For example, the tax relief granted by a 15-percent credit would amount to 7.2 cents per dollar of corporate earnings before tax, or about 25 percent more than the extra burden presumed to fall on those with incomes of $250,000 because of the corporate tax. With a 20percent credit, which has been recommended by some, the tax relief at high income brackets could be twice as large as the presumed extra burden of the corporate tax.

Looked at as straight tax reduction, the benefits provided by these provisions are highly concentrated in the upper income groups. In recent years less than 9 percent of the total combined tax reductions from the dividend credit and exclusion have gone to returns with less than $5,000 of income.

In contrast, more than 75 percent of the total tax reductions accrue to returns with income of $10,000 and over and more than 54 percent to taxpayers with incomes over $20,000. In view of the fact that the dividend exclusion is frequently represented as being helpful to low income groups, it is noteworthy that only 15 percent of the total tax reduction due to such exclusions go to returns with incomes under $5,000. About 55 percent of its tax benefits go to individuals with over $10,000 of income.

Benefits from the 1954 dividend provisions accrue more broadly at the higher income levels because shareholding is more usual at those levels. Only 6 percent of taxable returns with income under $5,000 have any dividends at all, while over 90 percent of returns with incomes of over $50,000 have dividends. Dividend income for returns under $5,000 constitutes but 1 percent of total income of this group as against 29 percent for the higher group.

Putting it differently, returns with incomes under $5,000, or 40 percent of the total number of taxable returns, report only about 8 percent of the dividends included in the tax returns. On the other hand, returns with incomes over $50,000 or two-tenths of 1 percent of all returns account for 33 percent of all dividends any way one looks at it. The overall benefit of the dividend credit is therefore much larger for the upper income groups.

If the dividend credit and exclusion are thought of as methods of reducing taxes they are extremely restricted in form. Singling out a particular type of income for such reduction discriminates against all other kinds of income recipients who also face high marginal tax rates.

I am vitally interested in shaping the tax structure to stimulate. investment and growth. When the dividend credit and exclusion were adopted it was hoped that they would induce new equity issues from corporations which would use the proceeds to undertake new investment in plant and equipment.

However these provisions have not proved effective in encouraging additional capital investment. They cannot begin to compare in this regard to the proposed investment credit which applies only to new investment operates directly at the point where the decision to buy plant and equipment is made is available to firms whether they are investing retained earnings or outside funds and draws no distinction between incorporated or unincorporated enterprises.

Let us look at the record and see what the dividend credit and exclusion have done to increase investment. Although the number

of stockholders has increased since the dividend provisions were adopted there has been no increase at all in the annual dollar purchases of equity securities (less sales) by individuals.

In both 1951 and 1952 when dividends received no relief the net purchases of stock by individuals were higher than in any other year of the past decade. In recent years net stock purchases by individuals have also been outpaced by a number of other forms of personal savings such as time and savings deposits in banks and shares in savings and loan associations.

The relative importance of stock issues to corporate external longterm financing from all sources has not risen. Department of Commerce figures show that the relative importance of stock issues was higher in the 1949-51 period than in later years of the past decade, excepting only 1959.

And, finally, but not least, any incentive effect could only assist those large firms well enough known to be able to tap the stock market for new funds.

According to estimates by the New York Stock Exchange, the number of shareholders rose from 6.5 million in 1954 to 12.5 million in 1959 and to 15 million in 1961. This is a healthy course for economic democracy to take, and we welcome it. However, this development does not require special tax preferences, and it is very doubtful whether the dividend credit and exclusion have played a major role in this respect.

A number of other factors, such as the levels of personal incomes and savings, corporate profits, dividends, and stock prices, appear to have been far more important than the dividend provisions in stimulating stock ownership.

The repeal of the dividend credit and exclusion should be enacted promptly so that the introduction of withholding on dividend and interest income may benefit from the resulting simplification. The revenue gain from the repeal of these provisions is estimated at $450 million a year.

3. EXPENSE ACCOUNTS

Turning now to expense accounts, much has been said and written about the abuses in this area. Abuses through expense accounts take a variety of forms. Tax deductible entertainment allowances frequently are a means by which business provides tax-free compensation to favored employees or business associates.

The seller invites the buyer to his yacht or his hunting lodge, the buyer may reciprocate with lavish parties and a night club entertainment, and both then charge it off as a business expense. Some of this is done because of the businessman's own desire to obtain such luxuries tax free; much of it is done in response to a competitive pressure which has in large measure been created by our tax law and not by the dictates of business.

As a result, therefore, there are few of the luxuries of life, such as vacations at fancy resorts, club memberships, and cruises which a large number of taxpayers cannot in some way deduct on tax returns as business expenses. As the President stated, the time has come when our tax laws should cease to encourage luxury spending as a charge on the Federal Treasury.

I have here a four-part document illustrating the abuses in the entertainment area. This document demonstrates that tighter enforcement of present law will not suffice; corrective legislation is

necessary.

Part one of this document summarizes the result of a recent audit by the Internal Revenue Service. This audit was undertaken last September by the Treasury Department as a step in meeting the directive of the Congress, set forth in the Public Debt and Tax Rate Extension Act of 1960, that the Secretary of the Treasury make a report as soon as practicable during the 87th Congress on the progress of an enforcement program, initiated by the Internal Revenue Service in 1960, relating to expenses for entertainment, travel, yachts, hunting lodges, club dues, and similar items.

Although this audit covered only 38,000 returns, it shows that these returns claimed deductions totaling $5.7 million for club dues, $2 million for theater tickets and similar amusements, over $1 million for hunting lodges and fishing camps, $2.6 million for yachts, and $11.5 million for business gifts. Most significantly, the audit shows that only a small portion of these expenses can be disallowed under existing law.

The difficulty in administering present law is shown by the fact that, even though most of the claimed expenditure for entertainment was allowed under the existing generous standards, almost 50 percent of the returns had to be adjusted by internal revenue agents. These adjustments resulted in the disallowance of $28.3 million of claimed travel and entertainment expense.

In addition, it was determined that $29.5 million of the claimed. deductions constituted unreported income in the nature of dividends or additional compensation to stockholders, officers, or employees.

Part two of the document consists of a report by the Commissioner of Internal Revenue on the very serious problems encountered in administering present law relating to travel and entertainment

expenses.

Part three contains summary of some court decisions and admin istrative cases illustrative of the type of entertainment expenditure which is deductible under existing law. As the introduction to this part states, when judicial decisions permit the cost of a safari to Africa undertaken by a hunting enthusiast and his wife to be deducted as an expense for advertising dairy milk, one cannot expect revenue agents to question successfully the business necessity for duck hunting or nightclubbing with business associates.

Part four of the document contains a compilation of recent comments on expense accounts and business gifts appearing in newspapers and other periodicals. These comments illustrate the widespread public concern, shared by many in the business community, with expense account abuses.

The supplemental statement contains detailed proposals for carrying out the President's recommendation to disallow certain entertainment expenses. The characteristic feature of all of these expenses is that they confer substantial personal benefits which are in large measure a substitute for personal living expenses.

Under these detailed proposals, expenses for entertaining guests at such functions as parties, nightclubs, theaters, country clubs, and fishing trips would be disallowed in full. So also would be expenses

for luxury entertainment facilities such as yachts, hunting lodges, and swimming pools, as well as for such items as country club dues. The cost of so-called business gifts would be disallowed to the extent it exceeds an annual limitation of $10 for each recipient.

Expenditures for food and beverages generally would be disallowed, although several exceptions are made. One exception relates to food or beverages provided primarily to employees on business premises. Another exception covers the cost of food and beverages consumed in the course of conducting business, but not in excess of a fixed amount per day for each individual involved. This figure could be somewhere in the range of $4 to $7.

A deduction for the cost of food and lodging while on business trips would be limited to twice the maximum per diem rate authorized to be paid to Federal employees. At the present time, this rate for travel in the United States is $12 per day, but the Bureau of the Budget has recommended to the Congress that this figure be raised to $15. Therefore, the per diem limitation applicable to business travel would be $30, if the Congress accepts the recommendation of the Bureau of the Budget.

Finally, where a business trip is combined with a vacation, a portion of the cost of travel to the business destination would be disallowed.

I believe that these are realistic recommendations which recognize the legitimate needs of business while at the same time eliminating the lavish expenditure for personal benefit which has, in the past, been charged off to the American taxpayer. They would increase revenues by at least $250 million per year.

4. CAPITAL GAINS ON SALE OF DEPRECIABLE BUSINESS PROPERTY

The President has recommended that capital gain treatment be withdrawn from gains on the disposition of depreciable property to the extent of prior depreciation allowances. Such gain reflects depreciation allowances in excess of the actual decline in value of the asset and under the President's proposal would be treated as ordinary income.

Any gain in excess of the cost of the asset would still be treated as capital gain. This reform will eliminate an unfair tax advantage which the law today gives to those who depreciate property at a rate in excess of the actual decline in market value and then proceed to sell the the property, thus, in effect, converting ordinary income into a capital gain. This reform is particularly essential at this time in view of the recommendations to provide a tax credit for new investment in depreciable property.

Moreover, the proposed withdrawal of capital gain treatment from gains on disposition of depreciable property that reflect prior depreciation would eliminate much of the present tax advantage attaching to investment in so-called depreciation shelters, which exist primarily in the real estate area.

For example, during the first few years after acquisition of a building by a real estate syndicate, the total of depreciation allowances and mortgage interest will often exceed the rental income, so that distributions of income during this period are tax exempt in the hands of the investor.

When the distributions substantially cease to be tax exempt, the building is sold, a capital gains tax paid on the gain attributable to the depreciation allowances, and another building is acquired to provide another depreciation shelter. Withdrawal of capital gain treatment from the gain on sale of the building, to the extent of prior depreciation allowances, will substantially eliminate this kind of tax trafficking. The gain in revenue is estimated to be $200 million per year.

5. SPECIAL TYPES OF INSTITUTIONS

In an economy characterized by a great variety of institutions, the tax law must attempt as far as possible to provide uniform and nondiscriminatory treatment among them.

Various improvements of this sort are recommended in the President's message.

Cooperatives: The President has recommended legislation to insure that earnings of cooperatives reflecting business activities are taxed either to the cooperatives or to the patrons. Under the recommendation, cooperatives would be allowed to deduct amounts allocated in cash or scrip as patronage dividends and the patrons would be taxable on the patronage dividends allocated to them. As under present law, a patronage dividend received by a patron with respect to purchases by him of items for his personal use would not be included in his income.

In 1951, Congress enacted legislation which was intended to accomplish just this result. However, various court decisions have rendered ineffective the congressional intent by holding certain allocations of patronage dividends to be nontaxable to the patron, although such allocations are deductible by the cooperative.

As a result, substantial income from certain cooperative enterprises is not being taxed to either the cooperative or to its patrons. The President's recommendation would, in essence, fulfill the prior intention of Congress and remove a present inequity in the tax law.

The President also recommended that the withholding tax on dividends and interest at a rate of 20 percent be applied to patronage dividends. This would, in effect, assure the average patron of cash with which to pay the tax attributable to patronage dividends which he receives, since the 20-percent tax paid to the Government by the cooperative will come from its funds.

The President's recommendation will result in a method of taxation of cooperative income that is fair and just to both the cooperatives and competing businesses. It is estimated to raise revenue by $25 to $30 million.

Fire and casualty insurance companies: As indicated in the President's message, the tax provisions applicable to mutual fire and casualty insurance companies, originally adopted in 1942, are outmoded and result in an inadequate and inequitable distribution of tax.

Under the provisions of the present law, stock fire and casualty insurance companies are taxed essentially like other corporations on the basis of the application of the regular corporate rates to their combined investment and underwriting income.

Mutual companies in the fire and casualty insurance field, however, are generally subject to an alternative tax formula under which they pay the regular corporate rates on net investment income only