a rate that included a 2.5-cents-per-gallon deficit reduction rate. Receipts attributable to this deficit reduction rate were not deposited in the Highway Trust Fund, but instead were retained in the General Fund. A tax at the 2.5-cents-per-gallon deficit reduction rate was also imposed on diesel fuel used in trains, and receipts attributable to this tax were also retained in the General Fund. As originally enacted, the 2.5-cents-pergallon tax would have expired on September 30, 1995. In 1993, the Administration recommended that the 2.5-cents-per-gallon deficit reduction tax be made permanent.

Current Law

Under the Conference Agreement to OBRA 93, the 2.5-centsper-gallon tax on highway motor fuels was extended through September 30, 1999, but receipts attributable to the tax were shifted from the General Fund to the Highway Trust Fund, beginning October 1, 1995. The tax on diesel fuel used in trains was also extended through September 30, 1999, but the rate of tax was reduced to 1.25 cents per gallon for periods after September 30, 1995. Receipts attributable to this tax will be retained in

the General Fund.

As discussed above, OBRA 93 also imposed a permanent excise tax of 4.3 cents per gallon on transportation fuels generally, including diesel fuel used by trains. Thus, beginning October 1 of this year, diesel fuel used in trains will be subject to a 5.55-cents-per-gallon tax dedicated to the General Fund for deficit reduction purposes while fuel used in other forms of transportation highway, inland waterway, commercial aviation and non-commercial aviation are subject to a 4.3-cents-pergallon tax dedicated to the General Fund (in addition to the tax dedicated to trust funds).

Discussion

Under

The Administration does not support repealing or reducing the 1.25-cents-per-gallon excise tax on rail diesel fuel that is deposited in the General Fund for purposes of deficit reduction. As the attached Department of Transportation analysis shows, deficit reduction taxes are a smaller percentage of net revenue for the railroads than for commercial trucking and airlines (assuming the tax on aviation fuel is taken into account). the compromise reached in OBRA 93, receipts from the 2.5-centsper-gallon tax on highway motor fuels were shifted from the General Fund to the Highway Trust Fund, while the tax on diesel fuel used in trains was cut in half. Deficit reduction is essential in our efforts to balance the budget, and we support this goal in the context of this tax. The deficit reduction plan was enacted in 1993 to get the nation's economy on track. Piecemeal tax reduction would send the wrong signal concerning our commitment to further deficit reduction. As stated earlier,

the Administration does not believe that the 1993 agreement should be reopened at this time, although we believe that it would be appropriate for Congress to re-examine this issue when the tax expires in 1999.

Diesel fuel and gasoline that are used for highway transportation and certain other purposes are generally subject to tax. Diesel fuel, however, unlike gasoline, is also used extensively for nontaxable purposes such as home heating. Because diesel fuel used for taxable and nontaxable purposes is otherwise physically indistinguishable, many countries' (including the United States) that tax highway fuels, but not fuel destined for other uses, have imposed dyeing requirements to differentiate taxable from nontaxable fuel. In addition, many States dye diesel fuel for enforcement of fuel taxes. Before 1994, the Internal Revenue Code did not impose a dyeing requirement with respect to diesel fuel. Instead, diesel fuel was generally subject to tax when sold by a wholesale distributor, who determined, in accordance with Treasury regulations, whether the fuel was taxable or nontaxable. dyeing requirement was imposed, however, beginning in October 1993, under the Clean Air Act. The Act prohibits highway use of diesel fuel with a sulfur content exceeding prescribed levels and requires dyeing of high-sulfur fuel to facilitate enforcement of this prohibition.

A

During the period leading up to the enactment of OBRA 93, a number of reports indicated that there was substantial evasion of the diesel fuel tax. The Department of Transportation estimated that the diesel fuel tax was evaded on 15 to 25 percent of total gallons consumed. Both this Committee and the House Committee on Ways and Means concluded that this problem could be alleviated by moving the collection point further up the distribution stream (from the wholesale level to the terminal) for diesel fuel taxes. This change would reduce the number of times the fuel changes ownership prior to tax and reduce the number of taxpayers, so that diesel fuel taxes would be easier to collect, and payments of tax would be easier to monitor. The committees were also concerned that this change be accomplished in a manner that minimized the additional burden imposed on exempt users by preserving their ability to buy diesel fuel (including heating

To our knowledge, the following countries require dyeing of motor fuel: Austria, Belgium,, Canada, Denmark, Finland, France, Germany, Greece, Holland, Ireland, Italy, Luxembourg, Peru, the Philippines, Portugal, South Africa, Spain, Switzerland, the United Kingdom, and the United States.

oil) free of tax. H.R. Rep. No. 111, 103d Cong., 1st Sess. 311 (1993). Senate Print No. 37, 103d Cong., 1st Sess. 214 (1993).

Current Law

An excise tax totaling 24.4 cents per gallon is imposed on diesel fuel. In the case of fuel used for highway

transportation, 17.5 cents per gallon (20 cents after September 30, 1995) is dedicated to the Highway Trust Fund and 0.1 cent per gallon is dedicated to the LUST Trust Fund. In addition, 6.8 cents per gallon (4.3 cents after September 30, 1995) is imposed on transportation fuels generally and is retained in the General Fund.

OBRA 93 changed the imposition of the diesel fuel tax from the wholesale level to the removal of the fuel from a terminal facility (i.e., the terminal rack). This legislation also provided that tax is imposed on all diesel fuel removed from terminal facilities unless the fuel is destined for a nontaxable use and is indelibly dyed pursuant to Treasury Department regulations.

The

In general, the diesel fuel tax does not apply to nontransportation uses of the fuel. This exemption includes offhighway business uses, such as powering off-highway construction equipment and farming. Use as heating oil is also exempt. (Most fuel commonly referred to as heating oil is diesel fuel.) tax also does not apply to fuel used by State and local governments, to exported fuels, and to fuel used in commercial fishing and shipping. Fuel consumed by intercity buses and trains is partially exempt from the diesel fuel tax.

Nontaxable (and partially taxable intercity bus and rail) users of diesel fuel may either use dyed diesel fuel on which tax is never paid (and pay the appropriate tax in the case of train and intercity bus operators) or purchase tax-paid, undyed diesel fuel and file a claim for refund of tax paid. In the case of diesel fuel sold to States and local governments and for farming use, the refunds are claimed by registered ultimate vendors who sell the fuel to the consumers without tax. (These claims accrue interest unless they are paid within 20 days.) Other nontaxable users of diesel fuel may either claim refunds on the taxpayer's income tax return (estimated income tax payments may be reduced to adjust for these amounts) or on a separate refund claim, if the total amount of refund due a taxpayer exceeds $750 at the end of any of the first three quarters in a calendar year.

To enable law enforcement officials to ensure that untaxed fuel is not used in a taxable use through dilution of dye concentrations, present law imposes a penalty of $10 per gallon ($1000 minimum) on persons who dilute dye concentrations below prescribed minimum levels. If an untaxed substance (e.g.,

kerosene) is blended with dyed diesel fuel and is destined for a nontaxable use, dye must be added to the fuel mixture to ensure that required concentrations are maintained.

Also, in certain circumstances, an untaxed substance (e.g., kerosene) is blended with taxed (clear) diesel fuel. When this blending occurs, tax is due on the untaxed substance.

Present law also imposes a penalty of $10 per gallon ($1,000 minimum) on persons who sell or use untaxed diesel fuel in a taxable use after the fuel is removed from a terminal facility. For example, truck owners having dyed diesel fuel in their vehicle tanks are subject to this penalty. Similarly, owners of truck stops having dyed diesel fuel in pumps dispensing fuel to highway users are subject to the penalty. The Internal Revenue Service (IRS) has begun a program of spot checks for dyed diesel fuel at truck stops and State highway weigh stations.

Although the dyeing requirements under the Clean Air Act and the excise tax statute are not identical, the Administration has endeavored to coordinate the two regimes to simplify compliance. The Treasury Department worked in conjunction with the EPA during the drafting of the temporary regulations governing the diesel dyeing program to assure compatibility with the Clean Air Act regulations. In addition, last year, the Administration responded to concerns raised by the State of Alaska and others regarding the similarity in color of the dye previously used for high-sulfur diesel fuel (blue) and that used for aviation gas (blue). Both the EPA and the Treasury Department issued guidance providing that the color for all diesel would be red for purposes of both dyeing regimes.

Discussion

General

Achieving effective compliance with excise taxes on fuels has been a problem not only for the Federal government but also for the States. After trying other procedures, the United States has learned that taxing fuels at the terminal rack and dyeing nontaxable diesel fuel are the best methods for preventing fraud, assuring that honest retailers and wholesalers do not have to compete with those supplied with untaxed fuel, and securing adequate revenue to support the nation's transportation infrastructure and for deficit reduction. The United States has been a late-comer to implementing these simple steps toward better compliance. As previously discussed, many foreign countries have used dyeing for years to distinguish between taxed and tax-exempt fuel.

The OBRA 93 changes in the administration of fuel taxes have been a success. Recent revenue collections demonstrate that the

changes were warranted and necessary.

As the Commissioner of the IRS testified in February before the Oversight Subcommittee of the House Committee on Ways and Means, preliminary tabulations of excise tax liabilities reported on tax returns showed receipts to be $1.09 billion higher for the first three quarters of calendar year 1994 than for the same period in 1993, after adjusting for the rate increase. Complete data for 1994 have now been reviewed. The total amount of 1994 receipts available for the trust funds increased by $1.23 billion over the prior year, again adjusting for the rate increase. Taking into account increased refunds and credits, and attributing some of the increase to economic growth, the Treasury Department estimates that diesel fuel tax receipts, net of refunds, were $600 - $700 million higher in 1994 than in 1993 due to improved compliance alone.

Compliance Efforts

The diesel dyeing program represents what can be accomplished through partnerships with State taxing authorities, other Federal and State agencies (such as the Federal Highway Administration and EPA), and industry. The first phase of implementation of this program included: (i) education/outreach to affected stakeholders; (ii) recruitment and training of IRS enforcement personnel; (iii) formation of working partnerships with the States; and (iv) terminal and roadside inspections. Through May of 1995, the IRS has visited and inspected over 20,000 terminals and other outlets for both enforcement and education. These efforts at outreach, taxpayer education, and burden reduction are an ongoing and integral part of the dyed diesel compliance program. Moreover, a major portion of these compliance efforts depends on cooperative joint efforts with the States. During the week of January 23 through 27, 1995, thirty IRS Districts participated in joint compliance checks with their respective States inspecting over 16,000 trucks. The results of these inspections indicated that less than one percent of the trucks were using dyed fuel on the highway. We believe this indicates successful implementation of the diesel dyeing program. Moreover, several States' are piggybacking on the success of this program and passing similar legislation calling for taxation at the terminal rack and dyeing of diesel fuel.

Because the number of taxpayers liable for these taxes decreased, the ability to monitor compliance with these taxes has greatly increased. Detection of diesel fuel tax evasion schemes, however, is a dynamic enterprise. The IRS is continuing to

"To our knowledge, the following states have adopted this federal piggyback legislation: Michigan, Indiana, Wisconsin, Florida, California, Iowa, South Dakota, North Carolina, South Carolina. Tennessee and New York state systems are also terminalbased for gasoline.