Alternative Minimum Tax: Should it replace the regular income tax?
Some commentators, with varying degrees of seriousness, have suggested that Congress repeal the regular individual income tax and instead make the alternative minimum tax (AMT) the only federal income tax on individuals. Proponents claim that the AMT applies a lower, nearly flat rate to a broader base and therefore would raise revenue more efficiently than the regular income tax. However, that characterization of the AMT applies only to the highest-income taxpayers, the original target of the tax. Most taxpayers affected by the AMT today pay a higher marginal rate on a narrower income base than they would if they were subject to only the regular income tax. In addition, the AMT imposes large marriage penalties and causes "bracket creep," since it is not indexed for inflation.
- The AMT has only two statutory rates: 26 percent on the first $175,000 of alternative minimum taxable income (AMTI), and 28 percent on AMTI above that level. But the AMT actually imposes four marginal tax rates, not two, because the AMT exemption phases out as income rises. The exemption phases out at a rate of 25 cents for each extra dollar of AMTI above an income threshold ($150,000 of AMTI for married couples and $112,500 for singles). The phase-out thus eliminates the exemption entirely for couples with AMTI above $330,000 ($247,500 for singles). As a result, taxpayers in the phase-out range actually face higher effective tax rates of 32.5 or 35 percent, the latter equal to the top rate under the regular income tax (see figure 1).
- Significantly more AMT taxpayers-79 percent in 2009-face higher effective marginal tax rates under the AMT than they would under the regular income tax. That figure will rise to 90 percent by 2010 as the AMT ensnares more and more middle-income filers who would have faced statutory rates of 15 or 25 percent under the regular income tax (see figure 2).
- In addition, the relatively high AMT exemption means that the amount of income subject to tax under the AMT is often less than it is under the regular income tax. In 2009, 58 percent of AMT taxpayers will have more income subject to tax under the regular tax than theywould have under the AMT. That number will rise to 89 percent by 2010. Thus the conventional wisdom that the AMT applies a lower marginal tax rate to a broader income base is incorrect. In fact, exactly the opposite is true. Most AMT taxpayers face a higher marginal rate applied to a narrower tax base than they would if they were in the regular income tax system.
- The AMT creates enormous marriage penalties. In 2006, if the AMT had been the only tax system, a married couple with two children in which each spouse earns $50,000 would have paid $5,837 more in tax than if they were single and one spouse claimed custody of the children. The marriage penalty grows even larger at higher incomes, reaching a maximum of over $15,000 for couples with incomes of about $450,000 (although marriage penalties under current law are nearly as large at such high income levels).
- The AMT incurs significant "bracket creep:" the lack of indexing for inflation means that the tax rises in real terms as prices rise, unlike the regular income tax, which is indexed. Inflation pushes more income above the unindexed exemption threshold and, for high-income taxpayers, subjects more income to the exemption phase-out and the 28 percent AMT rate.