alternative to a return to the 4% rate would be to set the rate at 2% below

the normal rate of interest in effect when the annual installment is due. The 2% difference would be the same as the difference which existed when the normal interest rate was changed last year. A drawback to this alternative is that the estate cannot plan on fixed payments. In general, fixed payments are preferable to fluctuating payments.

ABA Alternative

An increase in the $60,000 exemption should not be considered in a vacuum, but rather as a part of the issue whether estate and gift tax revenues should be increased, decreased or held at approximately the same level. The ABA assumes that the current level of estate and gift tax is not going to be significantly decreased. Based upon this assumption, it believes that (1) the $30,000 gift tax exemption should be retained, (2) the estate tax exemption should be increased to $70,000 plus that part of the gift tax exemption which is not used during life and (3) the exemption should be changed from a deduction, which may be claimed against a decedent's highest estate tax rates, to a credit against the tax at the lowest estate tax rates. This change will minimize the revenue loss from the estate tax exemption increase.

The ABA supports relief for farms and closely held businesses. It believes that the objectives referred to above in our evaluation of other proposals are best accomplished by using the existing Section 6166 framework and creating a tax incentive through a partial forgiveness of tax plus interest which increases as the period of time from the decedent's death increases. In order to assure that relief is given only in deserving cases three additional requirements to

the ones that now exist to qualify for the ten year installment payment provisions would be imposed, namely, that the farm or closely held business be at least 65% of the decedent's adjusted gross estate, that it be owned by the decedent for at least two years prior to his death and that the heirs continue in the business as "operators" rather than as "investors". A clear dividing line between an operator and as investor is not easily drawn, but we believe it may be accomplished with reasonable precision and be based to a considerable degree upon continued active participation in the business and in the case of a farm upon the heir having a permanent residence there with farming as a principal occupation. If these requirements are met, the interest rate on the estate tax installment payments would also be reduced to 4%.

The forgiveness the ABA recommends would be 10% of the first installment and would increase by 5% for each succeeding installment until it is 55% for the tenth installment. The total percentage forgiveness for the full ten year period would be 32-1/2% of the deferred tax plus interest. Most of this forfiveness would come in the fifth through tenth years. If the value of the farm or closely held business exceeds $400,000, the forgiveness percentages would be reduced and be the percentages previously mentioned (10%, 15%, etc.) times $400,000 over the total value of the farm or closely held business. An acceleration of payment of the deferred estate tax under Section 6166 (h) would cause a loss of any forgiveness as to the accelerated amount but would not affect forgiveness for installments already paid.

The ABA recommends other changes which will increase the usefulness of the installment payment provisions. These changes would include eliminating (1) the personal liability of a fiduciary for estate tax deferred under Section

6166 and (2) a technical problem that exists under current law to the use of this section when the qualifying asset is held in a trust on the decedent's

death.

The ABA believes changes should be made in Section 303. This section provides that a distribution of property to a shareholder in redemption of stock is entitled to capital gains treatment (as contrasted to dividend treatment) to the extent that the amount of the distribution does not exceed all death taxes imposed as a result of the decedent's death and all funeral and administration expenses of his estate. The percentage requirements of this section are the same as Section 6166 but the time provision is only three years. The time period should be extended to the Section 6166 time period. On the other hand, Section 303 should be restricted so that it may be used only to the extent the redeeming shareholder is liable for the payment of death taxes or funeral or administration expenses.

THE AMERICAN BANKERS ASSOCIATION

COMMENTARY ON PROPOSED TAX REFORM

AFFECTING ESTATES AND TRUSTS

BASIS

Current Law

Under current law property included in a decedent's gross estate is given an income tax basis equal to its estate tax value. This rule is criticized on the grounds that all net unrealized appreciation occurring prior to the date of death permanently escapes income tax, thus favoring the individual who builds an estate through unrealized appreciation rather than through realized appreciation, currently taxable as income; and that this escape distorts investment choices by "locking" older people into their investments that have substantial unrealized appreciation.

Proposals for Change

The two proposals for change so far suggested are:

First, to treat death (and perhaps transfers by gift) as a taxable event and to allow a deduction in computing the estate tax for the income tax on the gains realized by death (the capital gains tax proposal) and,

Second, to carry over the decedent's basis for each asset included in his gross estate to the recipient of the asset and then to increase this basis by that part of the estate tax attributable to the unrealized appreciation in the asset at death (the carryover basis proposal).

The carryover basis proposal is patterned after the current basis rule of Section 1015(d) for transfers by gift, except that under this section the basis

is increased by the entire gift tax paid including that on the donor's cost. It seems reasonable to assume that enactment of the carryover basis proposal would be accompanied by a change in Section 1015(d) to limit the increase in basis to the gift tax attributable to the unrealized appreciation in the asset as contrasted to the gift tax on the entire value of the gift property.

ABA Comments

The ABA believes that a change in the basis rule should not be considered in isolation, but rather in conjunction with the issue of transfer tax rates. Estate tax rates are now high and reach a rate of 30% on a taxable estate of $100,000 and a top rate of 77%. State death taxes must also be considered. In many states, state death taxes exceed the credit that is allowed under the Federal estate tax law, with the result that state death taxes are a part of the "cost of dying." For example, in New York the highest estate tax rate is 5% above the maximum rate of the state death tax credit. Thus, when Federal and New York estate taxes are combined, the top rate of tax is 82%. The "cost of dying" is high enough and should not be increased indirectly by a change in the basis rule.

If any change in the basis rule is to be made, estate tax rates should be significantly reduced. Any such change should also be accompanied by (1) liberalized rules regarding proof of basis and (ii) a new basis for each asset owned on the effective date of the change equal to its value on that date for the purpose of computing the tax under the "new" law. This position is consistent with that taken in the Treasury Studies, which recommended the capital gains tax proposal. We recognize that use of a new start-up date means that the estate tax reduction would have to be phased-in over a period of time.