realization that internally-generated funds are almost the sole source of capital for independent businesses. The data are clear: there is no public market at all for the securities of small or medium sized firms in the late 1970's. Furthermore, we are certain that few private sources of capital are available. To give testimony on this point, we cite the recent report of SBA's blue-ribbon Task Force on Venture and Equity Capital for Small Business. That group concluded: "It is alarming that venture and expansion capital for new and growing small businesses has become almost invisible in America today." The largest corporations, on the other hand, are tapping the public securities markets at an alltime record rate.

3. There can be no question but that the COSIBA proposal will be most effective in providing incentives for business growth. The table below indicates the tax savings which will accrue to smaller firms, and those dollar savings will surely be converted into business growth, modernization, and increased employment. We know that the membership of our associations will utilize the tax break for those purposes; furthermore, these higher levels of retained earnings will at least partially offset the dangerous trends toward higher debt-to-equity ratios which threaten the existence of every independent business in times of tight money, inflation, or business downturns.

Joining COSIBA in endorsing additional steps in the corporate tax structure are the SBA Task Force mentioned earlier, the Treasury Department Small Business Advisory Committee on Economic Policy (which filed its

report in December 1976), and scores of Senators and Representatives.

Smaller firms make little use of the complex provisions of the Internal Revenue Code allowing rapid depreciation (investment tax credit or accelerated depreciation ranges). To simplify the Code and to permit additional capital formation for capital-intensive businesses, COSIBA proposes a schedule with only three categories of useful life:

Highway transportation equipment, tools, dies, and other similar

Machinery, equipment, and fixtures. Office furniture and equipment.

Categories one and two would be limited to $100,000 a year total

additions to assets for each business, with no carryovers permitted.

-6

Category three would be limited to $200,000 a year with no carryover permitted.

B. EXPLANATION

COSIBA believes that this proposal would be most effective in all three areas specified as criteria for Carter Administration tax policy: (1) it is simple; it would reduce the present 100 categories of assets to just three, thus simplifying tax accounting for small firms. (2) It is equitable; the complexity of the present Code gives big businesses a definite, though unintended, advantage over their smaller competitors. (3) It is effective as an incentive to business growth; it will increase cash flow for those firms which purchase assets for their operations.

The present Internal Revenue Code contains a tremendous bias in favor of the sale of small businesses to big business through the taxfree stock exchange provision. To remove that prejudice and to encourage investment in smaller firms, COSIBA proposes that the proceeds of sales of interests in qualified smaller businesses be exempted from capital gains taxes, provided the proceeds are reinvested in other small - businesses in a two-year period.

98-762 0 - 78 - 25

We have already demonstrated that retained earnings are almost the sole source of capital for independent business, but that should not be the case -- and need not be the case. COSIBA believes that Americans should be encouraged to save and to invest and that some incentives should be given to investment in smaller businesses.

The increasing levels of capital gains taxation at both the Federal and state levels have significantly decreased the attractiveness of investment for every citizen and investment in the riskier securities

-

of younger and growing concerns has all but ceased.

We shall do no more than mention the obvious fact that dependence upon borrowings, as opposed to equity financing, carries with it the perils of shut-downs during periods of economic down-turn or high inflation and exacerbates the problems which accompany such times.

We agree with the SBA Task Force when it states "Well-intentioned efforts to protect investors inadvertently place small businesses at a disadvantage in competing for available funds." We do not argue with the purposes of those actions, but we point out that our proposal for deferral of capital gains taxes represents a postive means for offsetting te impact of those other Federal legislative and regulatory restrictions. The increase in capital gains taxation has seriously impacted upon the risk/reward ratio established by professional venture capitalists to determine whether or not it is rational to invest in a growing business. The reward has been decreased by Federal and

-8

state tax laws, while the risk has been increased through the unavailability of outside sources of equity and the resulting dependence upon debt financing. The venture capitalist, too, has been forced to disburse his funds in the form of debt and that merely makes a bad situation worse. Incidentally, in terms of numbers and size of resources, the size of the venture capital community has decreased; our proposal on capital gains taxation will bring additional dollars to the venture capital industry and will permit those companies to place additional equity dollars in the birth and growth of small businesses.

Let us speak again of equity in respect to this proposal. We believe the most pernicious feature in the entire Internal Revenue Code is the one which allows the tax-free sale of a business to a large, publicly-held corporation. Today, any rational entrepreneur has only one means for cashing in on his success in creating and guiding his business to profitability: he has to sell out to a big business, often one of his larger competitors. We say that the Code's present bias in favor of mergers and sell-outs is an abomination which flies in the face of the fundamental basis of our free enterprise system.

It's apparent that COSIBA's proposal for deferral of capital gains taxation is not original; several precedents exist, including the deferral of taxes in home sales, condemnation proceedings, and retirement plan istributions.

Revenue Loss: We can provide no estimate.

Logic indicates that

the substantial transactions which would occur if this provision were enacted are already subject to deferral under the corporate reorganization