Alternative Minimum Tax

When the Alternative Minimum Tax (AMT) was implemented in 1969, it was created so that the wealthy people in the United States couldn’t write off their deductions and pay nothing in taxes.  This solution worked in the late sixties through the mid to late seventies, but it doesn’t work today.  The reason why is because it wasn’t adjusted according to inflation.  People are making more money today than they did in the seventies but a lot of it has to do with inflation.  The dollar just isn’t worth as much.  The lack of inflation adjustment and the growth of the economy has resulted in many more people paying the Alternative Minimum Tax that are not considered to be wealthy.  In 2001, about 2,100,000 people had to pay the Alternative Minimum Tax.  By 2010, about 16% or 40 million people will have to pay the tax.  The tax rate increases to 28% for higher incomes. (For married taxpayers that file a separate return, the cutoff amount of income between the tax rates is $87,500.)  If this tax (which I think is important) is not altered so that it adjusts to inflation, we will see considerable increases in our taxes which will slow down our economy.  (If each of the 40million people made $87,500, they would end up paying $980 billion by themselves!)


Senator Miller said...

After reading this blog. You can't help but wonder "How is it, that those lawmakers and officials haven't taken into account inflation into the tax system?" It seems ridiculous that people would allow this 30 year old standard would remain the same despite all the change in inflation, or maybe the government knows exactly what they're doing and it trying to steadily increase their tax revenue. Either way, I'm sure a tax reform in the not too distance future will take care of this problem seeing how it will tax those it originally wasn't meant to tax.

Ned said...

I'm sure they've noticed the problem. But maybe they wont change it in the near future. The government looks for money any way they can get it, and this is a perfect opportunity to raise people's taxes and blame it on rising income despite real income v.s. nominal.

Dr. Tufte said...

The posts and comments here are all good.

There is no reason for the AMT not to be indexed. But, I wouldn't expect it to happen anytime soon. Bracket creep (the shift of payers to higher tax brackets by inflation, rather than by increasing real income) is an insidious problem that people don't tend to notice unless a lot of people are being bumped up simultaneously. Since we seem to understand how and why to keep inflation low, bracket creep in the AMT is likely to go unnoticed.

I'll also go out on the cynical limb and note that I don't think Congress is very interested in changing tax programs that are bringing in more money than they planned them to.

Boris said...

I agree with all of the posts so far. The AMT issue is definitely common knowledge to those setting the tax rates. And, I do agree that it's probably still at the same rate to increase tax revenues. I think that because the AMT in generally an unknown to the public, most people don't care about it. Politicians probably avoid talking too much about it because it doesn't affect the majority of their target audience. The upper income voters only make up a small percentage of the population, and how many lower income families are going to vote for a policy that gives the rich a tax break?

I do think this is a serious issue that needs to be addressed though. It's just another example of politics getting in the way of economics.

Lizzie said...

Why would Congress want to “fix” something that in their mind isn’t broken? This tax is keeping the rich from writing off everything (which was the original purpose) and is bringing in extra money for the government (bonus). Where is their motivation for change?

PigInZen said...

We became subject to the AMT this year for the first time. From what I understand, it typically happens through excerising stock options. We're in a high tax bracket but we are definitely not rich - at least by my definition. We live in a middle-class community, drive nice cars, have regular jobs. Our house is not huge nor is our tax deduction from it. We are one of the many new AMT-paying citizens in the U.S. It's a growing issue and it's one of tax fairness. I don't have a problem in paying taxes; far from it, I GLADLY pay taxes. There is a bona-fide benefit from doing so and I'm not just talking about avoiding penalties from tax cheating.

From my research into AMT (when it cropped up on my tax return that I personally prepared) it looks like a taxpayer can fall into two categories that can trigger AMT: those exercising certain stock options or those with disproportionate mortgate deductions. The unfortunate fact about the latter category is that some regions of the country have dramatically higher housing costs; therefore what could be an "average" or "median" house in one location could carry a mortgage that would purchase a mansion in another. This is unfortunate and seemingly unfair; it just so happens, however, that many states with high housing costs vote - you guessed it - for Democrats. Blue states. Therefore, there is even LESS incentive for the current administration and legislature to fix this issue; the majority of the affected may not be their constituents. Besides, as has already been pointed out upthread, AMT has become a major revenue stream for the Treasury Department.

Unfortunately this has been an unintended side-effect of the Bush tax cuts, especially in my situation. Our overall tax rate declined but we became subject to AMT. Becuase AMT cost us $4,000 in additional taxes my overall tax rate didn't go down - it increased. But we don't hear much about this, do we?

OK, time to take off the tin-foil hat. I'm just annoyed by this, for obvious reasons.

Dr. Tufte said...

Note to students: PigInZen is someone from out on the internet who thought it important that you hear their side of the story.