YOUR TAXES : PART FIVE: PAYING YOUR TAXES : Tax writers to take breather : Only a technical corrections bill is expected in 1987

WASHINGTON —  Late last year, in the basement of a Senate office building, the chief counsel of the Finance Committee’s Democratic staff sat surrounded by empty boxes waiting to be filled for a move upstairs to their newly won offices of the majority.

“A lot of the lobbyists are expecting us to go back to business as usual, fiddling with the tax code for the benefit of one industry or another,” said Bill Wilkins, as he surveyed the dingy offices that the Democrats had occupied during the six years the Republicans controlled the Senate.

But Wilkins, who is now the top aide to Finance Committee Chairman Lloyd Bentsen (D-Tex.), warned against expecting Congress to make any substantive changes in the massive 1986 tax bill, primarily because the federal government’s huge budget deficits continue to stand in the way of any costly new tax preferences. “Those guys are simply living in a dream world,” he said. “We just don’t have the money.”

Congress, after approving a substantive tax bill nearly every year since 1981, is about to take a breather. No wide-ranging tax changes are actively under consideration, and most analysts do not expect any substantive changes to the fresh new tax code until after President Reagan leaves office.

The only pressing tax matter on the agenda is a “technical corrections” bill aimed at cleaning up the mistakes that crept into the language of last year’s bill during the rush to win final approval. But it won’t even be considered by lawmakers until summer, and those actively involved in preparing the legislation say they are under strict orders not to tackle any major new subjects.

“There’s enough purely technical stuff that nobody is really looking at going beyond that,” said a House staff member on the Ways and Means Committee. “We want to take care of the screw-ups that should never have happened, not try to undo the aspects of tax reform that some people might not like.”

Staff members have identified as many as 300 different errors in the 1986 tax law, but almost none of them affect large numbers of people and less than a handful involve substantial sums of money.

Typical of the kinds of mistakes that the technical corrections bill should correct are a wrong address for New York’s Carnegie Hall, which is supposed to be the beneficiary of a special transition rule for its renovation, and the failure to eliminate another special tax break for a small group of investors in Colorado’s Cimarron Coal Co. that lawmakers intended to drop.

But some errors involve more complex and subtle problems.

The new law, for instance, apparently makes a mistake in the way it affects writeoffs for business assets that are transferred between taxpayers with personal or business ties. Congress intended, tax experts say, to prevent a taxpayer from qualifying for more generous depreciation treatment on certain assets under the new system simply by receiving the property from a related party. But as written, the law--instead of insisting that taxpayers continue under the 1981 accelerated depreciation rules--requires any such transaction to revert to the Draconian business writeoff system in effect before 1981.

“That was clearly not the intent, because it was a provision that wasn’t aimed at penalizing taxpayers for a normal transaction,” said Steven Corrick, a senior tax practitioner in the Washington office of Arthur Andersen & Co. “I think they will fix that in the technical corrections language.”

Nearly all such provisions affect only a relatively narrow class of taxpayers, and most of them are focused on complex business transactions.

Some ambiguous issues, however, have wider implications for a much larger group of individual taxpayers. While they do not strictly fall under the rubric of technical corrections, several lawmakers are pressing to include some relatively obscure changes in any tax bill that is approved later this year.

Homeowners, in particular, need to be wary of one crucial issue with a potential impact on millions of taxpayers, while owners of boats and recreational vehicles seeking to take advantage of the tax deductions for second homes should be aware that Congress might change the rules.

Homeowners who refinanced their homes on or before Aug. 16, 1986, for instance, may be under the impression that they do not need to worry about the new restrictions on mortgage interest deductions. By refinancing before that date, when tax writers approved a conference report on the bill, they apparently were allowed to deduct their full, current mortgage interest payments for as long as they owned their house with no worries about the new law.

If that applies to you, watch out.

In the future, homeowners may deduct interest on mortgages only as large as the original purchase price of a home, plus the cost of improvements. The limits could be exceeded only if the proceeds were spent on qualified educational and medical expenses.

But those who refinanced before last August could be subject to the new limits, according to draft regulations being prepared by the Internal Revenue Service, if they ever refinance again or if they add a second mortgage on top of their current loan.

Even if the refinancing does not increase a homeowner’s overall borrowing, the limit on mortgage interest deductions would be rolled back under the original-cost rule by any new mortgage transaction. Instead of using the mortgage amount outstanding on Aug. 16, 1986, as a benchmark, as many homeowners apparently believe, the IRS is drafting regulations to apply the new limits to all future mortgage transactions.

For example, a homeowner with a current loan of $100,000 at 12% interest on a house that he purchased years ago for $50,000 cannot continue to receive full interest deductions on a new $100,000 loan at today’s market rates of about 9%. The only way to escape the new limits would be to pour at least $50,000 of home improvements into the property or spend the money on medical or educational expenses.

“The intent of Congress was not to let the IRS abuse innocent homeowners,” said Rep. Robert T. Matsui (D-Sacramento), who has introduced a bill to prevent such homeowners from being snared by the new rule.

The outlook for Matsui’s bill, however, is unclear, so homeowners will need to be careful in considering any home mortgage refinancing.

Congress may also move to redefine a second home, which remains eligible for tax deductions under the new law, while many other real estate investments are subject to drastic new curbs.

The difficulty arises in an earlier decision on what constitutes a second home, since many boats and recreational vehicles qualify as second homes if they include cooking and toilet facilities. Some lawmakers and Treasury officials are disturbed by boat and RV dealers who are encouraging sales by pointing out that their products remain qualified for second home deductions.

Lawmakers are looking at ways to restrict the deduction to traditional buildings.

But even as Congress picks around the edges of the new tax law, nearly all of it is expected to remain intact at least until Reagan leaves office. After that, however, many analysts believe the individual tax rates--the lowest in more than 50 years--will begin to creep up once again.

Except in relatively rare circumstances involving real estate income, the top individual rate this year is 38.5%, dropping in 1988 to a rate of 28% on the highest incomes, with some affluent taxpayers subject to a 33% marginal tax rate due to a phase-out of the benefit of the lower 15% rate.

“If you have to take income in a particular year, make it 1988,” suggests Emil Sunley, director of the Washington office of Deloitte, Haskins & Sells, a leading national accounting firm. “There’s a good chance we will never see rates that low again.”

And Bill Diefendurfer, who was the top aide to former Senate Finance Committee Chairman Bob Packwood (R-Ore.) during last year’s tax deliberations, warns that the key roadblock to higher taxes will be removed by early 1989. “After Reagan,” he said, “comes the deluge.”

But some tax analysts are firmly convinced that Congress will avoid wholesale tampering with the new tax law for many years. “Tax reform is the Philadelphia of American politics,” said Henry Aaron of the Brookings Institution here. “It’s a place that one might want to visit, but not too often.”