Additional tax sparks hot debate

Author: Brett Lieberman

Published: April 14, 2005

When Mary Jo Potter speaks about tax issues to retired Westinghouse engineers, she inevitably fields questions about the alternative minimum tax.

But when the team leader for H&R Block Premium Tax Service asks how many of the retirees have to pay the AMT, only one or two of the 100 or so retirees raise their hands.

"There's a lot of people panicking when they don't have to," Potter said.

Only about 2 percent of tax returns prepared by H&R Block, the nation's largest tax-preparation firm, are subject to the AMT, an additional taxing method that does not allow many of the deductions that can reduce income-tax burdens.

That's about the same rate seen by Camp Hill accountant Charlie Ruhl and other local tax preparers.

But as Americans rush to complete their tax returns by the filing deadline tomorrow, critics of the AMT -- created in 1969 because 155 of the super-rich legally avoid paying any federal income taxes -- warn that more and more of them could find they face hefty tax bills.

The average taxpayer subject to the AMT had to pay nearly $4,000 more on top of their regular income taxes.

In Pennsylvania, ranked 19th in the country for returns subject to the AMT because the state has lower taxes and incomes, the bite is closer to an additional $3,500.

Less than 1 percent of taxpayers paid the AMT until 2000. But by 2010, without changes in the law, about one-fifth of taxpayers will be subject to the AMT.

The situation is critical for taxpayers with large families or those who live in high-tax states such as New York, New Jersey, Connecticut and California.

What was once seen as a princely income has become more mainstream because standards were never adjusted for inflation over 36 years.

"It [AMT] is now pretty much invading the middle class," said U.S. Rep. Phil English, R-Erie, who chairs the ZERO AMT Caucus in Congress and wants to eliminate the tax.

English and other critics complain that the AMT strips taxpayers of tax preferences, makes them pay higher taxes and complicates the tax code. Most tax software should calculate whether a taxpayer needs to pay the AMT, but anyone who prepares a return by hand could easily miss it, several accountants said.

"That's bad tax policy. It's stupid, and this was never intended to be a working alternative tax system," English said.

Still, the people who pay the AMT are a small minority. Only 1.9 percent of the 4.1 million tax returns in Pennsylvania paid the AMT, and it accounts for only $274 million out of the $30 billion in federal income taxes Pennsylvanians pay.

Taxpayers likely to be hit with the AMT are those with large deductions for state or local property taxes, have several dependents, work in sales or for companies that do not reimburse for travel and other expenses, received large personal injury verdicts or those who exercised stock options.

Gerry Brill, a semi-retired patent attorney from New Freedom, had to pay about $100,000 in the AMT on the difference between stock options he exercised for $2 to $3 a share and the stock's $32 selling price.

"My argument is that the stock was selling for $32 a share, but I had pieces of paper and did not have any money until I sold it," said Brill, who sold most of his stock for about $60 a share.

Brill was luckier than many technology company employees, who lost money when their options became worthless after the stock market slumped. But he said it was unfair that he was forced to pay a tax rate close to 40 percent.

"It's not a fair tax," he said.

One of Ruhl's few clients hit by the tax had to pay an additional $2,000 after a $250,000 profit from a stock sale.

"A lot of clients are becoming more aware of it for the first time in their lives," said Ruhl, who advises clients to avoid certain tax-exempt bonds and other investments that could tip them over the threshold.

While critics like English want to do away with the AMT, Congress hasn't done so because it would cost the government an estimated $600 billion in lost revenues over 10 years.

More Americans would be dealing with the AMT, but since 2001 Congress has made incremental adjustments to raise the threshold. Without those changes, 18 million taxpayers would have to pay the AMT next year, up from 3.8 million this year.

Despite rhetoric from lawmakers such as English, co-sponsor of a bill to eliminate the AMT, Congress has been slow to act.

"2001 would have been a natural time to fix the AMT once and for all, but it would have been very costly," said Leonard Burman, co-director of the Tax Policy Center and a former deputy assistant secretary for tax analysis at the Treasury Department.

A commission President Bush created to study reforming the tax system is expected to recommend eliminating or modifying the AMT.

But even critics say a complete repeal is unlikely.

Tim Carlson, president the Coalition for Tax Fairness, acknowledged that AMT repeal would be "a tough pill to swallow," largely because of the steep cost. "They realize That's a big elephant to eat," he said.

Instead, Carlson's group seeks to bail out the hardest-hit taxpayers: Those who must pay the AMT after exercising stock options -- some of which turn out to be worthless.

"When the tax code is taking people's homes and their retirement and garnishing their wages for decades to pay taxes on money they've never received it is something we in America should not tolerate," Carlson said