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Unofficial Transcript of W&M First Hearing on Tax Code and the Economy

SEP. 26, 2000

Unofficial Transcript of W&M First Hearing on Tax Code and the Economy

DATED SEP. 26, 2000
DOCUMENT ATTRIBUTES
  • Institutional Authors
    House of Representatives
    Ways and Means Committee
    Oversight Subcommittee
  • Code Sections
  • Subject Area/Tax Topics
  • Index Terms
    legislation, tax
    IRC
    research credit
  • Jurisdictions
  • Language
    English
  • Tax Analysts Document Number
    Doc 2000-25103 (92 original pages)
  • Tax Analysts Electronic Citation
    2000 TNT 191-64

 

=============== SUMMARY ===============

 

The unofficial transcript is available of a September 26 Ways and Means oversight panel hearing on the tax code and the "new" economy at which Treasury Department Tax Legislative Counsel Joseph Mikrut testified on tax rules governing depreciation.

According to Oversight Subcommittee Chair Amo Houghton, R-N.Y., the two days of hearings (the second on September 28) are focusing on the issues of cost recovery for physical capital, the tax treatment of intangible capital as it applies to research and development, and how the current tax laws treat investment in human capital.

Mikrut's testimony was based primarily on the results of Treasury's recent analysis of cost recovery provisions in its "Report to the Congress on Depreciation Recovery Periods and Methods," which offered no specific legislative recommendations on depreciation.

Rep. Jerry Weller, R-Ill., thanked Mikrut for presenting Treasury's findings, but said because the Treasury report was only recently released any potential depreciation legislation would have to be taken up by the 107th Congress.

 

=============== FULL TEXT ===============

 

COMMITTEE ON WAYS AND MEANS

 

SUBCOMMITTEE ON OVERSIGHT

 

 

**********

 

 

Hearing on the Tax Code

 

and New Economy

 

 

September 26, 2000

 

 

Longworth House Office Building

 

Room 1100

 

Washington, DC 20515

 

 

PARTICIPANTS:

 

 

The Honorable David Minge

 

Member of Congress, Minnesota

 

 

Joseph M. Mikrut, Tax Legislative Counsel

 

U.S. Department of Treasury

 

 

Michael E. Jalbert, Chair, President & CEO

 

Transcrypt International, Inc., on behalf of

 

American Electronics Association

 

 

Dorothy Coleman,V.P., Tax Policy

 

National Association of Manufacturers

 

 

Molly Feldman, V.P., Tax

 

Verizon Wireless, on behalf of

 

Wireless Depreciation Coalition

 

 

Clifford Jernigan, Director

 

Worldwide Government Affairs and Community

 

Relations, Advanced Micro Devices, on behalf of

 

Semiconductor Industry Association

 

 

Theodore Vogel, V.P., Tax Counsel

 

DTE Energy Company, on behalf of

 

Edison Electric Institute

 

 

Frederick H. von Unwerth, General Counsel

 

International Furniture Rental Association and

 

Attorney, Kilpatrick Stockton, LLP

 

 

PROCEEDINGS

 

 

Oversight Hearing -- September 26, 2000

 

 

[1:05 p.m.]

 

 

[1] CHAIR HOUGHTON: Ladies and gentlemen, the hearing will come to order.

[2] As most of you know, the American economy is on a roll, and its success has reached out to many sections of this country. Much of the strength is attributed to the so-called "new economy." Much of the new economy, of course, is built on information and technology and relies on a highly-skilled workforce.

[3] Of course, the nation's economy is made up of more than high-technology. There is still an important role for manufacturing and trade. But much of the growth in our economy is in the information and the high-tech sector.

[4] Many of our tax rules predate the new economy. For instance, the cost recovery rules for capital are based on analyses from the 1970s and earlier. Why not leave well enough alone, you might ask. The economy is strong, but the strength of the economy may be masking underlying inadequacies in our tax laws. We shouldn't wait for an economic downturn to take a look at the current laws and the current rules.

[5] The new economy uses high-tech equipment, so we need to look at the cost recovery rules for physical capital. It relies on research and development, so we also need to take a look at the tax treatment of intangible capital. Also, it is driven by a skilled workforce, so we need to look at how our tax laws treat investment in human capital.

[6] The Treasury Department is going to be reviewing its recent report to Congress on depreciation periods and methods this afternoon, and we will hear from a number of private sector witnesses on cost recovery. On Thursday, we will hear from witnesses on how our tax laws treat research and development; and of course, the maintaining of a skilled workforce.

[7] I am now pleased to recognize the senior Democrat on our committee, Mr. Coyne, for an opening statement.

[8] MR. COYNE: Thank you, Mr. Chairman. As the chairman pointed out, the Oversight Subcommittee has scheduled two days of hearings on the tax code and the new economy. It is clear that the nature of work has changed in many parts of the U.S. economy. As smokestack industries have been overtaken by information-based industries, education has become much more important to success in our workplaces.

[9] Unfortunately, much of our workforce is not experiencing the economic benefits of, or are participating in, the current economic boom. There is to a large degree a disconnect between the skills the business community needs in the workplaces of the future than the skills many hardworking Americans are trained to provide.

[10] The relationship between the tax laws and the ability of this country to maintain a skilled workforce is a timely issue for discussion. All one has to do is look at the classified employment section of the newspaper to see that the vast number of workers sought and the technical skills needed for their jobs.

[11] News reports indicate that currently there are about 300,000 high-tech job vacancies. Importantly, the number of high- skilled jobs is increasing at an annual rate of 10 percent, and it is unclear whether these positions can be filled.

[12] We must focus on what can be done, in the short and long term, to prepare future generations for our, quote "new economy." Education and job skills training are critical components of efforts to succeed. The tax laws are one important and successful took for encouraging business innovation and job training in today's new economic environment.

[13] I welcome all the witnesses that appear before us today, and particularly our colleague, Representative Minge.

[14] CHAIR HOUGHTON: Thanks very much, Mr. Coyne.

[15] Mr. Weller, would you like to make an opening statement?

[16] MR. WELLER: Yeah, thank you, Mr. Chairman. I would like to just make a few brief comments.

[17] I want to commend you for conducting these hearings. You know today there are over 100 million Americans that are on line. In fact, seven Americans go on line for the first time every second, 4.8 million Americans today are employed in the technology sector, and that's more than oil, steel, and auto industries combined. So there's a tremendous amount of opportunity.

[18] Of course, my home state of Illinois ranking fourth in technology employment, third in technology exports, have seen wages in the technology sector 59 percent higher than the traditional old economy. So we know there's a lot of opportunity for Illinoisans, as well as all Americans in the technology sector, to become part of the new economy.

[19] I think it's important to note that the tax code does have an impact on the new economy, and that's why today's hearing is so important. I'm proud the House has led the way, of course, to lower the tax burden on technology, working to repeal the telecommunications tax on telephone service, extend for five years the Internet tax moratorium, and also to move forward legislation to block the FCC from imposing new Internet access fees.

[20] Today's hearing, of course, is on depreciation treatment of technology. I think this is an important subject today, and one I look forward to engaging with your witnesses in, Mr. Chairman.

[21] I'd like to note that I've introduced legislation, along with Tom Davis, Billy Tauzin, and Jennifer Dunn. Legislation that addresses the depreciation treatment of computers.

[22] You know, today our tax code says that you have to keep an office computer on the books for five years, but the business community, you know, which uses computers -- whether it's a real estate office or a local insurance office, as well as major corporations -- they replace them about every 14 months. Of course, it just doesn't make sense to carry it on the books for five years if you're only going to use it in the office for barely a year.

[23] Our legislation recognizes that and works to bring reality, we believe, to the tax treatment for depreciation for those office computers, because we would allow you to expense or fully deduct in the year that you purchase it, the cost of that computer. We believe that's common sense.

[24] Mr. Chairman, I'd like to work with you, as well as the administration, Treasury and others, to move forward on depreciation reform for the treatment of computers and other areas of technology. So, I look forward to this hearing and I thank you for the opportunity to be a part of it.

[25] CHAIR HOUGHTON: Thanks very much.

[26] Now we have many distinguished witnesses, but none more so than the Honorable David Minge, Member of Congress from Minnesota.

[27] Mr. Minge.

[28] MR. MINGE: Well, thank you very much, Mr. Chairman.

[29] I would like to testify for a couple of minutes about the Distorting Subsidies Limitation Act. This is H.R.1060. It's a bill that I've introduced earlier in this session.

[30] I talked to you and a number of our colleagues about one of the problems that we face in our economy in trying to ensure that we allocate resources in the most logical fashion possible, is the distortions that occur when the tax code allows, and states and local units of government take advantage of one another.

[31] I have a prepared statement that I have filed with the committee and I would like to ask that be allowed in the record, and I will make some brief oral comments about this.

[32] CHAIR HOUGHTON: Absolutely, without objection.

[33] MR. MINGE: The problem that I've identified -- and I've worked with several economists on -- is the efforts that states and local units of government make to attract business from their neighbors. We're all familiar with the practice.

[34] I worked in economic development in a small rural community in which I practiced law before I ran for Congress, and I knew that there was a regular issue, how does Minnesota prevent South Dakota from, so to speak, stealing some of its best employers? On the other hand, Minnesota is looking at Connecticut or California and asking, how can we lure those businesses to Minnesota? What incentives do we have to give?

[35] Now, the best type of competition between the states is to have quality education systems, to have infrastructure that meets the needs of the business community, to have tax policies which stimulate investment. We don't need to be taking billions of dollars of taxpayer money and providing direct incentives in the form of buildings or sometimes even cash transfers in order to induce a business to move from one community to another. But in fact we are.

[36] It's been estimated by Professor Kenneth Thomas, at the University of Missouri, that more than $15 billion, annually, of tax money is being spent by state and local government to induce businesses to move from one location to another. This is a vast sum. It would educate three million elementary school students for a year. It would hire 300,000 law enforcement officers, or construct 6,000 miles of four-lane highway.

[37] We can't afford, as a country, to watch this amount of money being spent unnecessarily, and in a way that doesn't make sense with solid, economic policy. This is a situation that cries out for a response; and indeed, we've been requested by approximately a dozen state legislators, many economic planners, governors and others to take action. Because what the states have found is that they can't unilaterally disarm.

[38] One state, let's say New York, can't say: "We're not going to offer any subsidies to try to prevent businesses from leaving New York. We will simply have the best environment possible for businesses in our state." But then New Jersey comes along and it says, "Wouldn't you like to move the New York Stock Exchange over to Hoboken?" Or, "Wouldn't you like to have your corporate headquarters over in Jersey City, or some other location?" Or, Kvaerner, which is in Pennsylvania and the shipyards in Philadelphia are to be reconstructed -- and I believe there's a $400 million package that was offered to Kvaerner.

[39] If New York tries to disarm and not use that, but New Jersey does not, then the businesses would exploit this difference.

[40] So, what's been pointed out is that it takes congressional action, if we're going to deal with this situation; and this in a sense, is an unfinished item of business from the establishment of our federal union. It was not adequately dealt with, initially, by Congress, and it's lingered and it's festered.

[41] In my own home state, we've been treated to the spectacle of professional sports teams imploring the state legislature and the governor for untold millions of dollars for new stadiums. Otherwise the sports team says, "We have no other alternative, but to go to another state which will offer us a stadium that they've paid for."

[42] Well, this is just one aspect of a problem that I think is severe, and with a $15 billion a year price tag, it's very costly to state and local government.

[43] The legislation that I've introduced would address this by first having an excise tax on the benefits so that there would be a negative incentive for businesses to seek this type of assistance. It would also preclude the use of federal grant money for that type of subsidy, and finally, it would make sure that the industrial revenue bonds or enterprise bonds cannot be issued and have their interest treated as tax free under the Internal Revenue Code, if the proceeds are to be used in this manner.

[44] I must say that I've worked very closely with several economists on this, the Federal Reserve Bank of Minneapolis has made this a top priority, in terms of economic research and policy development at that bank, and the chief economist at the bank has assisted in the preparation of this legislation.

[45] One final comment in this respect. I've held roundtable discussions with folks on this proposal and a comment that came from a business person was, "The biggest problem with your bill is that the excise tax is not high enough. It ought to be a hundred percent." Instead, the tax rate that was chosen is the corporate tax rate under the Internal Revenue Code.

[46] Well, I'd like to thank you very much for the opportunity to testify about this problem. I think it's certainly one that our states face as they compete with one another for high-tech industries, for this new age economy. Hopefully it's something that we can address as we attempt to address other problems that face our country and face our economy.

[47] Thank you very much.

[48] CHAIR HOUGHTON: Well, thanks very much.

[49] Have you got any questions?

[50] [No verbal response.]

[51] CHAIR HOUGHTON: I don't have any question.

[52] Okay, good. Thank you so much and we expect to receive your written testimony. Thanks very much.

[53] Now our next witness is Mr. Joseph Mikrut, who's the tax legislative counsel for the United States Department of Treasury.

[54] Mr. Mikrut, it's good to have you here. Whenever you're ready you can begin your testimony.

[55] MR. MIKRUT: Thank you.

[56] Mr. Chairman, Mr. Coyne, distinguished members of the subcommittee, I appreciate the opportunity today to discuss with you the tax rules as they relate to investment in human, intangible and physical capital in the context of the new economy.

[57] Over the last 20 years, the U.S. economy has changed significantly. New industries have emerged and the use of technology has revolutionized production techniques and improved the efficiency in more traditional industries. These developments have increased the demand for more highly skilled workers, who are more productive and better able to adapt to the requirements of new technologies.

[58] In addition, access to computes and the Internet has increased significantly, creating opportunities to participate in the new digital economy. In view of these changes, this hearing appropriately focuses on whether federal tax laws are keeping pace with the new economy.

[59] The Treasury Department has previously submitted testimony on the importance of the administration's budget initiatives supporting the research credit, providing education incentives, bridging the digital divide and making life-saving vaccines available worldwide.

[60] I will not repeat these discussions this afternoon. Rather, my comments will focus on the results of the Treasury Department's recent analysis of a cost recovery provisions.

[61] This last July, the Treasury Department issued its report to the Congress on depreciation recovery periods and methods. In developing its study, the Treasury Department solicited and received comments from numerous interested parties and consulted with the tax- writing committee's staff.

[62] The report emphasizes that an analysis of the current U.S. depreciation system involves several issues, including those related to proper income measurement, savings and investment incentives, and the administrability of the tax system.

[63] The history of the U.S. tax depreciation system has shown that provisions intended to achieve certain of these goals, for example, attempting to measure income accurately by using a facts and circumstances approach, may clash with other worthwhile goals. For example, trying to have a very administrable, easy-to-apply system.

[64] Accordingly, the report identifies issues related to the design of a workable and relatively efficient depreciation system and reviews options for possible improvements to current system with those competing goals in mind.

[65] Resolution of the issue of how well the current recovery periods and methods reflect the useful lives and economic depreciation rates would involve detailed, empirical studies and years of analysis. The data required for this analysis will be costly and difficult to obtain.

[66] Thus, the report does not contain any legislative recommendations concerning specific recovery periods or methods for any particular piece of property. Rather, the report is intended to serve as a starting point for public discussion of possible general improvements to the U.S. cost recovery system.

[67] We look forward to working with the tax-writing committees in this endeavor.

[68] Based on available estimates of economic depreciation, tax depreciation allowances are more generous at current inflation rates, on the average, than those implied by economic depreciation. This conclusion, however, is based on estimates of economic depreciation that may be somewhat dated.

[69] The relationship between tax and economic depreciation changes with the rate of inflation, and because current law depreciation allowances are not indexed for inflation. The current low rates of inflation reflect the fact that economic depreciation may be slower than tax depreciation.

[70] In general, current law generally generates relatively low tax cost from investments in equipment, public utility property and intangibles, and relatively high tax costs for investment in nonresidential buildings. These differences in tax costs standing alone may distort investment decisions, encouraging investors to under invest in projects with relatively high tax costs.

[71] The report also finds that the current depreciation system is dated. The asset class lives that serve as the primary basis for the assignment of recovery periods have remained largely unchanged since 1981, and are mostly based on studies that date back to the 1960s.

[72] Entirely new industries have developed in the interim and manufacturing processes in traditional industries have changed. These developments are not reflected in the current cost recovery system, which does not provide for updating depreciation rules to reflect new assets, new activities, and new production technologies.

[73] As a consequence, income may be mis-measured for these assets, relative to the measurement of income generated by properly classified assets. However, this does not mean that depreciation allowances for new assets or new industries are necessarily more mis- measured than other assets.

[74] The replacement of the existing tax depreciation structure with a system more closely related to economic depreciation is sometimes advocated as an ideal form. However, there are several issues that come about with this reform.

[75] One is trying to find the appropriate data in order to reflect proper economic depreciation. A second reform would involve indexing for inflation. Current law does not, as I mentioned earlier, index for inflation. An ideal income tax system would. Indexing, however, raises several concerns, including the revenue cost, complexity and possible undesirable tax-motivated transactions.

[76] In summary, Mr. Chairman, the Treasury Department's recent depreciation report raises several issues that need to be addressed in modifying the present cost recovery system and provide several possible options for modification in the system.

[77] We intend that the report would serve as a starting point for public discussion of the improvements to the cost recovery system. We applaud the efforts of Chairman Archer in commissioning the study, and you, Mr. Chairman, in holding this hearing to further this discussion.

[78] We look forward to working with you and the rest of the tax-writing committee on this matter.

[79] I'd like to submit my entire statement for the record, and I'd be happy to answer any questions you may have.

[80] CHAIR HOUGHTON: Okay, thanks very much.

[81] You know, you say this is a good starting point. What's a good ending point?

[82] MR. MIKRUT: Well, I think it depends, Mr. Houghton, on where you want to go. We have identified in the studies several current law anomalies that could be addressed, immediately.

[83] For instance, the current system of MACRS has several, what are called "cliffs and plateaus," where dissimilar assets are grouped together and get the same depreciation treatment. Whereas, very similar assets are groups separately and get very different treatment. I mean, that is one thing that automatically could be addressed.

[84] I think there are several other smaller issues. There are certain things where some simplification could be provided by using general asset accounts. I think this is an approach that's been advocated by the AICPA.

[85] But most of the complaints that you hear about the current depreciation system relate to any particular asset. Following the 1986 Act, the Treasury had the authority to examine and modify the class lives for economic depreciation or more appropriate depreciation rates. This authority was taken back in the 1988 Act.

[86] So Treasury now, although it can study depreciation lives, cannot change the lives. So, it's up to the Congress to change the lives.

[87] I think in order to clearly reflect what's happening in the new economy, one would have to look at all the depreciation lives, not just those related to the new economy. Because technologies are applied in old industries. There are more than a hundred class lives.

[88] So, the task of doing a top-to-bottom re-analysis of the depreciation system is fairly monumental and would take several years, and very costly data gathering. So I think it really is up to the Congress, up to the tax-writing committees to try to determine exactly what do they want to do. Do they want to have a long-term study that could resolve some of the controversies throughout the system, or would they prefer to focus on the things that come up immediately with respect to certain assets.

[89] CHAIR HOUGHTON: Well, long term is in the eye of the beholder in this particular age.

[90] One other question, now, and I'll turn it over to Mr. Coyne. In terms of asset evaluation -- that there are obviously differing depreciation schedules in different countries. With the internationalization of our businesses, both in tangible and intangible assets, do you see us coming together on some sort of a worldwide pattern?

[91] MR. MIKRUT: The question you ask is one that's asked frequently, Mr. Houghton, and although it is beyond the scope of the study, we have looked at where the United States tax depreciation system ranks with most of our major trading partners.

[92] I think what we found is with respect to equipment. We provide investments for -- incentives for savings and investment that are at least equal to and perhaps greater than many of our trading partners.

[93] Now it's often difficult to try to isolate one parameter of a tax system depreciation and say, well, this gives one nation a competitive advantage over another. I think you have to look at the entire system as a whole, and that complicates matters.

[94] But I think on a very broad brush analysis what we found is that the depreciation methods and lives that we use, and how we respond to changes in the technology are comparable to many of our trading partners.

[95] CHAIR HOUGHTON: Thank you.

[96] Mr. Coyne.

[97] MR. COYNE: Thank you, Mr. Chairman.

[98] Mr. Mikrut, the research and development tax credit is currently on the books for a five-year period. What would the administration's position be relative to advocates for making that a permanent tax credit?

[99] MR. MIKRUT: The administration, as you know, Mr. Coyne, has supported a long-term extension of the credit, and has also advocated -- has also supported a permanent extension of the credit.

[100] We understand that the importance of technology to a nation to be able to compete in a global economy depends in part upon the research credit, which fosters you know further new technology. Any further modification or extension of the credit, I think, should be taken in the context of any other tax legislation that comes before the Congress.

[101] MR. COYNE: I wonder if you could try to explain what your view of the disconnect between the ability to fill existing jobs in the economy and the lack of training for personnel who might want to fill those positions?

[102] MR. MIKRUT: Okay. I think, again, Mr. Coyne -- I think this depends on specific pockets of the economy. Clearly some portions of the economy are growing faster than the other.

[103] The IT area is growing much faster than other segments of the economy. Therefore, the demand for a skilled workforce there is more critical than in others. Eventually, of course, training and other investments have to catch up with those demands.

[104] The administration has proposed, in its digital divide proposal in the budget, to provide employers a 20 percent tax credit to the extent that it provides basic computer skills and other literacy requirements. We think that those provisions are important. It supplements the current beneficial treatment that training gets in the current law, that training expense is generally deducted, rather than capitalized, as a furtherance of these present law benefits.

[105] MR. COYNE: Thank you.

[106] CHAIR HOUGHTON: Mr. Weller?

[107] MR. WELLER: Thank you, Mr. Chairman. Mr. Mikrut, I appreciate the time you're taking before our subcommittee today.

[108] In your testimony, you note that you do not submit any specific recommendations, particularly when it comes to depreciation treatment in technology. But, if I recall correctly, I voted in the Tax and Trade Relief Extension Act of 1998 over two years ago, legislation which directed the Department of Treasury to come forward with a study and recommendations.

[109] Can you tell me why two years is not long enough to do the necessary study to present some recommendations to the Congress?

[110] MR. MIKRUT: Certainly, Mr. Weller. There are over a hundred different assets subject to different depreciation regimes. Our study -- we had an 18-month study. The development of those class lives for the hundred assets takes years of analysis.

[111] We did not necessarily want to be in a position of picking and choosing winners and losers saying, "We will study the proper class life for this asset and not the proper study for this asset."

[112] MR. WELLER: You know, I was frankly a little disappointed, number one, that it took as long as it did. Because we were expecting it this Spring so we could look at your recommendations and begin this process.

[113] Of course, we received this report during the August recess. So, it makes it difficult for Congress to move forward during this session of Congress. Essentially, we're forced to look at it in the coming Congress, the 107th Congress.

[114] I want to focus on one specific area, the depreciation treatment of technology. First, do you believe that the tax code and the depreciation treatment of assets, particularly as it comes to technology, do you believe that the current depreciation treatment of technology has the potential to stymie innovation and stymie the acquisition of leading edge technology to use in the workplace? Do you think the tax code has an impact on that?

[115] MR. MIKRUT: Certainly, Mr. Weller, as I mentioned in my opening statement. To the extent that tax depreciation is slower than economic depreciation, credits a disincentive to invest in those technologies.

[116] The current tax system, because the lives and methods are frozen based on industries essentially that were in existence in the '60s and '70s, may not reflect new industries that have sprung up. In addition, the class lives for certain high-tech equipment -- computers, semi-conductor manufacturing equipment and the such -- those lives are set by statute.

[117] So even if the Treasury Department were to come out with a study that would say those lives should be shorter, present lives --

[118] MR. WELLER: Well, Mr. Mikrut, let's look at something that's a pretty basic piece of equipment in every office in America today, and that's the office PC.

[119] MR. MIKRUT: Uhm hum.

[120] MR. WELLER: What's the recovery period for your desktop PC, or my desktop PC, if it was owned by private industry?

[121] MR. MIKRUT: It's five years, double the climb and balance.

[122] MR. WELLER: Five years?

[123] In your testimony you stated that -- I think it was on page five -- that the Treasury Department was unaware of any "careful, empirical study" -- I believe was the quote there -- that computers have a useful life shorter than five years.

[124] Can you tell me, has the Treasury Department undertaken any empirical study itself?

[125] MR. MIKRUT: No, it has not.

[126] MR. WELLER: And why not?

[127] MR. MIKRUT: Generally, Mr. Weller, the studies have been mandated by Congress. Congress has generally directed us by statute which lives and which pieces of property to study.

[128] Again, we have not chosen to pick and choose among different --

[129] MR. WELLER: So you haven't taken any initiative to look into that.

[130] You know, if the current recovery period is five years for the office PC, and you think about it, five years ago -- if I have a 1995 PC on my desk today, how long it would take me to access the Internet?

[131] We made some notes here. Just kind of looking back during the last five years at development of some of the technology in the workplace. If we were forced to keep that five-year old computer -- in 1995, the current chips in a PC were the Intel Pentium Pro and the AMD K-5. We've seen three or four generations of new chips since then.

[132] In 1995, a good PC had 150 megahertz of memory. Today 500 megahertz is commonplace. In 1995, PCs had a floppy disk. Since then we've been through CD-ROM and now DVD. Now I've seen Windows '95, '98 and 2000 applications. We're way behind.

[133] The question I have for you is, you know, your personal recommendation. Do you believe that five years is too long for the office PC for depreciation?

[134] MR. MIKRUT: I think the visceral reaction of almost everyone is that five years is too long for a PC. I think, unfortunately, to do the appropriate study, we would need authority to go and collect the data from taxpayers in order to do a relatively efficient study; but I think this is one that is clearly worth looking at.

[135] In our budget, we take a similar approach with respect to high tech, in that we would allow expensing for software.

[136] MR. WELLER: A quick follow-up on that. You know when I talk with those who use PCs in the workplace, whether it's a small business like insurance agent or a real estate office, or whether it's a sizeable company with several hundred employees, they tell me that often they replace these PCs about every 12 to 14 months. A number of us are offering legislation which would allow you to expense the PC, fully deducted in the year that you purchase it.

[137] Do you feel that recognizes economic reality?

[138] MR. MIKRUT: Well, unfortunately, as you pointed out, in our study I couldn't tell you if that is economic reality or not because although one taxpayer may hold the computer for a year or less, the computer may have some salvage value when it's disposed of. So, the proper measurement would be what he purchased it for versus what the salvage value is over that period of time.

[139] Again, there may be a secondary market for used computer equipment that would make that analysis fairly easy to do relative to other types of property. So this is something that we would like to work with you in trying to determine.

[140] MR. WELLER: Mr. Chairman, I've run out of time. Thank you and I look forward to working with you.

[141] CHAIR HOUGHTON: Thanks very much. Ms. Dunn?

[142] We've got about seven or eight minutes, then we really ought to go and vote.

[143] Ms. Dunn?

[144] MS. DUNN: Mr. Mikrut, those of us who have supported the R&D tax credits do so because we want to encourage more research. It's estimated that the high-tech sector is responsible for 30 percent of our economic growth. These are good high-paying jobs. I see them in my district near Seattle, Washington. They have dramatically improved our quality of life.

[145] It seems that Treasury is attempting to narrow the scope of the credit, and make it much more difficult for businesses to take advantage of. This is especially true of the, quote, "common knowledge" test that you are -- the Treasury -- is proposing, and an Oklahoma court recently ruled against.

[146] Can you tell us the justification for deviating from the historic definition of qualified research by adding this new language?

[147] MR. MIKRUT: I think the common knowledge, Ms. Dunn, is trying to attempt to interpret the statute and legislative history that says that in order to qualify for the credit, the taxpayer must be attempting to discovery something.

[148] In trying to take the theoretical notion of what "discovery" means, we try to put in parameters, well, what is already known and let's compare that to what the taxpayer is trying to discover.

[149] We have received several comments on the very issue you have raised. The regulations that you are pointing to are proposed regulations and do not have the force and effect until they're finalized, and we're taking the comments that we've received very seriously in developing our next set of guidance.

[150] MS. DUNN: That's very good because we are very concerned about this. It's very troublesome for me as I represent constituencies at home. They are fearful that they would have to have intimate knowledge of what every other company is doing, not just in the United States, but around the world. So I'm happy that you're looking at that.

[151] I'd like to ask you a couple -- well, maybe just one question -- wrap it all into one about the timing on this plan. Can you tell us whether Treasury is going to finalize the regs this year, and when would that be, and do you expect that the regulations would be finalized as is, or do you expect changes before they are passed?

[152] MR. MIKRUT: We've had a significant amount of comments on the regulations. We understand the importance of the regulations, both to taxpayers and practitioners in trying to plan exactly how they would conduct their research, and exactly how they would justify the expenditures and their recordkeeping. So we're trying to take all the comments into account.

[153] On the IRS' and Treasury's business plan for this year, it was envisioned that we try to finalize the regulations this year. We've made significant progress on several of the comments, and again, we're still on plan to try to get it done this year; but I think there will be changes from what you've seen in the proposed regulations.

[154] MS. DUNN: Can you estimate a time, a date, when you expect them to be finalized?

[155] MR. MIKRUT: I wish I could, Ms. Dunn. It would be a lot easier for me, too, but I can't at this time.

[156] MS. DUNN: Thank you. Thank you, Mr. Chairman.

[157] CHAIR HOUGHTON: Okay, thanks, Ms. Dunn.

[158] Mr. Watkins?

[159] MR. WATKINS: I have only a couple quick questions. I want to refer to, you know, Mr. Talisman's letter of July 28 dealing with section 168. I have been working with a number of Native Americans. They're affected by 168(j) and also the 42(a), reservations and non- Indian land, working to try to get private sector investments.

[160] This expires in 2003. The only problem is, they've run up to a time situation now where the private sector investors trying to get plans, trying to get architectural designs, trying to get an industrial road to go. They have become reluctant about trying to make the decision to make the investments and they're losing -- they feel they're losing the potential of industry and jobs, because of this time shut-off of 2003.

[161] Do you have any plans to ask for some extensions of that time period? For it to be effective, they're going to have to have some extension of those years.

[162] MR. MIKRUT: I understand your concern, Mr. Watkins. This is a similar concern that we have with the R&D credit, and any other investment incentive that in order for business to accurately plan to make incentives, they need some lead time to know what the law is and how long that law will be extended.

[163] The version that you are pointing to will need a legislative change. This administration will not be submitting another budget, so we won't be able to in next year's budget propose to extend that further than the current sunset date.

[164] MR. WATKINS: Would you be willing to provide a letter to this Congress to try to have that included in any type of tax extension for the Native Americans? Because if we're really sincere about wanting to try to help them attract private-sector jobs, we need to make a move on that. I think it would be sending a letter and I'd like to request it.

[165] I'd appreciate the chairman trying to get maybe a letter, because we need to move on that. If not, we're just proving that we're speaking with a forked tongue ourselves about trying to help the Native Americans attract private sector jobs.

[166] MR. MIKRUT: We appreciate and we understand and support your goals, Mr. Watkins.

[167] The other question is, will an extension be enough, or should there be some other change in the program?

[168] MR. WATKINS: This was a ten-year program when it started. So, you know, if they had another ten years -- it took them five to six years to figure out what was happening there, and then finally have gotten rulings so we could work to implement it. Now it's time to find that private sector, we're kind of pulling back, so, we need another ten-year extension on something like this -- five to ten years in order for us to make it effective.

[169] MR. MIKRUT: We understand, Mr. Watkins. Again, the only issue I was raising is whether -- is it merely the passage of time or should there be some examination of which is more effective, the wage credit or the investment depreciation shorter lives that really is the engine to attract the jobs that you're seeking to attract?

[170] MR. WATKINS: I can assure you I lived with Native Americans. I was the only non-Native American -- non-Indian on a baseball team growing up. If you put your feet under their table like I have and work closely with them, you know they need all the help they can get in order to attract jobs and be able to build jobs in those areas. I think that it would behooves us to try speak and do what's right.

[171] Mr. Chairman, I'd like and hope we can request some kind of -- expedite some kind of extension of 168(j) and 42(a) in order to try to help the Native Americans.

[172] CHAIR HOUGHTON: All right, fine. Thank you.

[173] If you do that, that will be very helpful. So, thank you very much, Mr. Mikrut.

[174] We're going to suspend these hearing for a while. We have four votes and I hope Mr. Jalbert, Ms. Coleman and company will understand. We'll be right back, God and the Speaker willing.

[175] [Laughter.]

[176] CHAIR HOUGHTON: Thank you.

[177] [Break.]

[178] CHAIR HOUGHTON: Sorry everybody, but we were voting for a while. If we could resume the hearing, I'd sure appreciate it.

[179] If Mr. Jalbert, chair, president and chief executive officer of Transcrypt International, on behalf of the American Electronics Association; Dorothy Coleman, vice president of Tax Policy, National Association of Manufacturers; Molly Feldman, vice president of Tax, Verizon Wireless, on behalf of the Wireless Depreciation Coalition; Clifford Jernigan, director of Worldwide Government Affairs, Advanced Micro Devices; and Theodore Vogel, vice president and tax counsel of DTE Energy on behalf of Edison Electric Institute; and Frederick von Unwerth, general counsel of International Furniture Rental Association.

[180] So, great to have you here. Mr. Jalbert, will you begin?

[181] MR. JALBERT: Good afternoon, Mr. Chairman, and members of the subcommittee. My name is Mike Jalbert, and I am chairman, president and CEO of Transcript International. My testimony today is on behalf of the American Electronics Association, also known as the AEA.

[182] The more than 3,000 high-tech company members of the AEA and I thank you for the opportunity to testify on the tax code and the new economy. I have prepared this PowerPoint presentation, which you can see over there on my left to give a visual demonstration of the impact of the high-tech industry -- that the high-tech industry is making on today's economy, and to help explain why our tax code needs to catch up to this industry.

[183] The growth in high tech and correspondingly in high-tech jobs has been nothing less than extraordinary in the '90s. High-tech jobs topped five million in 1999, adding 1.2 million jobs in the span of just six years. The wages for these jobs is quite impressive. The wage differential between the private sector and the so-called high- tech jobs increased from 57 percent in 1990 to 82 percent in 1998.

[184] Additionally, the U.S. Federal Reserve --

[185] CHAIR HOUGHTON: Wait a minute. Say that again.

[186] MR. JALBERT: What I just said, Mr. Chairman, is that the wage differential between the private sector and the high-tech jobs increased from 57 percent in 1990 --

[187] CHAIR HOUGHTON: It was plus 57 percent.

[188] MR. JALBERT: Plus 57 percent, that's correct. To 82 percent in 1998.

[189] This growth is taking place all over the United States, not just in Silicone [sic] Valley. For example, my company --

[190] CHAIR HOUGHTON: It's Silicon Valley, not silicone.

[191] MR. JALBERT: You got it! Silicon.

[192] [Laughter.]

[193] MR. JALBERT: For example, my company, Transcrypt International, a wireless equipment leader in communications technology has offices right here in Washington, D.C., but we have manufacturing facilities and R&D facilities and offices in Lincoln, Nebraska, and Waseca, Minnesota. Not surprisingly, high-tech is the single largest merchandise exporter in the United States.

[194] This next slide helps to explain the importance of worker training tax initiatives. The AEA members on high-tech employment are actually quite conservative. These numbers are very conservative. In 1999, the number of five million high-tech jobs refers only to jobs with the high-tech industry, not all the high-tech jobs throughout the entire U.S. economy.

[195] The necessity of high-tech expertise is crossing all boundaries, and I would suspect that even your congressional offices -- in your congressional offices, you have hired employees with high- tech expertise to help you better communicate over the web with your constituents, and the larger public.

[196] High tech is everywhere, and the entire U.S. economy is hiring high tech. AEA member companies are finding it increasingly difficult to hire and retain highly skilled workers. Permanently extending the section 127 employer-provided educational assistance exclusion and expanding it to include the pursuit of graduate studies would allow high-tech companies, such as mine, to address the skilled workforce shortage by providing training for their own employees.

[197] Turning now to R&D. Research and development is a key ingredient in the new economy, and that fact is repeated throughout the global marketplace. The R&D tax credit was first enacted in 1981 and it is no coincidence that industry replaced the U.S. government as the primary R&D spender in that year.

[198] High tech is an R&D intensive industry; and the R&D credit provides high tech and other industries with a critical tax incentive to maintain and increase their U.S.-based research and development. The R&D tax credit is responsible for stimulating U.S. investment, wage growth, consumption and exports -- which all contribute to a stronger economy and a higher U.S. standard of living. This credit should be made permanent, and the regulations governing the credit should be workable.

[199] This final slide clearly demonstrates the U.S. technology usage rates and growth over just the last few years. Interestingly, this growth rate pales in comparison with the growth rate of other countries across the globe. The U.S. percentage of usage growth, for example, 16 percent for computers, 72 percent for the Internet, and 54 percent for cellular phone usage demonstrates there is nothing static about these industries.

[200] As the usage rate for high-tech equipment increases, the industry will continue to grow and innovate. Correspondingly, AEA believes that the recovery periods and depreciation methods under section 168 would more accurately reflect what is happening in this new economy.

[201] Thank you for the opportunity to present the subcommittee with this overview. I would be happy to answer any questions you may have.

[202] CHAIR HOUGHTON: Thank you very much. What I think we'll do is just go right through the panel, and then take questions afterward.

[203] Bill is that okay?

[204] MR. COYNE: Sure.

[205] CHAIR HOUGHTON: Okay, Ms. Coleman.

[206] MS. COLEMAN: Chairman Houghton and members of the subcommittee, thank you for the opportunity to appear before you today to discuss the tax code and the new economy.

[207] My name is Dorothy Coleman, and I'm pleased to be here today on behalf of the National Association of Manufacturers. The NAM, 18 million people who make things in America, is the nation's largest and oldest multi-industry trade association.

[208] The NAM represents 14,000 member companies, including 10,000 small and mid-sized manufacturers. NAM members have long held the belief that the current tax system is a major obstacle to realizing the full potential of our economy. We need a new tax system that is simpler and encourages, rather than penalizes, work, investment and entrepreneurial activity, that is competitive with that of our foreign trading partners.

[209] Specific changes endorsed by the NAM include saving incentives, a single tax system for businesses, elimination of the double taxation of corporate earnings, fair and equitable transition rules, and more rapid recovery of capital equipment cost.

[210] All businesses, whether considered old or new economy, will benefit from a pro-growth tax system designed for a 21st century economy. In fact, the distinction between the old and the new economies is largely artificial. The term "old economy" brings to mind belching smokestacks, blue collar workers, dirty factories, bricks and mortar -- all aimed at making tangible things. In contrast, new economy represents high-tech gadgetry, skilled workers, whistle-clean factories, computers and micro processors.

[211] In reality, though, this clear-cut distinction is not an accurate picture of either the economy or the modern manufacturing world. The integration of traditional manufacturing, with the technological innovation of the past decade has transformed our entire economy. This convergence has been going on for more than a decade, and has already created what we at the NAM call "new manufacturing."

[212] A hallmark of our current, robust economy is the remarkable advances in technology that are changing everything about the way our economy functions. Technology is the single, biggest contributor to economic growth. The fact that manufacturing is also the single, biggest beneficiary of technology underscores our insistence that the currently fashionable distinction between the old economy and the new economy is a distinction without a difference.

[213] Technology has led to a boom in productivity. The rate of manufacturing productivity growth was nearly five percent from 1996 through 1999, double that of the overall business sector, as it has been since 1992. This strong steady increase in productivity has enabled the economy to achieve strong growth without significant inflation.

[214] Over the past three years, the U.S. economy has averaged non-inflationary growth of about four percent. We would like to see this economic growth continue. A tax policy that stops discriminating against capital investment is essential to continued economy growth.

[215] The pro-growth tax policy we need must encourage businesses to increase capital formation in the United States. One of the most effective ways to spur business investment, which in turn will lead to continued technological advances and productivity growth, is through an enhanced capital cost recovery system.

[216] In particular, the NAM supports moving towards an accelerated depreciation system that shortens depreciation lives to one year. Under this accelerated system, companies could expense capital equipment in the tax year it was purchased.

[217] An integral part of a new system is eliminating the current corporate alternative minimum tax. By its very nature, the AMT punishes both individuals and businesses. We commend the Ways and Means Committee for taking the lead in 1997 to soften the anti- investment impact of the AMT, and providing needed relief to many companies.

[218] Nonetheless, unless the AMT is totally eliminated, larger deductions for capital investments will push companies into an AMT situation, forcing them to use longer depreciation periods.

[219] Expensing represents a significant departure from our current depreciation system. It is imperative that the transition from the current system to expensing provides fair and equitable treatment for taxpayers who made business decisions based on current law.

[220] A basic premise of economic theory is that investment is a positive function of an increase in demand, and a negative function of cost. The cost of capital to a firm includes three components, the price of capital goods, the cost of funds to the firm, and the tax treatment of investment. Expensing lowers the cost of capital and thus leads to increased investment.

[221] We agree with the Treasury report that the current depreciation system is dated, and that change in the current system would be a costly and time-consuming undertaking. Determining class lives alone would consume valuable Treasury time and resources. In contrast, expensing of capital investments would be a simple and direct solution.

[222] The goal of a capital recovery system should be to make capital more available, help American businesses keep pace with technological change, improve the competitiveness of American goods in world markets, simplify tax compliance, and minimize the erosive effect of inflation on invested capital. A system that provides for immediate expensing achieves these goals.

[223] Moreover, workers also benefit from an enhanced capital cost system. Increased investment raises the level of productivity, which leads to higher wages.

[224] The enhanced capital cost recovery system described here today doesn't differentiate between old economy and new economy businesses. It benefits all businesses that invest in capital goods.

[225] On behalf of the NAM, thank you for inviting me here today to discuss this important issue.

[226] CHAIR HOUGHTON: Thanks very much, Ms. Coleman.

[227] Ms. Feldman?

[228] MS. FELDMAN: Chairman Houghton and members of the Oversight Committee, thank you for the opportunity to testify and for holding these hearings on the tax code and the new economy.

[229] My name is Molly Feldman, and I am vice president of Tax at Verizon Wireless. Verizon Wireless and the Cellular Telecommunications Industry Association, which represents nearly 400 companies in all areas of the wireless industry, seek greater clarity in the depreciation rules governing our industry.

[230] We support the premise in the press release announcing the subcommittee's hearing that the Internal Revenue Code's depreciation system is very outdated and fails to adequately address the cost recovery needs of the nation's new high-technology based economy.

[231] The wireless telecommunications industry, like many other high-technology industries, depends on computer-based technology to facilitate the digitalization of voice, video and data over its new digital networks.

[232] The first steps in the development of the current wireless systems started with the creation of a computer-controlled network of cells, which contained low-powered, computer-based switching equipment. It was the introduction of a computer to the system of cell sites that enabled the cellular system to provide "call hand- offs" as a mobile user passed through its designated, geographic area. Computers are used to provide all required functions, and are predominant in all parts of the system.

[233] Wireless companies are continuously replacing equipment due to obsolescence. For example, much of the updated, digital wireless equipment that only recently replaced analog equipment, beginning in the mid-1990s, is itself expected to be replaced in a few short years, due to the emergence of the next generation of equipment. The increasing speed with which this is occurring, just as in the computer industry, has rendered many billions of dollars worth of equipment obsolete.

[234] The Treasury Department's recently released report to the Congress on depreciation recovery periods and methods recognizes that innovation in the information age has created many new industries that are not clearly addressed by current depreciation rules. The report points out that the wireless telecommunications industry was in its infancy when the current asset clauses were defined, and that its digital technology does not fit appropriately into the existing definitions for wired telephony related classes.

[235] The wireless telecommunications industry is one of the fastest growing industries in the United States with more than 100 million Americans currently subscribing to wireless service. Job growth in the wireless industry directly supplies just over 4,300 American jobs -- supplied over 4,300 American jobs in 1986. By 1999, over 155,000 jobs were created, and the industry was responsible for creating another million jobs in supporting and related industries.

[236] Rapid technological innovation has resulted in an evolving industry that originally provided voice communications to one that increasingly works as a network providing computer functionality. New third-generation products, sometimes referred to as "3-G" will provide much improved services to remote users, including enhanced voice and high-speed data links to office computers, the ability to send and receive faxes, high-speed Internet connectivity, video transmission and video conferencing.

[237] Wireless companies plan to expand wireless networks in the new markets in rural areas with the goal of uninterrupted service throughout North America. Continued investment in network upgrades and expansion will continue to improve local economies, and will permit the increased availability of mobile data services, providing Internet access to many urban, rural and suburban communities.

[238] Not only has the increase in wireless subscribership driven job growth, but it has also increased capital spending. In 1985, total capital spending in wireless telecommunications equipment amounted to $526 million. By 1999, annual capital expenditures had exceeded $15 billion.

[239] Unfortunately, without clear depreciation rules, which reflect the true useful life of wireless telecommunications equipment, continued investment might be limited or deferred.

[240] As you know, the cost of most tangible, depreciable property placed in service after 1986 is recovered using the modified accelerated cost recovery system. Under this system, assets are grouped into classes of personal property and real property, and each class is assigned a recovery period and depreciation method.

[241] The commercial wireless telecommunications industry was in its infancy in 1986 and 1987 when the depreciation system was last revised. As a result, the rules which are currently being applied by the IRS and by the wireless industry were originally developed without specifically considering the characteristics of wireless telecommunications equipment.

[242] Both wireless telecommunications companies and the IRS had expended significant resources over the past few years auditing and settling disputes involving the depreciation of wireless telecommunications equipment. Because of the rapid, technological changes, we believe the maximum recovery period that should be applied is five years.

[243] Clearly, the appropriate class life of cellular telecommunications' assets does not approach ten years, let alone the 16 to 20 years often argued by the IRS. As a result of these continuing disputes and the lack of clear guidance, we believe Congress must clarify the depreciable life of these assets.

[244] The inappropriate assignment of assets to depreciation clauses with longer recovery periods, has a huge impact on the cost of investment borne by wireless companies. The misclassification of wireless telecommunications assets imposes an unfair level of taxation on wireless companies compared to other companies utilizing assets that have properly defined class lives.

[245] The burden of these unfair taxes is ultimately borne by the subscribers of wireless telecommunications service, whose cost of service is higher than it would otherwise be, as well as potential users of wireless systems, who may be precluded from becoming subscribers due to decreased investment and slower build-out.

[246] Rather than shoe-horn wireless telecommunications equipment into wire line telephony classes, as some would do, the better solution would be to include wireless telecommunications equipment within the definition of qualified technological equipment.

[247] The code current defines such equipment to include any computer or peripheral equipment in any high-technology telephone station equipment installed on a customer's premises. Wireless equipment is properly characterized as five-year, qualified technological equipment, because of the fact that the predominant components of wireless networks are, in fact, computers.

[248] A depreciable life of anything greater than five years will penalize this fast-growing industry and limit the capital available for the continued expansion of an advanced wireless digital network. Such a network would allow wireless telecommunication companies to continue to pursue business objectives which translate into continued job growth, productivity gains, and overall economic expansion.

[249] To ensure depreciation certainty in the future, Congress should recognize these changes are occurring in the information age, and be prepared to shorten depreciable lives for assets that are the foundation of the new economy.

[250] We understand that Congressman Phil Crane will be introducing legislation in the next several days that provides for this important clarification. We encourage the members of this committee to join Congressman Crane in addressing this problem.

[251] In summary, depreciation guidance for the wireless telecommunications industry is needed to provide clarity and avoid controversy leading to unnecessary costs to both the government and industry. The current depreciation system should be revised to clarify that all wireless telecommunications equipment is included in the qualified, technological equipment category.

[252] I'll be pleased to try to answer any questions you may have regarding my testimony.

[253] CHAIR HOUGHTON: Thanks very much, Ms. Feldman.

[254] Mr. Jernigan?

[255] MR. JERNIGAN: Thank you, Mr. Chairman, and members of the committee. My name is Cliff Jernigan, and I am director of Worldwide Government Affairs at AMD. I am testifying today on behalf of the Semiconductor Industry Association, which represents the $77 billion American semiconductor industry.

[256] It's been seven years since I last testified before this committee on depreciation reform. In the meantime, many U.S. companies in our industry have set up plants overseas at the expense of American sites -- and I think that's unfortunate.

[257] This afternoon I would like to do three things. First, I would like to describe our industry and the market in which we compete. Secondly, I will explain why the current tax depreciation rules for semiconductor manufacturing equipment are outdated and discourage investment. And third, I will urge the committee to support H.R.1092, the Semiconductor Equipment Investment Act of 2000, sponsored by Representatives Johnson and Matsui, which reduces the tax depreciation period for the equipment we use to make chips from five to three years.

[258] Let me begin by describing our industry. The semiconductor industry is now America's largest manufacturing industry in terms of economic value added, contributing 20 percent more to the U.S. economy than the next leading industry. We employ about 280,000 people in the United States in high-paying jobs.

[259] Parenthetically, our employment level was about 280,000 people in 1985. Our employment has remained constant in the United States, but it has increased overseas, and that's a result of more of our plants being located overseas.

[260] Driving the growth of the semiconductor industry is the ever-shrinking transistor, the basic building block of a semiconductor chip. A decade ago, we were able to integrate thousands of transistors on a single, silicon chip. Today we can integrate millions of transistors on a single chip, and tomorrow we expect to be able to integrate billions of transistors on a single chip.

[261] To remain competitive in this rapidly changing environment, U.S. chip makers invest 80 cents out of every dollar of sales into R&D and capital equipment. Unfortunately, the current tax code fails to recognize the rapid pace of change in our industry, in that it requires an unreasonably long period -- five years -- to recover the cost of our equipment; and I submit that's one reason many of our companies are being forced to move overseas.

[262] The useful life of semiconductor manufacturing equipment is three years, not five -- probably even less than three today. There are several economic studies cited in my written testimony that demonstrate this point. Rather than review these studies now, let me just note what anyone who has shopped for a home computer already knows -- thank you, Congressman Weller.

[263] That is that every few months, new models are available that are faster and have more memory for the same price. This is because the chips in these computers continue to grow more complex. That is, they perform more functions at faster and faster speeds. It takes new and more complex equipment to manufacturer each generation of chips, and so we have to continually replace our equipment.

[264] The outdated depreciation laws penalize the U.S. semiconductor industry. Furthermore, they also discourage investment in the U.S. at a time when other nations are doing all they can to attract semiconductor industry investment in plants that cost today between $2 billion to $3 billion, each.

[265] Japan, Korea, Taiwan, many countries in Europe, all provide more favorable depreciation rates, and in some cases, outside grants or tax holidays, to encourage investment. You may have read yesterday's Wall Street Journal article about countries trying to entice high-tech companies by offering significant incentives. I would like to add this article as part of my written testimony. I know that you have a copy now in your possession.

[266] SIA estimates that an American community seeking to attract a multi-billion dollar chip plant face a significant handicap due to the U.S. depreciation laws, even before the chip maker considers other factors such as workforce and infrastructure costs.

[267] In recognition of these issues, Representatives Nancy Johnson and Bob Matsui have introduced H.R.1092 to shorten the depreciation period for semiconductor manufacturing equipment to three years. There are currently 47 other co-sponsors of this bill, including ten members of the Ways and Means Committee, and four members of this subcommittee.

[268] I would like to take this opportunity to thank Chairman Houghton, and Representatives Dunn, Neal and McNulty, for co- sponsoring this legislation. I would also like to note that this issue enjoys bipartisan support, and has been endorsed by both the Republican Mainstream Partnership, and the Progressive Policy Institute.

[269] Interestingly, shorter depreciation was part of President Clinton's platform in 1992, and it was part of Bob Dole's platform in 1996, but we can't seem to get it done. It is important for us to move quickly to pass this bill. The semiconductor industry is undergoing a once in a decade change in wafer size, moving from manufacturing chips on an eight-inch diameter wafer to 12-inch wafers.

[270] This shift increases the area of the wafer, allowing manufacturers to produce more chips per wafer, and thereby greatly reducing cost. But first this shift will require an investment in plant and manufacturing equipment, probably in the range of $3 billion to $4 billion.

[271] I appreciate the desire of many in Congress to undertake comprehensive depreciation reform. However, this could be months, if not years. It took two years to do the Treasury study, and we still aren't even quite there yet. However, technological change in the new economy moves at lightening speed.

[272] While our comprehensive reform effort is underway, 12-inch wafer plants that might have been built in the U.S. will instead be built overseas. Therefore, I urge Congress to pass H.R.1092, not next year, but this year.

[273] In closing, let me leave you with this thought. As you consider changes to the tax code to reflect the new economy, remember that the Internet is, in fact, a worldwide web of silicon chips. I urge you to shorten the depreciation life for equipment used to make these chips, and that make the Internet possible.

[274] Thank you for your attention to this issue, and I look forward to answering any questions you may have.

[275] CHAIR HOUGHTON: Thank you very much, Mr. Jernigan.

[276] Mr. Vogel?

[277] MR. VOGEL: Good afternoon, Mr. Chairman, Mr. Coyne and members of the subcommittee. My name is Ted Vogel, and I'm vice president and tax counsel for DTE Energy Company, the parent company of Detroit Edison, which is an electric utility serving much of southeastern Michigan.

[278] I'm currently the chair of the Edison Electric Institute Taxation Committee, and am testifying here on its behalf. I've previously filed a written statement with the committee. I'd like to just highlight some items that are in that report.

[279] Let me just initially note that we are an industry that has most of its assets classified as 20-year property for federal tax purposes.

[280] Long depreciation lives are traditionally viewed as long- lived assets. There are several major developments that have been going on in the last few years in our industry that I think you should be aware of that I think is changing that perception of our industry and our assets.

[281] First of all, as you are aware, we had a crisis in electric energy supply this summer. I'll touch on that point. Secondly, the electric utility industry is being restructured in a way that has eliminated the traditional, vertical monopoly and replaced it with a competitive marketplace. Thirdly, we're seeing an increased pace of technological change in the industry that brings about quicker economic obsolescence of assets.

[282] In addition, there are some disparities in the existing tax treatment of our assets that we'd like to call to your attention. In short, we think the answer is to shorten these long -- very long depreciable lives. In particular, we're supporting H.R.4959, which would shorten depreciable lives in electric generating equipment from the 15 and 20-year lives that it has to date to seven years.

[283] As to the first point, as you are aware, in the California market this summer there was severe economic -- electricity supply crises. San Diego, San Francisco, Silicon Valley all suffered "brown- outs" power spikes and other energy shortages. This was directly as a result of insufficient generating capacity in California, and an inability to import enough power into the state.

[284] In particular, Silicon Valley firms suffered some losses. The Hewlett Packard energy manager indicated if they lost one days' worth of power it would amount to $75 million of lost revenue.

[285] California is not alone. We're seeing alarming projections for much of the country as well, in terms of the future growth of power. In fact, the J.P. Morgan study just released this month, now projects five percent or more in annual growth rates.

[286] Where is this growth coming from? It's coming from information technology, computers, Internet, the growth of our society in information and telecommunications -- all of it powered by electricity. We believe Congress should act now, and should in fact shorten depreciation rates, lives and remove the disincentive to build power plants.

[287] Currently, the long depreciation lives for power plants creates a capital disincentive and makes it harder to attract the needed capital for growth.

[288] The second major development in our industry is the electric industry restructuring that's taking place all over the country. Most states now have moved toward deregulating their markets. Traditionally, the electric utility industry was vertically integrated. You had regional monopolies that were regulated by the local or state public service commissions.

[289] These monopolies -- in fact, the commissions incentive was to stretch out depreciation lives as long as possible to keep rates low. As a result, utilities had no incentives to retire assets early and upgrade their systems for technological improvements until they had recovered their costs. With an open, competitive marketplace, that's no longer the case. Recovery is no longer based on cost. It's going to be based on technological innovation.

[290] That brings me to the third point. Technological innovation is happening in our industry. A generation ago, most powerplants were coal-fired, nuclear-fired, large powerplants that, quite frankly, technology moved very slowly on. If you built a plant, you knew it could pretty much operate for 40 years with very little change.

[291] In the last decade alone, we've seen enormous shifts, as new generations have moved to gas-fired turbines, combined cycle operations. These turbines were only 40 to 50 percent efficient a mere decade ago. Today they're approaching 70 percent efficiency. That is driving increased economic obsolescence for powerplants much quicker than we have seen in the past.

[292] Other areas of technological developments are coming fast down the pike -- distributed generation, fuel cells, micro-turbines -- a lot of developments that I think we're going to continue to see in the future that will continue to bring about quicker obsolescence than this industry has experienced in the past.

[293] Finally, there are some inequities in the current depreciation systems. For example, most of the industries have much faster depreciation lives than ours. Paper mills, steel mills, lumber mills, foundries -- those type facilities' manufacturing plants have seven-year lives, even though their assets are very similar in terms of the overall useful life of those assets. Chemical plants can be depreciated in five years.

[294] Again, a lot of that historic disparity came out of the rate regulated environment and the monopoly environment that once existed in our industry. It is now changing.

[295] Other anomalies -- a turbine generator owned by a manufacturer producing power in exactly the same way that one owned by a utility, will receive a shorter depreciation life under the tax code. A process control computer on, for example, a cigarette plant will receive a seven-year life, whereas a process control computer operating a generating plant is given a 20-year life.

[296] So, these kind of disparities are there in the code. Some of them are addressed in the Treasury report -- and we appreciate that, and we think those need to be rectified.

[297] In conclusion, we appreciate the Treasury report. There is some good discussion on page 97 about the challenges facing the industry, about the changes that are occurring in the industry and the need to address depreciation rates in the industry, and we heartily endorse that conclusion, as well as we would like to thank committee members Thomas Jefferson and English for their leadership in sponsoring H.R.4959.

[298] Thank you for the opportunity to participate.

[299] CHAIR HOUGHTON: Okay, thanks very much, Mr. Vogel.

[300] Mr. von Unwerth?

[301] MR. von UNWERTH: Mr. Chairman, members of the subcommittee, I appear here today on behalf of the International Furniture Rental Association. I am the association's general counsel. I thank you for this opportunity to say a few words about a problem for the furniture rental industry that has surfaced recently with the Internal Revenue Service.

[302] We are a small industry, and I believe the problem is straightforward, so I won't take much of your time. The industry I represent is the traditional furniture rental industry, not to be confused with the rent-to-own industry. Congress specifically addressed the depreciation recovery period for rent-to-own property in the Taxpayer Relief Act of 1997, declaring it three-year property through an amendment to code section 168(e) and 168(i).

[303] The members of our industry are in the rent-to-rent business. It's a service business. We provide short-term furniture rentals for the convenience of customers temporarily in need of furniture.

[304] All of our members rent furniture for residential use to both consumers and businesses. Many of them also rent furniture for office use to individuals and businesses -- sometimes it's the same furniture. It is the rental of furniture for office use that brings us here today.

[305] Now there's never been any question that the traditional business of renting furniture falls within class 57, distributive trades and services under the MACRS system. This classification qualifies the furniture held by the rental company taxpayer as five- year property under MACRS.

[306] Until recently, there also has been no question that the taxpayer's rental of furniture to a customer for office use should be no different for depreciation purposes than is rental of furniture to a customer for residential use. In fact, a general information letter from the Service confirmed that the rental business itself, as a distributive trade and service business qualified all the rental inventory as five-year property.

[307] Both logic and fairness dictate the same depreciation schedule for the rental company taxpayer, whether the desk, chairs, sofa or end table are rented to the customer for home use or for office use. Of course, there's also the possibility of a residential customer's rental of furniture for home office use, of which the rental company may not even be aware.

[308] To treat these uses differently for depreciation of the furniture by the rental company would enormously and unfairly complicate the business of renting furniture.

[309] The problem furniture rental companies now face arises from an IRS interpretation of a tax court opinion in litigation involving the Norwest Banking organization. The Cincinnati Office and the Ohio Appeals Office have interpreted the Norwest opinion to mean that any general use asset category, such as office furniture, fixtures and equipment -- that's class 00.11 -- always, regardless of the circumstances, takes priority over any activity category, such as class 57, distributive trades and services.

[310] The Norwest case had absolutely nothing to do with rental furniture. It involved the claim by a bank that certain furnishings were being used in the distributive trade of retail banking, even though the bank use of the furnishings was typical, administrative office use.

[311] This specious claim was given short shrift by the Tax Court. The court specifically noted that there was nothing unique about the bank's use of the furniture. The court also made some observations about a revenue procedure dealing with priorities between asset categories and activity categories, in general. It did not mention the specific use of office furniture by a furniture rental company as rental inventory.

[312] Based on the court's general observations in Norwest, the IRS in Cincinnati has demanded a change in accounting method by a Cincinnati-based furniture rental company for the depreciation of its rental office furniture inventory. The Service is insisting on a seven-year recovery period, based on an asset classification as office furniture, fixtures and equipment under class 00.11.

[313] The Cincinnati IRS position completely ignores the unique use of office furniture by the taxpayer as rental inventory, in which it is repeatedly moved in and out of warehouses, trucks, customer premises between rentals.

[314] Because of the beating it takes in this unique use, rental office furniture generally has a rentable life of three-to-four years, even though the same furniture purchased or leased for long- term use by an ordinary business could last much longer.

[315] Thus, a seven-year recovery period for rental office furniture makes no sense. It is completely at odds with the goals of code section 167(a), which is to provide a reasonable allowance for the exhaustion, wear and tear of property used in the taxpayer's trade or business.

[316] To lay to rest this troubling interpretation that now hangs over the office furniture rental industry, we ask the committee to clarify the appropriate recovery period through an amendment to section 168(e)(3)(A), and 168(i), specifically defining as five-year property all office furniture held by a furniture rental dealer for rental to businesses and individuals under short-term leases.

[317] Thank you for your time and your consideration. If there are questions, I'll be happy to try and answer them.

[318] CHAIR HOUGHTON: Thank you very much, Mr. von Unwerth.

[319] Now we'll go to questions for the panel. Mr. Coyne?

[320] MR. COYNE: Thank you, Mr. Chairman. My question is to Mr. Jernigan.

[321] You indicated that over the last several years your company has been forced to move much of your operation overseas. What is it either in the tax code or other regulations that we have here in this country -- why is it that you find it necessary to do so much business overseas instead of here in the United States?

[322] MR. JERNIGAN: Let me first say that we are still building in the United States, but we recently completed about a $2 billion facility in Dresden, Germany. Capital recovery is a major aspect of why we chose to go overseas. The United States is just not a very good place to invest today.

[323] And secondly, we couldn't find employees. You're aware of the H-1(b) issue. Germany had an abundance of engineers. We have a very difficult time finding engineers in this country.

[324] MR. COYNE: Well, relative to the H-1(b) situation, has your company or your association been involved in any attempt to do more training of U.S. prospective employees for the industry?

[325] MR. JERNIGAN: Absolutely. We have training programs -- vocational training programs in our company. We support the Semiconductor Research Corporation, which puts money into universities to help train individuals. We've spent millions as a company and an industry to try to train people.

[326] MR. COYNE: Have you had much success in those efforts?

[327] MR. JERNIGAN: Yes.

[328] MR. COYNE: Or is it still one of the driving forces to push you overseas?

[329] MR. JERNIGAN: It's still a prime consideration as to why we went overseas the last time around.

[330] MR. COYNE: Even though you've had some success in these training efforts?

[331] MR. JERNIGAN: Yes.

[332] MR. COYNE: There's just not enough?

[333] MR. JERNIGAN: Not enough.

[334] MR. COYNE: Thank you.

[335] CHAIR HOUGHTON: Mr. Weller.

[336] MR. WELLER: Thank you, Mr. Chairman.

[337] I think one clear message I've gotten from this panel is that our current tax code is stymieing innovation and advancement in technology, and is actually depressing the opportunity for higher wages for workers in this country. That's why I think your hearings are so very, very important.

[338] I recognize we've got a number of people on the panel, and of course, a limited amount of time. I just want to direct my first question, I think, to Ms. Coleman. As you know, of course we've worked with your organization on the issue of depreciation treatment of office computers, as we have with others that are on this panel. Currently, the office computer is carried on the books for five years.

[339] Do you feel that is an accurate reflection of the life of those office computers?

[340] MS. COLEMAN: I certainly think that your legislation to expense office computers is an excellent first step, and I think the NAM believes that all business equipment should be expensed.

[341] MR. WELLER: You say -- indicate your support for expensing. Let me -- you know, one of the questions I'm often asked -- and I've been given the figure of 12-to-14 months as how often many businesses replace the office -- you know, that computer, the PC that sits on the desk. Is that an accurate figure?

[342] MS. COLEMAN: I'm not really in a position to comment on that right now, but I'd be happy to get back to you.

[343] MR. WELLER: Okay. Are there any others on the panel who can share with us, just from their perspective -- Mr. Jernigan, maybe? You're in the business.

[344] MR. JERNIGAN: I think we're replacing computers in our company about every two to two and a half years.

[345] MR. WELLER: Two, two and a half years -- so that 12-to-14 months may be a little --

[346] MR. JERNIGAN: I don't know the answer.

[347] MR. WELLER: Okay. Anyone else on the panel on that turnover -- on 12-to-14 months?

[348] [No verbal response.]

[349] MR. WELLER: One of the questions that clearly was raised when Treasury was before us was, you know, they took two years to do their study -- which is a long period of time. It's a lifetime in time of Congress, let alone in the business of technology, where we've seen such rapid changes in the last two years, let alone the last five or ten.

[350] They indicated that they had failed to collect any empirical data regarding -- when it comes to depreciation treatment of technology. I was wondering, do your organizations -- have you -- any of you collected any empirical data that might help us better understand and better prepare as we work toward depreciation reform? Any organizations?

[351] Mr. Jernigan?

[352] MR. JERNIGAN: Yes, the semiconductor industry has done three studies over the last 15 years, two studies in conjunction with people in the Treasury Department, working with them on the methodology, et cetera.

[353] They are reluctant to still endorse the studies, but they actually helped participate in the studies, where we used outside firms. The last study we did showed that semiconductor manufacturing equipment has an economic life of just about three years. That study was done five years ago and I'm sure the life of our equipment is less today.

[354] MR. WELLER: Okay. Tying in with that, Mr. Jernigan -- and I'd very much like to see your material.

[355] MR. JERNIGAN: We'll provide it to you.

[356] MR. WELLER: Just one last question I just want to direct to you.

[357] You mention in your testimony how other countries provide for depreciation treatment of technology. Of course, our chief competitors are in Europe and Japan. Can you share with us what their depreciation schedules are, on PCs for example?

[358] MR. JERNIGAN: In the depreciation area, their lives are generally equal to better than ours, but then it's in the fine print that they give you the better incentives.

[359] Japan has a five-year life, but they give you extra depreciation if you're located in special zones, or if you use the equipment over 24 hours a day. So, in looking at Japan, we noted that they offer 88 percent write-off in the first year, and up to 113 percent write-off after three years.

[360] Other countries -- and our experiences with Germany -- they essentially pay for half the plant. And we know some companies in our industry where the plant was almost totally paid for, and that was the case in Italy. We know that Taiwan is a major, major country today. In fact, the government of Taiwan is thinking that -- they plan is now to buy more semiconductor equipment in two years' time than in the U.S.

[361] In other words, everyone is going to Taiwan, because of all the additional incentives, short depreciation, cash grants, low interest rate loans -- on and on and on.

[362] I think our Treasury Department was talking about, "Well, it looks like there isn't much difference between our country and other countries." If you look at just the plain depreciation rules, probably the differences aren't that great. It's in the other incentives that they offer, which are cash recovery incentives that oftentimes equate to expensing, and sometimes even expensing plus incentives.

[363] MR. WELLER: That's very helpful, thank you.

[364] Thank you, Mr. Chairman for the opportunity to ask questions.

[365] CHAIR HOUGHTON: Thank you.

[366] Mr. Watkins?

[367] MR. WATKINS: Thank you, Mr. Chairman. I, too, would like to thank you for having these hearings and having this, I think, very appropriate time to discuss this. In the high-tech industry, we do have a tremendous crisis, I think, ahead of us.

[368] Mr. Jernigan, have you looked at the Native Americans. We do have tax incentives, but many companies will not look at Native Americans, and we do have a set rate of depreciation. We've got some wage tax credits. In my district I've surveyed them. I've gone through Career Tech, Vo-Tech stuff and pulled out, you know, 8,000 people or more right now that have had some high tech.

[369] But many industries have not looked at going into small town rural America, and I'd like to encourage you not to overlook that, especially with the Native Americans. Many of them are really highly well qualified and can do a great job. But sometimes we're always left out.

[370] As I've said lots of times, don't overlook -- don't go over rural America going somewhere else when we do have that need. I'm back here because of that reason. I was a businessman in small town rural America, trying to make things work; and out-migration, lower unemployment.

[371] We have people who live out there, and one of the biggest problems in high tech is needing a stabilized workforce. We have that in rural America. That's why they're living out in small town rural America, because they want to stay there and live there and work there and raise their family there. All we want to do is have the opportunity there. I've been working some pilot areas trying to get there. We do have tax incentives there to be able to help us do some of these things. So I want to encourage you.

[372] I would welcome -- I'd welcome any of you to let me visit with you in my office or your office about that. I'm here in this Congress trying to rebuild the economic livelihood of people who have been left behind since the Great Depression, let alone just in this time.

[373] You know in history books -- we can look back at history books, and we know that the industrial revolution was one of the major launching pads of this great country. We're living through two revolutions now, the information technology revolutions and also globalization. Both those revolutions are taking place right now in our lifetime, and I'd like to just leave you with the fact that we need to try to make sure that all of America happens to be worthy of these incentives.

[374] I came back also because I wanted to try to help shape a global, competitive economy for the United States. We balanced the budget, which I think is really important, but a global, competitive economy is one that's got less taxation. We've got to have less taxation, Mr. Chairman. We've got to be lean and mean in taxation if we're going to compete in the global economy.

[375] CHAIR HOUGHTON: You can be leaner and I'll be meaner.

[376] [Laughter.]

[377] MR. WATKINS: Yes, sir, Mr. Chairman; but less regulation and less litigation.

[378] In fact, if you'll look at it, industry trying to compete around the world today, they've got a 15 percent over burden, when you look at the tax -- over 15 percent over burden, when you look at taxation, regulation and litigation when you're trying to compete with the world.

[379] I want to try to give you some relief in a lot of those areas. That's why I'm working with my friend, Jerry Weller here on his depreciation bill, that we've got to have help with the new economy; and I just -- I guess I'm maybe making more comments than I am asking any questions, but I'm pleading with you not to overlook rural America.

[380] I've got 21 counties in Oklahoma. Like I say, none of them on their own probably can support a major industry, but when we put them together in the aggregate, we can provide tremendous opportunity. They can do that in Illinois. They can do that in a lot of the other areas around the country.

[381] Have you any industry working with Native Americans?

[382] MR. JERNIGAN: Mr. Watkins, we will invest in any area. It can be Native Americans, a Black community, or Asian -- that's not important to our industry. We go where the jobs are and where the people are well trained.

[383] I'll be very happy to sit down with you and give you my perspectives of what Oklahoma will need to do to attract semiconductor jobs. I know that Oklahoma will attract some major semiconductor plants. You have a very aggressive economic development program. We've come very close to attracting some major plants already.

[384] Like I say, I'll be very happy to sit down and give you my perspective on that. I could be available this afternoon or --

[385] MR. WATKINS: I'll be available right after you get up from that table.

[386] MR. JERNIGAN: Okay, you're on. You've got a date.

[387] [Laughter.]

[388] MR. WATKINS: Anybody else available?

[389] [Laughter.]

[390] MR. WATKINS: Thank you, Mr. Chairman, very, very much.

[391] CHAIR HOUGHTON: Thanks, Mr. Watkins.

[392] Mr. Portman?

[393] MR. PORTMAN: Thank you, Mr. Chairman, I really appreciate all the input we're getting from this panel and the previous panel, and I commend the chairman for holding this hearing.

[394] We probably don't have time this year to legislate in this area, but now that we do finally have the Treasury report in hand we do have some data with which to work. There are no legislative recommendations, as you know in the Treasury report, nor apparently in the earlier testimony from Treasury did we hear any specific recommendations. So it kind of falls back on this panel and others in Congress to figure out what might be the best course to take.

[395] I've heard today a lot of specific concerns, and it seems to me that to address one area or another might not be the wisest approach. Although there certainly are some areas that need relief in the high-tech area. But it seems to me we do need to have a revamping, and it seems to me it ought to be something that this committee works on immediately in the new year.

[396] I have a couple questions for the panel, if I might. I have a couple specific questions, if I could, Mr. Chairman, for Mr. von Unwerth -- general question. Should we give Treasury more discretion? Again, I hear from frankly low-tech to high-tech that the class life of categories inaccurate for this product or that, that the cost recovery is not appropriate because of changing conditions.

[397] You know, new technologies among other things, it's just impossible, frankly, for Congress to legislate in this area and keep up with it. Off the '86 Act -- coming off that we gave the Treasury Department more discretion, as you know, to determine what the appropriate class life was. In essence, we gave them discretion to, therefore, change what some cost recoveries were and to change the taxes that you pay.

[398] We kind of pulled that authority back to Congress, partly in response I understand to constituent concerns. I wasn't here then. It was sadly before my time, but I wonder if I could get the panelists who were in the business at that time and dealing with Treasury, or those who look back on that period to give us some input as to whether we should give Treasury more discretion in the area. Does that make sense?

[399] Ms. Coleman, do you have a thought on that?

[400] MS. COLEMAN: Well, I have to admit I wasn't involved in the issue at that time. Certainly, I think --

[401] MR. PORTMAN: You and I were both in high school at the time.

[402] MS. COLEMAN: I wish.

[403] [Laughter.]

[404] MS. COLEMAN: I think even the study -- the time that it took to do just the study that they released in July points to the time -- how time consuming and how many research --

[405] MR. PORTMAN: It took two years and there are no recommendations.

[406] MS. COLEMAN: Pardon me?

[407] MR. PORTMAN: Nothing. I'm just agreeing with you.

[408] MS. COLEMAN: I think certainly we support moving to an expensing system, which would be a lot more straightforward and certainly easier to administer.

[409] MR. PORTMAN: And with an expensing system you wouldn't have to worry about making some of these decisions, changing classifications -- you'd have immediate expensing; and you're talking about a transition to that.

[410] How about others of you, if we were to stay with a depreciation system, would it make sense to give Treasury more discretion? Mr. Jernigan?

[411] MR. JERNIGAN: I think it definitely would. I think you need to give Treasury broad guidelines that are intuitively correct.

[412] As Congressman Weller said, he can't believe that a computer has a five-year class life when we all know that maybe it should be two years or one and a half years. So I think you need to give Treasury a mandate and strong guidance that you've got to be realistic, also.

[413] They don't always have that data out there, or it's very expensive to collect that data. In our industry, the semiconductor industry, they've done three studies and the studies are very time consuming. They're very expensive. You have to hire outside people; and then when you turn over the study to Treasury it just gets lost, and industry just doesn't have the manpower and the time and the money to do all these studies.

[414] So, broad guidelines to Treasury, encouraging them to be more realistic and intuitive in what they're doing, I think would be --

[415] MR. PORTMAN: Maybe mandate a review of sunsetting of different classifications or class lives for them to take a look at the reports or the data that you would submit?

[416] How about -- any other comments on that? Anybody fearful of giving Treasury that kind of discretion? Mr. Vogel?

[417] MR. VOGEL: Well, as I think you're aware, Treasury has had a lot of authority over the years, and that's where the guidelines that we currently live with today came out of in the early '60s. What I think we see is that it's a slow, ponderous process. It's heavily fact driven.

[418] The Treasury report itself that just recently came out really weighed lots of different directions that they could go in terms of deciding how should these assets be depreciated, what life and what kind of results are we trying to achieve.

[419] To some extent, what happened in 1981 was a superb development, in that what happened was, they set aside the notion of sort of trying to carefully tweak the depreciation to match what lives are being experienced and called it something different. They called it "accelerated capital cost recovery."

[420] We're getting away from this traditional notion of how long these assets live, and recognizing that what we've got really going on is a need to recover the capital, and recover it in a timely manner, and recover it on a real dollar value basis so that the effects of inflation do not destroy the capital base of the country. That's the system we're on today, and I think Congress took the lead in enacting that kind of system.

[421] So I think it would be risking longer periods of stagnation if it were put back into a merely administrative process. I think that's why we've suggested that, you know, the only way to sort of timely address the changing nature of our industry is for Congress to act.

[422] MR. PORTMAN: You mentioned inflation. Another idea, you know, in cost recovery is to actually index depreciation schedules to inflation. With low inflation, I assume your cost recovery has been relatively good. Although relative to other countries, Mr. Jernigan, it doesn't make any difference.

[423] Because I don't think any of our major competitors handle inflation any differently than we do. So, although -- with low inflation, maybe that's not as big a concern. Today one idea would be that Congress could mandate that, at a minimum. Adding expense to that, of course.

[424] MR. JERNIGAN: I think Treasury's report discussed some of the problems of identifying one area for inflation adjustment. But that's certainly --

[425] MR. PORTMAN: Well, I appreciate the input, and I thank the chairman for taking on this issue. He's a brave sole. Mean, lean and courageous.

[426] One other question, if I could, Mr. Chairman, with regard to the final testimony we heard today with regard to the rental furniture.

[427] You said in your comment, Mr. von Unwerth, that the rentable life of this equipment is three to four years, which is inconsistent, it seems to me, with what you're calling for, which is to simply go back to a clarification that the five-year recovery period is proper.

[428] Why wouldn't you ask for three or four years, rather than sticking with the five years or clarifying the five years?

[429] MR. von UNWERTH: You make a very good point. Thank you, Mr. Portman.

[430] We are sort of right on the cusp of a class life. We're about four years -- three to four years; and the difference between three and five years is right at that -- the break point is about at four. The next break point, of course, for the seven years is ten. We know we shouldn't be there.

[431] MR. PORTMAN: Yeah, and you got an IRS ruling you said out of my hometown office, it sounds like, Cincinnati, Ohio, for seven.

[432] MR. von UNWERTH: They have insisted on a change of accounting method to go to seven years for one of the national office furniture rental companies that's headquartered in Cincinnati. That makes no sense. Everybody else is doing five and always has.

[433] We do think there's a case to be made for three, but we're not here asking for that. All we're seeking at this point is simply a clarification that five is the fair and proper interpretation.

[434] MR. PORTMAN: Three years is what the rent-to-own industry has now?

[435] MR. von UNWERTH: That's what the rent-to-own industry has, yes, that's correct.

[436] MR. PORTMAN: You're just asking for a clarification that the five-year recovery period is proper?

[437] MR. von UNWERTH: That's correct.

[438] MR. PORTMAN: Under the current system. And when you say "short-term" leases, what are you talking about?

[439] MR. von UNWERTH: One year of less. Typically in the industry, one year or less. The legislation we propose would define "short-term" as one year or less, and define a "qualified dealer" as one who produces primarily pursuant to short-term leases.

[440] MR. PORTMAN: Okay.

[441] MR. von UNWERTH: We're not talking about anything like a finance lease here, this is rental.

[442] MR. PORTMAN: And the revenue differential between five and seven years' recovery would be what for rental?

[443] MR. von UNWERTH: About a million and a half a year, maybe two million. That's based on an assumption of 75 to 100 million of property placed in service by the entire industry. As I said, this is a very small industry.

[444] MR. PORTMAN: Okay, thank you very much. I appreciate your testimony and I thank all of you for helping us out. Maybe we'll see you again next year.

[445] Thank you, Mr. Chairman.

[446] CHAIR HOUGHTON: Okay, thanks very much, Mr. Portman.

[447] I've just got a couple of questions to wind this thing up. First of all, Mr. Jernigan, I -- you know when Brazil or Japan or Germany are giving these big incentives, I don't think that really gets into depreciation. I mean, that's an out-right incentive, and I don't think this particular panel can handle -- that's another issue, as important as it might be.

[448] Also, Mr. Jalbert, you talked about R&D tax credits. It's the same thing. I think it's very important that we ought to do it, but I don't think we can handle that.

[449] I think that the thing that I'm interested in is this almost re-definition of section 167, rather than the wear and tear and obsolescence. You have other factors that you're talking about. I mean, there's -- you know, in simple language, it's the Moore's Law of every industry.

[450] So the question is, more than wear and tear, it's competition, it's rejuvenation, it's inflation. I mean, I could make a strong case, I think, for the iron and steel industry, that they should have a special accelerated depreciation because they're so much in the doldrums it's contrasted to the wireless industry, because you've been able to do particularly well.

[451] However, when you take a look at the pressure from abroad, and the incentives which you're given there on depreciation itself, it makes it very, very difficult.

[452] So, I wonder how we sort this thing out and help the Treasury re-define that section 167? Maybe you have some ideas.

[453] MR. JERNIGAN: You want me to start?

[454] CHAIR HOUGHTON: Sure.

[455] MR. JERNIGAN: As I said, the semiconductor industry has submitted three studies to Treasury which I think are quite compelling, and were done under the auspices or guidance of Treasury. I think that would be a good starting place that the last study we showed was three years.

[456] I think Treasury ought to recommend to the Congress that we have a three-year life, and Congress ought to act on it, expeditiously, as opposed to waiting for comprehensive reform. Which may be two or three more generations of semiconductor plants.

[457] CHAIR HOUGHTON: Have you seen the report to Congress on depreciation recovery from Treasury?

[458] MR. JERNIGAN: I've only read it once, sir, because it was only about 130 pages, but I have seen it. The July study?

[459] CHAIR HOUGHTON: Yeah.

[460] MR. JERNIGAN: Yes. It doesn't address the issues very adequately for us. It's more --

[461] CHAIR HOUGHTON: Look, this panel is trying to get at the issue. We're trying to find a resolution to this, rather than just hearing things.

[462] If you have some specific ideas, which could be added to this and we could pass along, or you could pass along to Treasury, we'd like to see them. We'd like to see something done.

[463] Okay, Mr. Vogel or Ms. Feldman, any other suggestions you have here? Because we'd like to move the ball forward here. Clearly we're in an entirely different age now in terms of the depreciation schedules, and we'd like to have some specific, very simple -- one or two suggestions that Treasury ought to use.

[464] But, you've got to understand that there's a precedent to be set. When you do it for one industry, you've got to do it in some sense for another.

[465] Any other suggestions? How about you, Mr. Jalbert?

[466] MR. JALBERT: I come here as a representative of the AEA, but I'm also a businessman. What I see is practicality. I look at our book accounting versus our tax accounting, and I'll take the example of the computer.

[467] We know our computers won't last longer than two, two and a half years, yet we depreciate them over five. That's an example of how we're behind the times. We have a company that has -- we're in rural America. We're in Waseca, Minnesota and Lincoln, Nebraska. When you think about that, we're a high-tech company and we have over a hundred engineers, yet we have openings for 20. That's because of qualifications, and that's because of training.

[468] So we have to do training in our own company. We're not a big company. We're between 55 and 60 million, but we spend one percent of our revenue on training, and that's something that we would like to continue, especially for graduate work.

[469] So we look at graduate work and the tax incentives there. We look at depreciation and the opportunities there. Then, finally, if you take a look at R&D credit, we're an industry that's driven by R&D. We're a $55 million to $60 million company, and we spend $6 million to $7 million just in R&D. So the tax codes have to be in tune with what's going on today.

[470] So the practicality for me as a businessman is, we need to make some of these things permanent. We need to continue other things, and we need to re-examine how we do depreciation.

[471] CHAIR HOUGHTON: Any other comments, Ms. Coleman, Ms. Feldman?

[472] MS. FELDMAN: Yeah, with the rapid advances in technology, especially in lives 10 to 20 years, instead of revamping everything and looking at everything, we would suggest starting with some of the industries that have started up, like the wireless industry in more recent years, that aren't specifically mentioned in the Rev. Proc., so it just raises questions by the IRS what our class lives are and what our recovery periods are.

[473] We think we know what they are, and it's just a continuing audit issue amongst our companies. It's not been resolved. Industries such as ours that have the newer technologies might be a good starting point.

[474] CHAIR HOUGHTON: Ms. Coleman?

[475] MS. COLEMAN: I think once again, moving towards expensing would resolve a lot of these issues. One concern of the NAM being a broad-based --

[476] CHAIR HOUGHTON: You'd like to expense everything?

[477] MS. COLEMAN: Pardon me?

[478] CHAIR HOUGHTON: You'd like to expense everything.

[479] MS. COLEMAN: Yes, I would.

[480] But being a broad-based trade group, I think one problem that you come into is some assets that have longer class lives, and the disadvantage -- these are the assets with the shorter asset life, which could lead to investment -- distorting investment decisions.

[481] I think an expensing system would eliminate a lot of those problems.

[482] CHAIR HOUGHTON: All right. Anybody else? Mr. Vogel or Mr. von Unwerth? Any further comment?

[483] [No verbal response.]

[484] CHAIR HOUGHTON: Okay, well, thanks very much. I certainly appreciate it. Any other suggestions you have for us, please send them into us.

[485] This hearing is adjourned.

[486] [Whereupon, at 3:30 p.m., the proceedings were adjourned.]

DOCUMENT ATTRIBUTES
  • Institutional Authors
    House of Representatives
    Ways and Means Committee
    Oversight Subcommittee
  • Code Sections
  • Subject Area/Tax Topics
  • Index Terms
    legislation, tax
    IRC
    research credit
  • Jurisdictions
  • Language
    English
  • Tax Analysts Document Number
    Doc 2000-25103 (92 original pages)
  • Tax Analysts Electronic Citation
    2000 TNT 191-64
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