It would reduce the disadvantage to our investors who are in competition with nationals of other countries which put little or no tax burden on foreign income. It would compensate for some of the foreign taxes, other than income taxes, which are an integral part of the tax systems of certain foreign countries, but which are not recognized as creditable against United States taxes on foreign income.

Equally important is recognition of the principle that the country where profits are made should have the prior right to establish the form and level of taxation appropriate to its economy. This proposal would tend to reduce the influence of the United States on tax policies of foreign countries and slow the trend to shape their tax systems and increase their rates to approximate those of the United States. These trends have been apparent in the development of foreign tax laws and have been emphasized in the course of negotiations of income tax conventions between the United States and certain foreign countries for the avoidance of double taxation.

It is generally understood by tax officials of foreign countries that any reduc tions in their taxes to attract American business would be offset by additional United States taxes on those American taxpayers. This has unquestionably been a factor in slowing the conclusion of double taxation conventions with Latin American countries, and has resulted in restrictions by foreign countries on granting lower rates. For example, such restrictions were incorporated in the Australian and the German Treaties with the United States in providing for the applicability of a reduced rate of tax on dividends paid to United States corporations. In addition to the foregoing, tax eexemptions adopted by foreign countries as incentives to attract new and expanded investment, which are laregly nullified by our present tax system, would be of some advantage to United States investors if the proposal for lower tax rates were adopted.

The Association believes that the adoption of realistic provisions for extending a lower rate of tax would be an effective method of encouraging American business expansion abroad. While the application of such provisions must necessarily be clearly defined, we urge the adoption of existing concepts where feasible; for example, the benefits should be applicable to domestic corporations owning a minority interest in foreign corporations, such as provided in section 902 of the Internal Revenue Code with respect to application of the foreign tax credit. If full consideration is given to normal forms of organization and operating procedures of American business, we believe that this tax proposal would be of substantial value in strengthening this country's foreign economic program.

II. Defer taxation of foreign branch income

We recommend that domestic corporations with branches abroad be permitted to defer payment of United States taxes on income of such branches until it is brought back to the United States. In so doing, Congress would grant treatment more nearly equivalent to that applied to dividends received from foreign subsidiaries of United States corporations.

This proposal has been endorsed generally as one of the measures to enact in revising taxation of foreign income. While immediately, it would result in some reduction of Federal revenue, this proposal would tend to encourage further expansion abroad and permit longer term investment in plants and other than current assets. Thus, the economic program of this country would be advanced, and ultimately increasing profits returned to this country.

Frequently a branch operation is deemed more prudent or necessary for other than tax considerations. A choice of corporate form should have no effect upon the time when such income is taxed. Accordingly, we feel that United States corporations with branches abroad should have the same freedom in employment of earnings after foreign taxes as do foreign corporations operating under similar conditions.

III. Permit an election to apply either per country or overall limitation on foreign tax credit

It is recommended that section 904 of the Internal Revenue Code of 1954 be amended to permit taxpayers an election to apply either the per country or the overall limitation in computing the maximum allowable credit for foreign taxes. During the period 1921 to 1932 the overall limitation was in effect, providing that the maximum credit allowed with respect to all foreign income taxes paid was an amount equivalent to that proportion of the United States tax which income from without the United States bore to total income. This provision

effectively restricted application of the credit for foreign taxes to the amount of United States tax on foreign income of the taxpayer without reducing the United States tax on domestic income by requiring the application of foreign losses against foreign income in computing the maximum allowable credit. It avoided the problem of attributing income and expenses to specific countries, and provided some measure of relief by averaging taxes of countries with rates higher than the United States rates with taxes of countries having lower rates. The per country limitation was introduced in 1932 adding to the foregoing limitation the restriction that the credit with respect to taxes paid to any particular country be limited to an amount equivalent to that proportion of the United States tax which income from sources in such foreign country bore to total income. Taxpayers were deprived of full credit for foreign taxes paid in certain situations because this limitation prevented averaging taxes paid to countries having tax rates higher than the United States rates with taxes paid to countries having lower rates. Thus, United States taxes could be paid on both domestic and foreign income while certain foreign countries' taxes were also paid for which credit was not allowed.

In the 1954 Internal Revenue Code revision the overall limitation was omitted thus permitting a company to go into a country where it might operate at a loss without necessarily reducing the foreign tax credit available with respect to income from operations in one or more other countries.

We believe that an election to apply either the per country or the overall limitation is desirable in order to afford more adequate relief to taxpayers operating abroad without further reducing United States taxes on United States income.

IV. Permit carryback and carryover of foreign tax credit

The Association recommends a 2-year carryback and 5-year carryover of foreign taxes in excess of amounts allowable as credits based on limitations applicable to the taxable year.

Foreign income is presently burdened by double taxation arising through differences betwees United States and foreign country accounting concepts and procedures for determining taxable income. The resulting differences in income and related taxes tend to be equalized in the aggregate over a period of years. Therefore, we urge enactment of this provision which is included as section 37 of H. R. 8381.

PROPOSAL TO AMEND SECTION 167 (A) OF THE INTERNAL REVENUE CODE RELATING TO DEPRECIATION OF GOODWILL

Proposal: It is recommended that section 167 of the Internal Revenue Code of 1954 be amended to permit a deduction from gross income for depreciation of paid-for goodwill.

Background: The Internal Revenue Code contains no denial of a deduction for depreciation of goodwill. However, Treasury Regulation 1-167 (a)-3 specifically disallows such a deduction.

Throughout the years since 1926, following the decision in Red Wing Malting Co. v. Willcuts, UŠCA-8, November 5, 1926, the Commissioner of Internal Revenue has in regulations and rulings adopted the position that goodwill cannot be made the subject of a depreciation allowance. The Red Wing Malting Co. case, however, did not pertain to acquired goodwill, but rather to goodwill developed by the Red Wing Co. itself. The proposal made herein relates to goodwill acquired in connection with the acquisition of the business of another enterprise by a taxpayer.

When one business buys another enterprise or a portion thereof and pays a price for the going concern value by whatever name the intangible asset may be called, its cost represents a portion of expected future earnings and when those earnings are realized, they represent a return of such cost and not a profit. The language of the tax court supports this view, namely, "** when the purchaser of a business pays a price for goodwill, he is not paying for the profits in the past in excess of a fair return on tangibles, but for those profits of the future" (Estate of A. Bluestein, 15 T. C. 770).

The Treasury Department does recognize that there is a period of time in which goodwill contributes to the earnings of a business as indicated in A. R. M. 34 (C. B. 2, 31): "The surplus earnings will then be the average amount available for return upon the value of the intangible assets and it is the opinion of the committee that this return should be capitalized upon the basis of not more than

5 years' purchase that is to say, 5 times the amount available as return from intangibles should be the value of the intangibles."

The American Institute of Accountants, in its Research Bulletin No. 43, June 1953, announced as a sound accounting principle, that the cost of an intangible asset, such as goodwill, where there is evidence that its value is of limited duration, should be amortized by systematic charges in the income statement over the period benefited, as in the case of other assets having a limited period of usefulness.

In some instances it may be more difficult to determine the precise period over which paid-for goodwill is consumed or exhausted as compared with patents, copyrights, licenses, franchises, etc. Nevertheless, paid-for goodwill does diminish in value with the lapse of time. To illustrate:

Company "A" purchases the tangible and intangible assets including the goodwill associated with the business of company "B." If company "A" gradually ceases to carry on the business purchased from company "B" under the trade names, trademarks and other evidences of identity of the previous company "B," then over some period of time the goodwill acquired with the purchase of the assets and business of company "B" will decrease in value. Conduct of the acquired business of company "A" under its own trade practices, trademarks, goodwill and public standing will supplant whatever goodwill relating to company "B" existed at the time of the acquisition of the latter's assets and business. The value of goodwill, pursuant to section 1011 of the 1954 Internal Revenue Code, purchased in connection with the acquisition of the business of another enterprise should be recognized as an asset subject to depreciation, or loss of useful value with the lapse of time. To properly reflect the income of the taxpayer an appropriate writeoff should be allowed as a deduction against the income realized from the acquired business.

In many cases, in order to utilize this principle, a taxpayer would have to be permitted to spread the deduction over a fixed period. If the taxpayer were required to establish in advance a definite period of useful life for the goodwill, as he would have to if this deduction were governed by the rules generally applicable to depreciation, the practical difficulty of doing so would make illusory the availability of such a deduction. This is the factor which has proved the principal deterrent to this kind of a deduction under existing law.

Congress has already recognized that deductions might have to be spread over fixed periods selected without regard to the actual period of time over which the outlay involved may be of value in the business, e. g., the 60 months deduction for organization expenses provided in code section 248 and the 60 months deduction for amortization provided in section 168. Upon the same principle depreciation of acquired goodwill could properly be spread over a 60-month period.

Recommendation: It is, accordingly, recommended that section 167 (a) (1) of the code be amended to read as follows:

"(a) General Rule.-There shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear (including a reasonable allowance for obsolescence) —

"(1) of tangible and intangible property used in the trade or business, includ ing goodwill acquired through capital outlay, provided that at the election of the taxpayer such deduction for goodwill shall be allowed ratably over a period of 60 months, or."

PROPOSAL TO AMEND SECTIONS 269 AND 318 OF THE INTERNAL REVENUE CODE TO EXTEND CONSTRUCTIVE STOCK OWNERSHIP RULES

Proposal: It is recommended that, in order to eliminate unintended hardships, section 269 be amended so as clearly to incorporate the attribution rules of section 318 relating to constructive ownership of stock.

Background: Section 269 provides for disallowance of a deduction, credit, or other allowance secured by acquisition of control of a corporation if the acquisition was for the principal purpose of avoiding tax. Section 269 is basically the same as section 129 which was added to the Internal Revenue Code of 1939 by the revenue bill of 1943, and specifically made retroactive to taxable years beginning after December 31, 1939.

Frequently, there are complicated corporate structures which require realinement for purposes of simplification or other valid business reasons. When this occurs within a controlled group in which ultimate ownership rests in one source, section 269 poses a potential threat of taxpayer harassment wherever a particular acquiring corporation within a controlled group realizes a tax benefit even

though the ultimate enjoyment of the benefit has not changed and remains within the group. This problem was rendered acute by the presumption of tax avoidance contained in section 269 (c), which was added in 1954 and which arises from the failure of the consideration paid upon the acquisition to meet the artificial requirements of that section.

The problem may be illustrated by the following example:

Over a period of years a complex corporate structure has developed whereby P Corp. owns 100 percent of the stock of corporations A, B, and C. P also owns 75 percent of the stock of D Corp. which is the principal operating company in the group and in terms of size and earnings is many times that of A, B, and C combined. A, B, and C are engaged in performing different business functions, and, while operated independently, all contribute to the primary activities of D. P's function is in formulating general policy and coordinating the activities of all the companies. P determines that, for operating efficiency, it would be preferable to have D directly responsible for the activities of A, B, and C. To achieve that result, P contributes the stock of A, B, and C to the capital of D. Prior to the transfer, C had sustained a net operating loss, which was available for carry forward to later years. After the transfer, C generates substantial earnings from the same activities carried on by it prior to the transfer. It seeks to avail itself of its loss carry forward against such earnings. If the attribution rules of section 318 were applicable to these facts, it would be clear that D had not “acquired on or after October 8, 1940, directly or indirectly, control of" C. Through attribution, D would have had "control" of C even when it was owned by P. However, since under present law, section 318 is applicable only to subchapter C and not to section 269, (which is in subch. B), C and D must continually face the threat of an attack under section 269 with respect to C's operating loss carry forward even through there was never any real change in control because the transfer was "within the family." Conceivably, the Commissioner might even contend that the presumption under section 269 (c) would apply as to this family arrangement.

When Congress specifically dealt with the problem of loss carryovers in section 382 of the 1954 code, it advisedly adopted the constructive ownership rules of section 318 in that connection. Logic and commonsense would indicate that section 318 should be equally applicable with respect to section 269 and that the failure to so draft sections 318 and 269 in enacting the 1954 code was merely an oversight.

Recommendation: The foregoing objective may be accomplished by (1) amending the first sentence of section 318 (a) so that it will not be limited to subchapter C, and (2) amending section 269 to expressly make section 318 applicable. These amendments could take the following form:

(1) Amendments of section 318, Constructive Ownership of Stock:

Subsection (a). Delete the word "subchapter" and substitute the word "chapter" in the first sentence, so as to read:

(a) General rule.-For purposes of those provisions of this chapter to which the rules contained in this section are expressly made applicable

Subsection (b). Add a new paragraph (6) to the cross-references so as to read: (6) Section 269 (relating to acquisitions made to evade or avoid tax).

(2) Amendment of section 269, Acquisitions Made To Evade or Avoid Income Tax: Add a new subsection (d).

(d) Constructive ownership of stock.-In determining whether an acquisition described in subsection (a) has occurred, section 318 (a) (1) (C) shall apply in determining the ownership of stock for purposes of this section.

PROPOSAL THAT CONGRESS ELIMINATE THE INEQUITABLE TAX EXEMPTION ACCORDED TO COOPERATIVES

This association urges that there be a thorough reexamination of the role cooperatives occupy in the economy of the United States today, with a view toward eliminating the inequitable tax advantage which permits cooperatives to engage in direct, unfair competition with taxpaying corporations.

At the time tax exemption was granted to farmer cooperatives in 1916, the farm economy had no Government-financed programs such as commodity price supports, soil-bank payments, marketing research, farm-to-market roads, rural electrification, and other forms of farmer assistance. Farmer cooperatives were granted a tax exemption to ameliorate the hardships of subsistence farming. But this exemption is now a rapidly growing loophole in our present-day tax system. Unless this loophole is closed, we fear it will increasingly undermine the tax base

which provides the revenue to pay for all Government programs, including Federal financial assistance to the farm community.

We desire to illustrate how this tax exemption is already beginning to seriously affect segments of the chemical industry. The growing injustice in this tax situation is likely to encourage more and more promoters to utilize the cooperative form as a device for competing with taxpaying manufacturers of chemicals, as well as other products.

Whereas regular chemical manufacturing corporations pay a tax of up to 52 percent on their earnings, cooperatives pay little or no tax on earnings.

This permits co-ops to sell their products at lower prices, thereby gaining an increasing share of the market, but still leaving enough tax-free earnings to finance the expansion needed to serve the growing market for their lower priced product.

The serious nature of the tax loophole to which we refer can be cogently illustrated by pointing out facts regarding a large cooperative in Mississippi which is presenlty competing almost entirely tax free with taxpaying chemical companies. According to figures taken from its own published annual report, the Mississippi cooperative's return on investment before and after taxes was 20.9 percent. Its report concisely states there was "no provision for current income taxes."

In contrast, a typical group of chemical companies showed a return on investment before taxes of 13.3 percent and after taxes of 6.4 percent.

The rapid growth of this Mississippi cooperative, which engages in making the basic chemical, ammonia, for use as a component of plant food, serves as an illustration of cooperative endeavor, operating under the shelter of beneficial tax treatment. Significant data extracted from the cooperative company's annual reports of 1956 and 1957 are presented in the following table:

The following comments are pertinent to the table:

Sales or gross income have grown 220 percent in the 6-year period from $3.9 million to $12.5 million.

Net profit or margins have grown from $0.27 million to $3.8 million. During the same 6-year period, the total net earnings were $14.3 million on which taxes were paid of $813,000 or 5.7 percent.

Basic annual production of ammonia increased 282 percent from 25,532 tons to 97,292 tons.

The total assets of the company have increased 107 percent from $8.5 million to $17.6 million, while, according to the company's 1956 report, the indebtedness has been reduced from $3,500,000 to $2,300,000 * * *" and with no substantial change in debts indicated for 1957.

In these critical times, when all possibilities are being studied for increasing the Federal revenue, the earnings figures shown in the foregoing table point to a definite need for legislation to correct this tax loophole.

Since 1952, the year farm cooperatives entered into basic chemical production, what was at first only a single inroad into the field has rapidly become a boulevard. What began as 1 plant has now become 3 plants on stream, 2 plants under construction, and several others in a serious talking stage or actually being designed.