and pays an excise tax equal to the greater of $50,000 or the highest corporate tax rate subject to the bad assets during the period of failure. The bill would extend these exemptions and rules to RICs. This provision is estimated to increase revenue by $500,000 over 10 years.
Modification of Dividends Designation Requirements and Allocation Rule for Regulated Investment Companies: Under current law, RICs are required to send a notice to shareholders within 60 days of the end of a RICs taxable year to notify the shareholders of the tax treatment of various distributions made during the course of the taxable year. This proposed legislation would eliminate the now-obsolete requirement that a RIC send a notice to shareholders within 60 days of the end of the RIC’s taxable year.
The bill would also allow RICs and shareholders to avoid filing amended tax returns due to a change in the amount capital gains dividends that are ultimately allowed to be treated as a capital gain dividend at the end of the tax year. RICs would be allowed to reduce capital gains dividends in the subsequent calendar year by the amount of excess capital gains dividends reported in the prior year. This provision is estimated to cost $500,000 over 10 years.
Earnings and Profits of Regulated Investment Companies: The p RICs to take into account certain disallowed deductions associated with tax-exempt income when calculating earnings and profits. This provision is estimated to cost $500,000 over 10 years.
Pass-Through of Exempt-Interest Dividends and Foreign Tax Credits in Fund-of-Funds Structure: Current law allows RICs to pass-through tax exempt interest and foreign tax credits if more than fifty percent of the RICs assets are comprised of municipal bonds or equities issued by foreign corporations. If a RIC invests in other RICs that pass through tax-exempt or foreign tax credits, the top-tier RIC is limited in the ability to separately pass those tax attributes on to its shareholders because it does not technically meet this 50 percent requirement. This bill would allow RICs that invests 95 percent of its assets in cash and cash items and interest in other RICs to pass-through tax-exempt interest and foreign tax credits without regard to the fifty percent requirement. This proposal is estimated to cost $39 million over 10 years.
Modification of Rules for Spillover Dividends of Regulated Investment Companies: The bill would allow a RIC to make a spillover dividend with the first dividend payment. A spillover dividend is a type of dividend where the payment year and the taxable year are at different times (usually when a dividend has been declared near the end of the calendar year). The bill would also limit the time period of making a spillover dividend to the 15th day of the ninth month following the close of a taxable year. This provision is estimated to cost $500,000 over 10 years.
Return of Capital Distributions of Regulated Investment Companies: The bill would allow RICs earnings and profits to be allocated first to (capital) distributions made prior to December 31 and then to distributions occurring after December 31 instead of requiring earnings and profits be allocated pro rata over all distributions during the taxable year. This provision is estimated to increase revenues by $500,000 over 10 years.
Distribution in Redemption of Stock of a Regulated Investment Company: Currently, mutual funds face difficulties determining whether a distribution in partial redemption of stock should be treated as an exchange of shares or as dividends for tax purposes. The bill would allow all public RICs with shares that are redeemable upon demand to treat distributions in redemption of stock as an exchange. The provision is estimated to cost $94 million over 10 years.
Repeal of Preferential Dividend Rule for Publicly Offered Regulated Investment Companies: The bill would repeal the preferential dividend rules contained in the tax code for publicly offered RICs. This provision is estimated to have no revenue impact over 10 years.
Elective Deferral of Certain Late-Year Losses of Regulated Investment Companies: The bill would allow a RIC to elect to treat a post-December 31 losses, or in regard to capital gains, post-October 31 losses, as subject to the first day of the funds next taxable year. This provision is estimated to cost $500,000 over 10 years.
Excise Tax Exemption for Certain Regulated Investment Companies Owned by Tax Exempt Entities: Currently, a RIC is required to pay an annual excise tax if it fails to distribute all of its taxable income at the end of the calendar year. The excise tax is intended to prevent shareholders from deferring taxation on investment earnings through RICs. The bill would extend an excise tax exemption to RICs that are owned by tax-exempt entities. This provision is estimated to have no revenue impact over 10 years.
Deferral of Certain Gains and Losses of Regulated Investment Companies for Excise Tax Purposes: Currently, RICs are allowed to treat annual excise taxes on ordinary income derived after October 31 as being derived on the first day of the following calendar year. The proposed legislation would expand this deferral rule to cover all ordinary gains or losses from the sale, exchange, or other disposition of property, including foreign currency gains or losses. This provision is estimated to cost $500,000 over 10 years.
Distributed Amount for Excise Tax Purposes Determined on Basis of Taxes Paid by Regulated Investment Company: Currently, if a RIC has a taxable year that is different from the calendar year, the RIC is unable to take estimated tax payments made after the start of the current taxable year and before January 1 into account for the purpose of the annual RIC excise tax. The bill would allow these estimated tax payments to be taken into account for the purposes of the annual RIC excise tax. This provision is estimated to cost $500,000 over 10 years.
Repeal of Assessable Penalty with Respect to Liability for Tax of Regulated Investment Companies: The bill would conform to the RIC and REIT deficiency dividend rules and repeal the additional penalty that applies to RICs making a deficiency dividend; and RICs, like REITs, would continue to be subject to the interest charge. This provision is estimated to cost $500,000 over 10 years.
Modification of Sales Load Basis Deferral Rule for Regulated Investment Companies: The bill would limit the time in which shareholders are required to increase their basis in RIC stock by the amount of a load charge that is paid with respect to a previously owned RIC stock.
For more in-depth analysis on the underlying provisions, click here to view Ways and Means Committee analysis
According to JCT, H.R. 4337 would increase revenue by $131 million over five years, and $30 million over the next ten years.