--all expenditures "for the promotion or defeat of (i) Influence members of a legislative body (ii) Influence the public to approve or reject a measure in a referendum, initiative, vote on a constitutional amendment, or similar procedure."2/ --all expenditures "for political campaign purposes. 3/ --all expenditures "for carrying on propaganda (including advertising) relating to any of the foregoing purposes." 4/ The IRS provided one further illustration of a nondeductible expenses "in connection with any attempt to influence the general public, or segments thereof, with respect to legislative matters, elections, or referendums." It ruled that: [N]o deduction shall be allowed for any expenses Finally, the IRS was not prepared to allow taxpayers to achieve by circumvention that which they were not entitled to directly. Thus, if a taxpayer paid dues or made contributions 1/26 C.F.R. $1.162-20 (c) (1). 2/ 26 C.F.R. §1.162-20 (b)(2), which is incorporated by reference into $1.162-20 (c) (1). 3/ 26 C.F.R. §1.162-20 (c) (1). 4/ Id. 5/ 26 C.F.R. $162-20 (c) (4). to an organization such as a trade association which devotes a "substantial part" of its activities to "indirect" lobbying (i.e., "legislative matters, political campaigns, etc."), only those portions of the dues or contributions which do not relate to "indirect" lobbying may properly be included as a business expense deduction. It is the taxpayer, however, who has the burden to "clearly establish" what portion of the dues or con2/ 3/ lobbying tributions is deductible. As I will explain later, there are weighty constitutional and policy considerations behind the elaborate set of rules that distinguishes deductible "direct" lobbying expenditures from non-deductible "indirect" or "grassroots" lobbying costs. In view of the importance of these rules, one might reasonably expect that their enforcement would receive some priority--not only because millions of dollars are involved each year, but because the infusion of dollars into the political process has the potential for drowning out more meagerly financed voices. However, my analysis of the documents obtained by this Subcommittee leads me to the conclusion that there are wholesale violations of the Internal Revenue laws; that the IRS has been grossly negligent in enforcing the laws against the violators; that reform measures 1/ 26 C.F.R. §162-20 (c) (3). 2/ Id. 3/ Expenses associated with Section 162 (e) (2) activities are to be recorded on line 5 of Schedule M-1 of the corporate tax return. A sample Schedule M-1 is attached to this testimony as Appendix A. must be adopted if there is to be any hope of policing the conduct of those who engage in "indirect" or "grassroots" lobbying. The violations of which I speak appear to involve literally millions of dollars. Most of this money has been spent on advertising campaigns that seek to persuade our lawmakers, either directly or else indirectly through efforts to encourage the public to contact those lawmakers, to propose, support or oppose legislation or that seek to influence a referendum vote. While such sums are clearly non-deductible, they appear to have been classified as deductible business expenses by numerous corporations. The result is a rip-off of the U.S. Treasury and a distorted marketplace of ideas. How do such violations occur? In some instances, there. would appear to be absolutely no excuse, such as when a corporation contributes tens of thousands of dollars to defeat a referendum and yet considers these expenses as legitimate business deductions; intentional misconduct, rather than recklessness or negligence might properly describe that action. In other instances, careless bookkeeping on the part of the taxpayer may be involved, so that little or no record is kept of "indirect" lobbying expenditures. In a great number of situations, lack of communication with a trade association to which the corporation contributes dues is the critical factor; trade associations may not themselves keep account of "indirect" lobbying expenses and even if they do, they may not regularly report them to their members-- who obviously are then unable to account for the portion of the dues that is a non-deductible expense. In many cases, corporations appear to have cavalierly classified non-deductible "grassroots" advertising associated with lobbying activities to a deductible account for "institutional" or "good will" advertising. Finally, some companies appear to have great difficulty in understanding the relevant Internal RevenuCode sections, and do not seem inclined to educate themselves. I will explore each of these categories of violations, in terms of the applicable laws and with concrete examples of apparent misconduct. Before proceeding, however, I think it is important to have a better understanding of policies behind and history of the Internal Revenue Code treatment of lobbying expenses. III. THE INTERNAL REVENUE CODE POLICIES BEHIND SECTION 162 (e) (2). Under the general scheme of the Internal Revenue Code, federal income tax is calculated by first determining the amount of all income received by an entity. From this amount, called gross income, are subtracted deductions, which are specifically enumerated by Congress. The remainder is taxable income, to which the applicable tax rate is applied. Deductions are a matter of Congressional grace. 1/ Taxpayers have no inherent right to take any deduction from their gross income that is not specifically permitted by Congress. Many of the deductions allowed under the Internal Revenue Code are permitted for the purpose of reaching an amount roughly equivalent to a taxpayer's net income or net profits. Other deductions are permitted to promote various policy objectives. Likewise, the decision not to permit a deduction, especially where, owing to the pattern of the Code, it would be expected, also reflects a policy rationale. Such is the case with Section 162 (e) (2). In general, Section 162 permits a deduction from gross income for all of the "ordinary and necessary" expenses paid or incurred during the taxable year in "carrying on" any trade or business. The principal purpose of this Section is to permit taxpayers to deduct all amounts which are spent in earning income. Subsection (e) (2) of this Section is a specific exception 1/ Commissioner of Internal Revenue v. Sullivan, 356 U.S. 27 (1958). |