A Tax With Staying Power

Author: Martin Vaughan

Published: April 20, 2004

Tax day has come and gone, and with it three letters politicians have railed against, journalists have issued shrill warnings about, and taxpayers across the land have come to dread. It's not the IRS, it's the AMT I'm talking about.

But for all the condemnations, predictions and legislative proposals to reform the alternative minimum tax or wipe it out altogether -- and there are more than a few -- the AMT probably will be a part of our tax reality for some time to come. A number of tax experts say the revenues generated by the AMT have grown to the point where -- barring a fundamental rewrite of our income tax system -- repealing it or even reducing its impact by half might not be politically viable.

Asked whether he expected Congress could pass legislation next year providing a long-term fix to curtail the AMT's growth, one top Democratic tax aide said, "No. Not unless you believe there will be a major restructuring of our tax law."

Added Rep. Richard Neal, D-Mass., a member of the Ways and Means Committee, "In 16 years in Washington, I've never been involved in a debate where members thanked me more for taking an interest in an issue and been less committed to doing something about it."

By now, the problem should be familiar. The AMT was created to ensure high-income taxpayers did not escape all tax liability through the use of exemptions and itemized deductions.

But while personal incomes rise with inflation, the AMT does not. Therefore, it snares a larger number of taxpayers each year. Since it does not allow personal exemptions, it has a disproportionate impact on couples and families. And since it doesn't allow deductions for items such as state income taxes and property taxes, it hits taxpayers in high-tax states like California, Connecticut and New York particularly hard.

Because they lowered regular income taxes without permanently addressing the AMT, the 2001 tax cuts further increased the number of taxpayers who would be subject to it in the long term. As a result, the cost of AMT repeal also increased.

In an April 15 analysis, CBO estimated the 10-year cost of repealing the AMT at $600 billion. But add an extra $300 billion on top of that if you assume, as many tax experts do, that the 2001 marginal tax rate cuts -- currently scheduled to sunset at the end of 2010 -- will be extended.

Without legislative remedies, the AMT looms large for middle-income taxpayers. It caught about 3 million taxpayers this year but is projected to catch 30 million by 2010. CBO estimated 95 percent of married taxpayers with adjusted gross income of between $100,000 and $200,000 would owe AMT in 2010.

To put that in perspective, a family of four with an income of $120,000 in 2004 would not be subject to the AMT, according to CBO's analysis. Assuming the AMT exemption amount remains constant with five percent inflation per year, the AMT first would hit the family -- and thus begin to erode its preferences under the regular income tax -- in 2007. By 2009, the family would pay $1,831 more in taxes under the AMT than it would under the regular income tax.

Neal first proposed legislation to repeal the AMT when it was only a speck on the tax horizon, affecting less than 1 percent of all taxpayers per year. His proposal would have paid for AMT repeal by raising taxes on the highest-income taxpayers and simplified the tax code by combining a number of tax credits.

But since then, the cost of repealing AMT has skyrocketed. Some observers said the much larger tax increase needed to pay for it is a political loser. The window for AMT repeal "is certainly closing," said Neal.

This month, Ways and Means Oversight Subcommittee Chairman Amo Houghton, R-N.Y., introduced an AMT repeal bill that is a complete departure from a proposal he had pushed in previous years. His earlier bill would have indexed the AMT exemption to inflation and allowed deduction of state and local income taxes against the AMT.

But Houghton's new bill does not peg the AMT exemption to inflation. To hold down the cost of the bill, it adjusts the exemption in a way that slows the growth in the number of taxpayers subject to the AMT, eventually repealing it in 2014, at a cost of about $260 billion.

An aide said Houghton switched tacks when he realized full repeal of the AMT could be accomplished for not much more than the cost of his original proposal to limit its scope. But critics said the new bill hides the cost of repeal by including only one year of repeal in the 10-year budget window.

Tax experts at the Treasury Department are working on a study of the AMT problem, and Treasury Secretary Snow has promised to include some sort of long-term AMT fix in next year's White House budget proposal. But many observers are skeptical.

"If they actually propose a fix, they will put out some different options and try to build a political consensus around one," said Urban Institute Senior Fellow Leonard Burman. Until that political consensus comes about, it might be time to start envisioning a truce, however distasteful, with the AMT. It could be around for a while.