The Incredible Swelling Tax

Author: Economic Trends Edited by Margaret Popper

Published: September 30, 2002

Long a bane of the rich, the alternative minimum tax (AMT) is soon to become a middle-class problem. By 2010, a third of U.S. taxpayers will be paying the AMT rather than the lower regular tax, according to a new study by economists Leonard E. Burman, William G. Gale, Jeffrey Rohaly, and Benjamin H. Harris of the Urban-Brookings Tax Policy Center, a joint project of the two Washington think tanks the Urban Institute and the Brookings Institution.

The AMT has been part of the tax code since 1969. It was originally aimed at closing loopholes that allowed 155 families with incomes of more than $200,000--a princely sum in those days--to pay no taxes at all during the 1968 tax year. Since then, the tax's reach has gotten far wider. By the end of 2002, about 2.6 million taxpayers will be hit by the AMT, which will force them to pay more than they would have otherwise. Taxpayers must pay the AMT if it is greater than the taxes they would owe under the regular tax system.

And because the AMT is not indexed to inflation, almost 36 million will pay the tax by 2010, according to forecasts by the authors of the study. Many of these will be families with incomes under $100,000 in the year in which they have to file taxes. Among couples that are married, with two kids and household income of $75,000 to $100,000, 99% will be hit by the AMT, reckon the authors of the study. "That's astounding," says Gale. "We're talking about, say, a cop and a nurse."

These higher tax bills will wipe out the effect of the tax cuts slated to take effect over the next few years. For example, for households earning $75,000 to $100,000, the AMT reduces the value of the tax cuts by 42%.

Why does the tax hit these households? In part, under the AMT, taxpayers cannot deduct from their income any exemptions for children, or for state and local taxes. These exemptions make a big difference to middle-income families' tax bills.

Revamping the AMT to help these families would cost the government a lot in tax receipts. As it stands, the revenues brought in by the AMT are a major reason why the Congressional Budget Office's budget projections show a surplus by 2006. Just indexing the income calculations in the AMT to inflation would cost $400 billion to $500 billion in lost tax revenue between now and 2012. Perhaps that's why the Bush tax cut gave individual taxpayers relief from the AMT only through 2004. After that, the number of AMT payers will balloon.

The authors' suggestion: Repeal the AMT, which burdens the middle class unduly. Instead, they argue for making up the lost revenue by simply closing the loopholes in the regular tax system that lower taxes for the rich.