the attention of a faculty person and consider the student as simply a technician.

While barber colleges and dental clinics have low fees and attract a class of clients who will pay such fees, the university applied research and testing services are available at fee schedules equal to that of their taxpaying competitors and they attempt to attract the better class of industrial clients.

This university official's statement develops these questions: (a) Are universities interested in attracting the same caliber industrial client who would compare with the client utilizing barber and dental school student services? (b) Are they implying that they use students for most of the planning, executing and reporting of projects for their clients? (c) Are they ready to have this information made available to industry?

It is agreed that educational institutions need industry and Government support. This can best be done by sponsoring and supporting basic research. Industry and Government cannot continue to be concerned only with applied research, nor can universities justify their existence by emphasis in this area. Indeed, this trend for the past 20 years is largely responsible for our failure to keep abreast of scientific advances. The well of basic knowledge has gradually been pumped dry. The ability of our Nation to compete in the field of science in the future will depend on our greater attention to basic research. Universities and research institutes should devote the majority of their research activities to basic problems with results freely and immediately available to the public. If the university insists on operating a business of applied research and testing, with results kept confidential for the sponsor, then they need separate that part of operations from the university, designate it as an outright business, and pay taxes on such income, property, etc. We do not believe taxpayers intended to provide facilities and personnel for the operation of any kind of business. If so, then we should sponsor and encourage the use of maintenance departments of universities to provide auto repair, television servicing, plumbing, electrical, and other services for the general public. No doubt these maintenance departments have been and could continue to purchase, install, and operate unusual and special equipment which taxpaying competitors could not afford. The extension of this philosophy is obvious. We would gradually undermine our economic structure, destroy our American way of life, and arrive at a state of complete socialism.

Opportunities for broadening the tax base

One of the main purposes of this study being made by the Ways and Means Committee is to find methods for broadening the tax base. This statement has clearly outlined the system used by so-called nonprofit research institutes in operating profitable, tax-free, multimilliondollar businesses in the field of applied research and testing. Removal of the tax-exempt status enjoyed by such institutes would aid materially in broadening the tax base and assist in the possible reduction of individual income tax. There is absolutely no valid data to support the theory that proper taxation of institute business would in any way curtail research activity. This argument is used as a smokescreen to divert attention from the true issues.

It is inconceivable that our taxpayers should subsidize and support the profitable operations of research institutes whose major concern is providing applied research facilities for industry and Government, especially since the benefits of such research are held confidential for the industrial sponsor. This, then, is a proper place for removal of tax exemption since it will in no way reduce research activities, it will broaden the tax base, and it will aid in reducing individual income tax.

Summary and conclusions

Only one phase of the "tax exempt organizations" problem has been reviewed in this statement. It is recognized that the improper and unfair tax exemption enjoyed by research institutes and certain departments of universities is only one of the dozens of such tax inequities which exist and which deprive our Government of millions of dollars of tax funds annually. However, the status of the research institutes and their method of operation is typical of similar taxevasion techniques which have been developed in many other areas. Data have been presented to show that the so-called nonprofit research institutes are primarily engaged in commercial businesses concerned with supplying applied research and testing facilities, to show that they devote only a very small portion of time and effort to basic research for the public good, and to point out that they keep the majority of research data confidential for the exclusive use by industrial sponsors with very little publication or release of research data for public use.

Evidence presented clearly demonstrates that the institutes do make a substantial profit even though this may be classified under some other term. It is shown that they owe their growth primarily to the improper use of tax exemption. Further, such growth of facilities has created unfair competitive problems. The only thing this has done for the public is to narrow the tax base and aid in increasing the individual income tax.

It has been established that applied research is an industrial service. Science is a national resource which occupies equal position with other national resources such as our tremendous productivity on farms and in our factories. These all contribute to our economy and high standard of living. Science, as knowledge, basic or applied, has been properly held in great respect in this country and we have properly had equal respect for the development in agriculture, labor and industy. We have realized for a long time that scientific research is a service which feeds industrial growth, just as we have recognized that many other industrial services have been equally important in maintaining, supporting and/or developing our rapid advances in agriculture and industry. Thus, research has become an industrial service business and now has functions, stature and responsibilities of the same type as medicine, education, law, architecture and others available to individuals, industry and government on a fee basis.

It should be emphasized again that science is an industry and data has been presented to show the magnitude of one phase of the science industry. The growth of science professionally and scientific research, especially that within government, has obscured the fact that these are of such volume and magnitude as related to the industrial world that increasingly they constitute in themselves a separate industry,

much in the way that advertising, communications, transportation are definite industries. That these are service industries does not at all preclude them from being classified as industrial.

The areas covered by basic research and applied research have been outlined in detail. It has been shown that, with few exceptions, it is quite a simple matter to show whether any research project is basic or applied and to determine when the character of the project may change from one type to the other.

There is no controversy concerning the fact that true basic research activities carried on in institutes and universities should be properly tax exempt, provided that the findings of such basic research are published without delay, except when national security is involved, and made freely and completely available to the public. Then and only then are such basic research activities properly serving a public service and, as such, entitled to tax exemption. When applied research and testing results are held confidential for exclusive use of the sponsor, when patents are assigned exclusively to the sponsor, and when the publishing of such results is deliberately delayed to permit exclusive use of data to gain competitive advantage, then we have a clear case of outright business operation which is perfectly proper in the business sense, but which has absolutely no public service feature and there is definitely no basis for permitting such business to be tax exempt in any manner.

Documented evidence is available to show that research institutes devote only a small percent of their facilities to basic research for public good. One Government survey found such basic research accounted for only about 6 percent. The 94 percent was in the area of the business of applied research. Another survey by the U.S. Bureau of the Census shows that of the total funds for the performance of research and development in all sectors of the economy in the United States in 1957 only about 3 percent was used for basic research.

The argument that taxation of applied research and testing business income in institutes would interfere with, impede, or reduce such activities is without foundation. It is ridiculous to think that industry or Government would even take such a matter into consideration. Industry and Government continue to expand their use of other services and production facilities without concern and with the expectation that such orders are being given to firms or individuals who are paying their fair share in the cost of maintaining our Government. Why should they have a different and special attitude about a business supplying applied research and testing services?

Finally, and most important, it has been shown that the improper tax exemption on incomes from applied research and testing businesses carried on by institutes results in the loss of large sums of tax money each year, that this reduces the tax base to a very appreciable degree, and that such improper tax exemptions are a material factor in increasing the individual income tax.

The improper tax exemption of the so-called nonprofit research institutes presents a fertile field for investigation and study by the Committee on Ways and Means to develop constructive reform of the Federal income tax.

BUSINESS INCOME OF EXEMPT ORGANIZATIONS

Norman A. Sugarman, attorney, Cleveland, Ohio

Consideration of the subject assigned for discussion, namely, the treatment of business income of tax-exempt organizations, involves revisiting a subject on which Congress legislated nearly 10 years ago.

Since the announced purpose of this hearing is exploratory in character and is designed to examine our Federal income tax laws in the light of basic principles, I would like to address my remarks to principles rather than to a discussion of individual cases. I shall assume, however, that in listing this subject for discussion, the committee desired consideration primarily of that group of organizations which are not only exempt under the Federal income tax, but also contributions to which are deductible; namely, those under section 501(c)(3) of the present Internal Revenue Code, in particular charitable, educational, and scientific organizations.1

BASIC CONSIDERATIONS INVOLVING THE REASONS FOR TAX EXEMPTIONS

Exemptions are sometimes provided under a tax law for reasons of administrative simplicity-such as that the level of income is not likely to warrant the cost of collection and payment. However, when income tax exemption is also coupled with an allowance of a deduction for contributions to an exempt organization, then it must be recognized that the exemption of the organization is based on more than just administrative grounds and that there is an important policy favoring exempt organizations.

Since its inception in 1913, the income tax law had contained an exemption for charitable, religious, educational, and scientific organizations. The predecessor of this law, the 1909 corporate income tax law, contained an exemption for charitable, religious, and educational organizations.3 The addition of the scientific exemption in the 1913 act was explained by its sponsor, Congressman Rogers, of Massachusetts, as being appropriate because of the belief that the institutions engaged in scientific research "certainly ought to be treated on the same basis as religious, charitable, or educational corporations." The allowance of the deduction for contributions to such organizations first

1 Under existing law these organizations, although they may be exempt, are subject to tax on their "unrelated business taxable income." I.R.C. sec. 511 et seq. This tax does not apply to "a church, a convention or association of churches"; but it does apply to organizations exempt under the following other provisions: sec. 401 (a) qualified pension and profit sharing trusts; sec. 501 (c) (5) labor, agricultural, or horticultural organizations; sec. 501 (c) (6) business leagues, chambers of commerce, real estate boards, and boards of trade; sec. 501 (c) (2) corporations holding title and paying over income to an exempt organization subject to the tax.

2 Act of Oct. 3, 1913, sec. II(G) (a), 38 Stat. 114.

3 Act of Aug. 5, 1909, sec. 38, 36 Stat. 11. This exemption provision apparently was derived from the similar provision in sec. 32 of the Revenue Act of 1894, 28 Stat. 509, 556 (which act was later declared unconstitutional). • Congressional Record, vol. 50, pp. 1305-1306.