TECHNICAL EXPLANATION OF THE TAX PROVISIONS IN H.R. 4923 THE ``COMMUNITY RENEWAL AND NEW MARKETS ACT OF 2000''

(Prepared by the Staff of the Joint Committee on Taxation)

I. Introduction

This document, prepared by the staff of the Joint Committee on Taxation, provides a technical explanation of the tax provisions contained in H.R. 4923, the ``Community Renewal and New Markets Act of 2000.''

II. Summary

H.R. 4923, the ``Community Renewal and New Markets Act of 2000,'' provides additional tax incentives for targeted areas that are identified as areas of pervasive poverty, high unemployment, and general economic distress. The bill also increases the limits with respect to the low-income housing tax credit and the private activity bond volume caps. Tax incentives for renewal communities The bill authorizes the Secretary of HUD to designate up to 40 ``renewal communities'' from areas nominated by States and local governments. At least eight of the designated renewal communities must be in rural areas. In general, nominated areas are ranked based on a formula that takes into account the area's poverty rate, median income, and unemployment rate. A nominated area within the District of Columbia will be designated as a renewal community (without regard to its ranking) beginning in 2003. A nominated area that is designated as a renewal community is eligible for the following tax incentives during the period beginning July 1, 2001, and ending December 31, 2009: (1) a 100-percent capital gains exclusion for capital gain from the sale of qualifying assets acquired after June 30, 2001, and before January 1, 2010, and held for more than five years; (2) a 15 percent wage credit to employers for the first $10,000 of qualified wages paid to each employee who (i) is a resident of the renewal community, and (ii) performs substantially all employment services within the renewal community in a trade or business of the employer; (3) a ``commercial revitalization expenditure'' that allows taxpayers (to the extent allocated by the appropriate State agency for the period after June 30, 2001) to deduct either (i) 50 percent of qualifying expenditures for the taxable year in which a qualified building is placed in service, or (ii) all of the qualifying expenditures ratably over a 10- year period beginning with the month in which such building is placed in service; (4) an additional $35,000 of section 179 expensing for qualified renewal property placed in service after June 30, 2001 and before January 1, 2010 by a renewal community business; (5) the expensing of certain environmental remediation expenditures incurred after June 30, 2001, and before January 1, 2010 within a renewal community; and (6) an expansion of the Work Opportunity Tax Credit with respect to qualified individuals who live in a renewal community. Extension and expansion of empowerment zone incentives The bill extends the designation of empowerment zone status for existing zones (other than the D.C. Enterprise Zone) through December 31, 2009. In addition, the 20-percent wage credit is made available to all existing empowerment zones beginning in 2002 (and remains at the 20-percent rate). Furthermore, $35,000 (rather than $20,000) of additional section 179 expensing is available for qualified zone property placed in service in taxable years beginning after December 31, 2001, by a qualified zone business. The bill also extends an empowerment zone's status

[[Page H6817]]

as a ``target area'' under section 198 (thus permitting expensing of certain environmental remediation costs) for costs incurred after December 31, 2001, and before January 1, 2010. Also beginning in 2002, certain businesses in existing empowerment zones (other than the D.C. Enterprise Zone) become eligible for more generous tax-exempt bond rules. The bill also authorizes Secretaries of HUD and Agriculture to designate nine additional empowerment zones (seven to be located in urban areas and two in rural areas). The new empowerment zones must be designated by January 1, 2002, and the tax incentives with respect to the new empowerment zones generally are available during the period beginning on January 1, 2002, and ending on December 31, 2009. Businesses in the new empowerment zones are eligible for the same tax incentives that, under this bill, are available to existing zones (i.e., a 20-percent wage credit, $35,000 of additional section 179 expensing, the enhanced tax-exempt financing benefits, and expensing of certain environmental remediation costs). The bill permits a taxpayer to roll over gain from the sale or exchange of any qualified empowerment zone asset held for more than 1 year where the taxpayer uses the proceeds to purchase other qualifying empowerment zone assets (in the same zone) within 60 days of the sale of the original asset. In general, a qualifying empowerment zone asset refers to a stock or partnership investment in, or assets acquired by, a qualifying business within an empowerment zone that is purchased by a taxpayer after the date of enactment of the bill. The bill increases to 60 percent (from 50 percent) the exclusion of gain from the sale of qualifying small business stock held more than five years where such stock also satisfies the requirements of a qualifying business under the empowerment zone rules. The provision applies to qualifying small business stock that is purchased after the date of enactment of the bill. Provide new markets tax credit The bill creates a new tax credit for qualified equity investments made after December 31, 2000, to acquire stock in a community development entity (``CDE''). The maximum annual amount of qualifying equity investments is capped as follows:

------------------------------------------------------------------------ Maximum qualifying equity Calendar year investment ------------------------------------------------------------------------ 2001............................... $1.0 billion 2002-2003.......................... $1.5 billion per year 2004-2005.......................... $2.0 billion per year 2006-2007.......................... $3.5 billion per year ------------------------------------------------------------------------

The amount of the credit allowed to the investor is (1) a five-percent credit for the year in which the equity interest is purchased from the CDE and for the first two anniversary dates after the purchase from the CDE, and (2) a six percent on each anniversary date thereafter for the following four years. The credit is recaptured if the entity fails to continue to be a CDE or the interest is redeemed within seven years. A CDE is any domestic corporation or partnership (1) whose primary mission is serving or providing investment capital for low-income communities or low-income persons, (2) that maintains accountability to residents of low-income communities through representation on governing or advisory boards, and (3) is certified by the Treasury Department as an eligible CDE. A qualified equity investment means stock or a similar equity interest acquired directly from a CDE for cash. Substantially all of the cash must be used by the CDE to make investments in, or loans to, qualified active businesses located in low-income communities, or certain financial services to businesses and residents in low-income communities. A ``low-income community'' generally is defined as census tracts with either (1) poverty rates of at least 20 percent, or (2) median family income which does not exceed 80 percent of the greater of metropolitan area income or statewide median family income. Improvements in the low-income housing tax credit The bill increases the low-income housing credit cap to $1.75 per resident between 2001 and 2006 as follows:

Applicable Calendar year credit amount 2001..............................................................$1.35 2002...............................................................1.45 2003...............................................................1.55 2004...............................................................1.65 2005...............................................................1.70 2006...............................................................1.75

In addition, beginning in 2001, the per capita cap is modified so that less populous States are given a minimum of $2 million of annual credit cap. The $1.75 per capita credit cap and the $2 million amount is indexed for inflation beginning in 2007. The bill also makes several programmatic changes to the credit. Acceleration of phase-in of increase in private activity bond volume cap The bill accelerates the scheduled phased-in increases in the present-law annual State private activity bond volume limits to $75 per resident of each State or $225 million (if greater). The increase is phased in as follows, beginning in calendar year 2001:

------------------------------------------------------------------------ Calendar year Volume limit ------------------------------------------------------------------------ 2001........................... $55 per resident ($165 million if greater) 2002........................... $60 per resident ($180 million if greater) 2003........................... $65 per resident ($195 million if greater) 2004, 2005, 2006............... $70 per resident ($210 million if greater) 2007 and thereafter............ $75 per resident ($225 million if greater) ------------------------------------------------------------------------

III. Explanation of the Tax Provisions in H.R. 4923

A. Renewal Community Provisions (Secs. 101-103 of the Bill)

Present Law

In recent years, provisions have been added to the Internal Revenue Code that target specific geographic areas for special Federal income tax treatment. As described in greater detail below, empowerment zones and enterprise communities generally provide tax incentives for businesses that locate within certain geographic areas designated by the Secretaries of Housing and Urban Development (``HUD'') and Agriculture.

Explanation of Provision

The bill authorizes the designation of 40 ``renewal communities'' within which special tax incentives will be available. Designation process Designation of 40 renewal communities.--Secretary of HUD is authorized to designate up to 40 ``renewal communities'' from areas nominated by States and local governments. At least eight of the designated communities must be in rural areas. The Secretary of HUD is required to publish (within four months after enactment) regulations describing the nomination and selection process. Designations of renewal communities are to be made within 24 months after such regulations are published. The designation of an areas as a renewal community generally will be effective on July 1, 2001, and will terminate after December 31, 2009. Eligiblity criteria.--To be designated as a renewal community, a nominated areas must meet the following criteria: (1) each census tract must have a poverty rate of at least 20 percent; (2) in the case of urban area, at least 70 percent of the households have incomes below 80 percent of the median income of households within the local government jurisdiction; (3) the unemployment rate is at least 1.5 times the national unemployment rate; and (4) the area is one of pervasive poverty, unemployment, and general distress. Those areas with the highest average ranking of eligibility factors (1), (2), and (3) above would be designated as renewal communities. A nominated area within the District of Columbia becomes a renewal community (without regard to its ranking of eligibility factors) provided that it satisfies the area and eligibility requirements and the required State and local commitments described below. The Secretary of HUD shall take into account in selecting areas for designation the extent to which such areas have a high incidence of crime, as well as whether the area has census tracts identified in the May 12, 1998, report of the General Accounting Office regarding the identification of economically distressed areas. There are no geographic size limitations placed on renewal communities. Instead, the boundary of a renewal community must be continuous. In addition, the renewal community must have a minimum population of 4,000 if the community is located within a metropolitan statistical area (at least 1,000 in all other cases) and a maximum population of not more than 200,000. The population limitations do not apply to any renewal community that is entirely within an Indian reservation. Required State and local communities.--In order for an area to be designated as a renewal community, State and local governments are required to submit (1) a written course of action in which the State and local governments promise to take at least four governmental actions within the nominated area from a specified list of actions, and (2) a list of at least four economic measures the State and local governments promise to take (from a specified list of measures) if the area is designated as a renewal community. Empowerment zones and enterprise a communities seeking designation as renewal communities.--An empowerment zone or enterprise community can apply for designation as a renewal community. If a renewal community designation is granted, then an area's designation as an empowerment zone or enterprise community ceases as of the date the area's designation as a renewal community takes effect. Tax incentives for renewal communities The following tax incentives generally would be available during the period beginning July 1, 2001, and ending December 31, 2009. 100-percent capital gain exclusion.--The bill provides a 100-percent capital gains exclusion for gain from the sale of a qualified community asset acquired after June 30, 2001 and before January 1, 2010, and held for more than five years. A ``qualified community asset'' includes: (1) qualified community stock (meaning original-issue stock purchased for cash in a renewal community business); (2) a qualified community partnership interest (meaning a partnership interest acquired for cash in a renewal community business); and (3) qualified community business property (meaning tangible property originally used in a renewal community business by the taxpayer) that is purchased or substantially improved after June 30, 2001. A ``renewal community business'' is similar to the present- law definition of an enterprise zone business. Property will continue to be a qualified community asset if sold (or otherwise transferred) to a subsequent purchaser, provided that the property continues to represent an interest in (or tangible property used in) a renewal community business.

[[Page H6818]]

The termination of an area's status as a renewal community will not affect whether property is a qualified community asset, but any gain attributable to the period before July 1, 2001, or after December 31, 2014, will not be eligible for the exclusion. Renewal community employment credit.--A 15-percent wage credit is available to employers for the first $10,000 of qualified wages paid to each employee who (1) is a resident of the renewal community, and (2) performs substantially all employment services within the renewal community in a trade or business of the employer. The wage credit rate applies to qualifying wages paid after June 30, 2001, and before January 1, 2010. Wages that qualify for the credit are wages that are considered ``qualified zone wages'' for purposes of the empowerment zone wage credit (including coordination with the Work Opportunity Tax Credit). In general, any taxable business carrying out activities in the renewal community may claim the wage credit. Commercial revitalization deduction.--The bill allows each State to allocate up to $12 million of ``commercial revitalization expenditures'' to each renewal community located within the State for each calendar year after 2001 and before 2010 ($6 million for the period of July 1, 2001 through December 31, 2001). The appropriate State agency will make the allocations pursuant to a qualified allocation plan. A ``commercial revitalization expenditure'' means the cost of a new building or the cost of substantially rehabilitating an existing building. The building must be used for commercial purposes and be located in a renewal community. In the case of the rehabilitation of an existing building, the cost of acquiring the building will be treated as qualifying expenditures only to the extent that such costs do not exceed 30 percent of the other rehabilitation expenditures. The qualifying expenditures for any building cannot exceed $10 million. A taxpayer can elect either to (a) deduct one-half of the commercial revitalization expenditures for the taxable year the building is placed in service or (b) amortize all the expenditures ratably over the 120-month period beginning with the month the building is placed in service. No depreciation is allowed for amounts deducted under this provision. The adjusted basis is reduced by the amount of the commercial revitalization deduction, and the deduction is treated as a depreciation deduction in applying the depreciation recapture rules (e.g., sec. 1250). The commercial revitalization deduction is treated in the same manner as the low income housing credit in applying the passive loss rules (sec. 469). Thus, up to $25,000 of deductions (together with the other deductions and credits not subject to the passive loss limitation by reason of section 469(i)) are allowed to an individual taxpayer regardless of the taxpayer's adjusted gross income. The commercial revitalization deduction is allowed in computing a taxpayer's alternative minimum taxable income. Additional section 179 expensing.--A renewal community business is allowed an additional $35,000 of section 179 expensing for qualified renewal property placed in service after June 30, 2001, and before January 1, 2010. The section 179 expensing allowed to a taxpayer is phased out by the amount by which 50 percent of the cost of qualified renewal property placed in service during the year by the taxpayer exceeds $200,000. The term ``qualified renewal property'' is similar to the definition of ``qualified zone property'' under section 1397C. Expensing of environmental remediation costs (``brownfields'').--A renewal community is treated as a ``targeted area'' under section 198 (which permits the expensing of environmental remediation costs). Thus, taxpayers can elect to treat certain environmental remediation expenditures that otherwise would be capitalized as deductible in the year paid or incurred. This provision applies to expenditures incurred after June 30, 2001, and before January 1, 2010. Extension of work opportunity tax credit (``WOTC'').--The bill expands the high-risk youth and qualified summer youth categories in the WOTC to include qualified individuals who live in a renewal community.

Effective Date

Renewal communities must be designated within 24 months after publication of regulations by HUD. The tax benefits available in renewal communities are effective for the period beginning July 1, 2001, and ending December 31, 2009.