novelist will lease (or license) the limited right of publication; a playwright will lease the limited right of performance in this country and Canada. If the work is successful, additional rights will be leased; the novelist may license publication of book club and paperback editions; the playwright will lease the right of amateur performance of his property. All of these additional licenses are usually made at the time of the initial success when the demand is great. Occasionally an author will be able to lease or sell one of the most valuable property rights he possesses, the right to make a motion-picture version, in this same period because the interest in that right is stimulated by the current success of the property. Although there are several means by which an author may put his literary property to work, the conditions of the market compel him to exploit most of them within one or 2 successive tax years; except in the unusual case the author cannot defer the leasing or sale of rights until later tax periods.

(c) Present income tax procedures are a serious obstacle to literary and artistic

careers

Because profits are received in one or 2 successive tax years, present income tax rates make it impossible to support an author over the long pull of his career, or to provide a reserve for retirement. An unfortunate consequence is that many writers of talent are prevented from devoting their time and ability to creative writing. They can only afford to write as salaried employees; or turn to unrelated work to support themselves. Because creative writing requires sustained, concentrated effort, these people cannot afford to make valuable contributions to our culture. And paradoxically, as salaried writers they will over a lifetime earn more income and pay less income tax than they would have done as independent authors under our present tax structure.

(d) Need for statutory revision

These problems merit the most serious consideration. It is a matter of public interest that creative talent be encouraged and not deterred from pursuing careers in literature and the arts. This is not to say that unless there is tax reform all writing will cease, but we do say that unless the author is given equitable treatment many persons capable of creating valuable work will not do so because they cannot afford to.

Secondly, these problems deserve consideration because they involve inequitable treatment of a group of taxpayers caused by the peculiar conditions under which their property is created and exploited, difficulties and inequities of a kind which Congress has seen fit, in the past, to remedy in other areas. Income from other rapidly depleting assets is given special consideration; taxpayers are permitted to cushion the effect of operating losses, in other enterprises, by carryback or carryover provisions.

The code does not contain any provisions which solve the author's problems. It deals specifically with taxation of income from literary property in two instances: Section 1302, which was intended to assist authors, and sections 1221 and 1231, which discriminate against them.

(e) Section 1302

Section 1302 was designed to permit-in limited circumstances-allocation of profit from a literary work over the period of its creation. It was not intended to solve the problem of permitting the author to accumulate the resources for professional survival, to live under the unique conditions which characterize his career. Even in terms of its narrow purpose, the section has not afforded adequate relief for these reasons:

(i) The author is only permitted to allocate profits received in a single tax year if his receipts are no less than 80 percent of all profit derived from the work (a) during that year; (b) in all preceding years; and (c) in the year following.

This requirement is impossible to satisfy in most instances. Although the profits from a successful book or play are concentrated over a period of a few months, that period frequently overlaps 2 taxable years. Plays are ordinarily produced in the fall, and if successful would run into the succeeding year. Similar patterns are prevalent in book publishing. The sale of movie rights frequently fall in the succeeding tax year.

Consequently, although 50, 60, or 75 percent of all income from a literary property may be received in the first year of its publication or performance--a concentration which under prevalent tax rates is disastrous-relief is denied

because of the 80 percent requirement and the taking into account of income received in the subsequent 12 months.

(ii) If an author meets the 80 percent requirement he is only permitted to allocate the profits from the work over a maximum of 36 months, although the actual writing may have entailed many months more. The inequity of this limitation is emphasized by the more favorable treatment given to other taxpayers in similar circumstances. An inventor is entitled to allocate his profits up to a maximum of 60 months; and lawyers and others qualifying under section 1301 may allocate their income over the entire period in which the services were rendered, without limitation of time.

(f) Sections 1221 and 1231

When owned by its author, a novel (and the copyright on it and the rights secured thereby) cannot be treated as a "capital asset" (sec. 1221) or "property used in trade or business" (sec. 1231). The same property can be transformed into one of these classifications of "capital assets" the moment it is acquired by a purchaser, although he makes the same use of the property as the author did. He can depreciate the property, and the proceeds of its sale (if held for 6months) may be treated as a capital gain.

This anomalous condition is recognized in the language of the two sections. Copyrights and literary property are not disqualified as such from capital gains treatment; they are only disqualified so long as they are held by the author. There is no justification in logic or policy for this discrimination. The owner of buildings held for rental purposes is not denied capital gains treatment because he was the individual who constructed them. A corporation is not denied capital gains treatment upon the sale of machinery used in its business because it constructed that machinery itself rather than purchased it from someone else.

Obviously, the only basis of distinction should be the manner in which the property is used by its owner. The same property may be an item held for sale in the ordinary course of business by one owner; it may be a capital asset or property used in the course of a business in the hands of another owner. The profits on the sales of buildings are taxable at ordinary rates if the owner's business is building and selling; they are taxable at capital gains rates if the owner was in the business of renting.

Authors are entitled to like treatment. If one author derives his profit by a continual process of selling his copyrights or rights therein, then his gains should be taxed as ordinary income. But where a novelist, for example, follows the usual practice of his profession and retains ownership of copyright on all of the works he has ever written and derives his income by leasing (licensing) rights therein for limited periods of time, he should be entitled, as is the owner of any other type of rental property, to treat the gain from an isolated sale of one of his copyrights, or of a right or rights secured thereby, as a capital gain.

The same considerations of public policy which prompted Congress to extend the privilege of capital gains treatment to inventors exist here. Moreover, the risks of failure faced by an author, and the sacrifices he makes in the creation and development of a literary property, are as formidable as those faced by the purchaser of common stock or any other risk-taking investor, authors require at least as much incentive, and have, as we have indicated, as great a need for a opportunity to increase their capital. If extending the privilege of capital gains treatment to authors is considered a reward, we sincerely suggest that rewarding creative talent in this manner is not bad public policy. (g) Recommendations for statutory revisions

In the light of the foregoing discussion, we respectfully suggest for consideration (i) two revisions in the method of taxing ordinary income derived from the exploitation of literary property; (ii) a revision of section 1302; (iii) revisions in the capital gains sections; and (iv) the adoption of individual retirement provisions in the manner proposed by Representative Keogh in H. R. 10, 84th Congress, 1st session.

(i) An author (or one whose "basis is determined by reference to the author's") should be permitted as a deduction from annual gross income derived from lease or license of literary property, a reasonable allowance for depletion of that property amounting to 25 percent of such gross income.

Such a provision would take into account the fact that literary properties are usually rapidly depleting assets, created by arduous effort over long, unremunerative periods of time, and at a considerable risk.

The second method of meeting the problems, and recognizing these factors, would be to permit the author to compute his tax upon income derived from the lease, license, sale, or other use of literary property as follows:

All income derived from the taxpayer's literary properties in the taxable year shall be aggregated with similar income (if any) received in any one or more of the 4 preceding taxable years. Such aggregated income shall be divided into 5 equal installments which shall be allocated, respectively, to the current taxable year, and to each of the 4 preceding years. The tax attributable to such income in the current and preceding 4 years shall be computed as if received in each of these years on the allocated basis. The tax payable by the author in the current taxable year shall be the tax attribuable to such allocated income in that year, and the defference in each of the 4 preceding years between the tax attributed to such income on an allocated basis and the tax attributed to such income prior to allocation.

The privilege of reallocation in this manner would be available from year to year.

We respectfully submit that such a method of computation would not cause any significant loss of tax revenues, nor would it impose any administrative difficulties. The practice of averaging and reallocating income is well established; it is applied not only under section 1302 but under other sections (e. g. secs. 172, 1301) in areas where the amounts of income and of income tax greatly exceed those which would be involved here.

(ii) As an alternative, and one which in all candor we believe would not meet the problems as adequately, we recommend that section 1302 be amended to (a) permit allocation of gross income from literary property in any taxable year in which gross income is not less than 40 percent of the gross income derived from such property in the current year and in previous taxable years; (b) permit the taxpayer to allocate such income over the period in which the work was created (or, at the very least, subject to the same maximum time limitation applicable to patents-60 months).

(iii) We recommend that the provisions of sections 1221 and 1231 of the Internal Revenue Code, absolutely excluding copyrights or literary property from capital-gains treatment, be eliminated, and that the taxpayer whose personal efforts created a copyright on literary or musical or artistic compositions or similar property, be permitted to treat the sale of the copyright, or any separable right therein as the sale of a capital asset (or an asset used in trade or business) so long as such transaction is not the usual and ordinary means by which the taxpayer exploits his copyrights, literary property, or the rights therein.

(iv) At present, it is impossible for authors as well as other self-employed persons in many fields of endeavor to make adequate provision for retirement in the absence of benefits and safeguards which are extended to salaried employees under the Internal Revenue Code.

It seems clear that the only opportunity which authors and other self-employed individuals will have to establish reserves for retirement is by the enactment of an individual retirement act to permit them to establish voluntary pension plans. The league believes that an enactment of the type proposed by Representative Keogh in H. R. 10, 84th Congress, 1st session, would adequately meet this problem.

(2) DENIAL OF SOCIAL SECURITY BENEFITS TO RETIRED AUTHORS ON THE MISTAKEN THEORY THAT ROYALTIES FROM PAST WORKS MUST BE TREATED AS INCOME FROM CURRENT EMPLOYMENT

The Social Security Administration has ruled that if an author continues to write between 65 and 72 (or 60 and 72 if a woman), he or she will lose his social security benefits even though what is written produces no income, should the author at the same time receive royalties (exceeding $1,200 annually) on literary property created and licensed for use before retirement. Benefits would also be suspended if the total royalties from earlier and current works exceed $1,200. This is another example of arbitrary and important equating of rental income produced by literary property with wages of compensation received for services rendered.

This is due to a misinterpretation by the Social Security Administration of section 203 of the Social Security Act (42 U. S. C. 403), which requires that social security benefits be reduced or denied entirely to eligible authors if they

continue to work or engage in self-employment and thereby earn more than $1,200 annually.

Congress did not intend that benefits would be suspended if a person received income from his property (whether it be stocks, bonds, or copyrights), or even from services performed in the past, so long as he did not earn $1,200 annually from current work or employment. For this section provides that an eligible individual is entitled to benefits whenever he is not working; receipt of dividends, interest or royalties on literary property, no matter how substantial, would not deprive an author of social-security benefits if he did not write. And benefits are not denied to a person who works, so long as he does not earn more than $1,200 annually.

The Social Security Administration has taken two unrelated factors (i) the receipt of royalties for the use of literary property written before age 65, and (ii) the current writing of a new book or play and combined them to achieve disqualification. As a result, an author could continue to write so long as such writing produced less than $1,200 annually, even though he received substantial amounts of income from various types of property-real estate, securities, mortgages. But if he received royalties from literary property, produced in the past, he would have to stop his current writing or lose his social-security benefits. Much valuable writing is done by authors who have reached 65.

(2) DISCRIMINATORY TAX TREATMENT OF INCOME RECEIVED BY AUTHORS' HEIRS FROM INHERITED LITERARY PROPERTY

Discrimination in the tax treatment of an author's literary property haunts him not only during his career but even after his death.

At death, the literary property he created passes to his heirs and estate, and may subsequently produce profit in the form of royalties on copies of a book sold (or performances of a play presented) after his demise. The Internal Revenue Service has taken the position that such payments for posthumous uses are "income in respect of a decedent" under section 691 of the code.

As a result, an author's heirs are denied the right, which legatees of similar rental property have (under sec. 1014 of the code), of taking the fair market value of the inherited property at the time of death and recovering its value by deducting an allowance for depreciation from the income it produces, beforecomputation of taxes. But the fair market value of the inherited literary property is included in the estate for the purpose of assessing estate tax.

The purpose of section 691 is to insure that income (wages, fees, commissions) earned by a person during his lifetime does not escape income taxation because he died before it was paid-to prevent such accrued income from being considered as part of the estate.

But royalties paid to an author's heirs on copies of a book sold after his death are not income which the author had earned or was entitled to receive before his death-though paid under a publishing contract in effect at his death. In a publishing contract (or other license agreement), the author, as the owner of literary property, grants to the publisher the right to make a limited use of the property-the right of publication-in a limited area, e. g., the United States. The license fixes the rental (or royalty) to be paid for such use as the publisher may make during its term. The license agreement is not a contract of employment; royalties are not payment for services rendered, and the author does not sell anything to the publisher; he retains title to the copyright.

The contract simply fixes the rate of royalties to be paid if and as the publisher uses the right of publication; it does not impose any obligation on the publisher to pay specified amounts or at any specified time, nor does it vest in the author any right to receive specified amounts of royalties. Nothing accrues to him at the time the contract is signed. Only as and when copies of a book are sold (or performances of a play are staged) do royalties become payable as to those particular copies or performances. If copies of a book are not sold, the author has no claim for royalties nor any rights against the publisher, except to terminate the lease.

Consequently, at the time of an author's death, the only income which could have accrued to him under a publishing contract would be unpaid royalties due on copies sold before his death. As to copies sold after death, royalties are paid to the heir, as owner of the property right used by the publisher (the right of publication) for its use.

Although these are fundamental principles of contract law, applicable to contracts and licenses of literary property, the Service has taken a diamentrically opposed position, and is equating rental paid for the use of literary property with wages or compensation earned by an individual before his death.

An author's heirs are thus denied rights given to persons inheriting other income producing property even when subject to leases. The owner of an apartment building may, during his lifetime, have rented all of the apartments on leases effective for a long time beyond the date of his death. Nonetheless, when his heirs inherit the building and receive rent, they are not required to treat it as income earned by the deceased owner, although the rent for the entire term (before and after the owner's demise) was established as an obligation by the lease at the moment it was signed during the owner's lifetime. Posthumous rent is considered as income produced by the inherited building. And even though the owner may have fully depreciated the building before his death, his heirs are entitled to establish a new cost basis for it, at fair market value, and to deduct from subsequent rents an allowance for depreciation, thus obtaining a significant tax saving.

In effect, heirs are entitled to establish a cost basis for inherited property, much as a purchaser is permitted to do for purchased property, except that it is established at fair market value rather than at purchase price. This underlines the incongruous treatment given to literary property, for when it is sold to a stranger he is entitled to take his purchase price as the cost basis of the property (copyrights and the works they protect)-even though the income which the literary property produces for him thereafter may be payable under long-term license agreements which the author had previously executed.

Again, the failure to make a distinction between income produced from the leasing or licensing of literary property, and compensation for services or wages, operates to the detriment of authors, in a manner which is both illogical and unfair.

We believe that the inequities and hardships which we have described are sufficient, as such to merit the committee's consideration. There is ample precedent for relieving unintended hardships which result from the impact of broadly drawn statutes upon the unique economic conditions of a particular group of taxpayers. The case for relief is even stronger here because authors are actually discriminated against-they are denied privileges which are extended to other taxpayers holding similar property for the same purposes.

Moreover, the consequences of the provisions and interpretations, which we have discussed, transcended the welfare of author-taxpayers, and have a considerable effect on important national values and purposes. Obviously tax statutes can stimulate and encourage or deter and inhibit-activities which are of public concern. Frequently, statutory changes are enacted for precisely that

purpose.

We believe that in the case of authors, these statutory provisions (and administrative decisions) are definite obstacles for persons who would otherwise write professionally; and conversely that there has been a deplorable lack of effort to encourage writing.

We have no doubt that with or without tax reforms many authors will continue to write. But we also have no doubt that the obstacles inherent in these statuory provisions will deter many people of talent from continuing to write independently, and will continue to penalize those who do. This is particularly unfortunate, since most creative writing is done by individuals whose income is derived from their copyrights, who do not work for hire. Many authors could write independently, since royalty income can be adequate for self-support, were it not for these existing tax provisions.

STATEMENT OF DAN LACY, MANAGING DIRECTOR, AMERICAN BOOK PUBLISHERS COUNCIL ON TAXATION OF INCOME FROM COPYRIGHTS

My name is Dan Lacy. I am appearing on behalf of the American Book Publishers Council, 24 West 40th Street, New York City, of which organization I am the managing director. The council is the trade and professional association of general book publishers in the United States. Our membership of 147 publishing houses includes almost all of the general book publishing firms in this country, the larger university presses, book clubs, publishers of inexpensive paperbound books, and a number of publishing affiliates of religious denominations.

The council welcomes this opportunity to present its views on the policy questions relating to the taxation of income from copyrighted material. In a very real sense our statement is supporting and supplementary to the testimony being presented to the committee by the Authors League. It is the author who is directly affected by the methods of Federal taxation applied to income from copy