Commentary

Maximizing the Minimum Tax

This article originally appeared in the Washington Times on March 20, 2005.
Proponents of unlimited tax and spending increases stumbled on a rhetorical gimmick for blaming President Bush for the foibles of his Democratic predecessors.

A New York Times editorial, “Mr. Bush’s stealthy tax increase,” claimed, “President Bush is presiding over a big middle-class tax hike.” That is because rising nominal incomes will push more and more taxpayers into the “alternative minimum tax” (AMT). Such partisan complaints are ironic because the AMT was invented by Democrats to squeeze more taxes from the rich. It does so by denying those with higher incomes deductions and personal exemptions available to other taxpayers — that is, by denying equal treatment under the law.

Such discriminatory thievery first began as an extra 10 percent tax under President Johnson. But the modern AMT began in 1978 under President Carter, when the alternative tax was high as 25 percent on income that excluded many itemized deductions. The AMT was reduced to 20-21 percent under President Reagan, but subsequently raised by President Clinton to 26 percent on income between $100,000 and $175,000, and to 28 percent above that.

This Carter-Clinton tax has been creatively redefined as “Mr. Bush’s” fault, even the accusers vehemently oppose repealing the AMT. They say it is an unfair tax for those with a middling income, but a fine device for picking the pockets of those who earn too much. Personally, I would repeal the AMT or let it fester and see what happens.

The New York Times says, “By 2010, nearly 30 million taxpayers will be hit — among them, a staggering 94 percent of married filers who have children and make $75,000 to $100,000.” Those estimates appear to be derived from a paper by economists of the Urban-Brookings Tax Policy Center in the National Tax Journal, May 2002.

The Times’ editorial writers blame Mr. Bush because if tax rates had not been shaved in 2003, then more people would end up paying regular tax rates of 36-39.6 percent, rather than AMT rates of 26-28 percent. “As tax cuts reduce the liability on a filer’s Form 1040,” says the editorial, “alternative tax kicks in. In effect, it claws back all or part of the supposed savings from the Bush tax cuts. By 2010, the Bush tax cuts alone will cause an additional 17 million taxpayers to owe the alternative tax.”

Watch out for the old shell game, wherein the pea has already been hidden as we foolishly watch the shells being moved around the table. In particular, saying more taxpayers may be subject to the AMT in the future is not at all the same thing as saying they will pay more taxes than if tax rates had not been reduced. The former is likely true; the latter is not. If you look at both the income tax and the AMT, the “big middle-class tax hike” is actually a significant middle-class tax cut. “By 2010,” Tax Policy Center economists predicted, “AMT returns will account for 55 percent of all AGI. More strikingly, by 2008, it will cost less to repeal the regular income tax — by setting the tax rates equal to zero and abolishing all credits — than it will to repeal the AMT.” That is not as striking as it sounds because nearly all income tax revenue is collected from those with high salaries, who are most vulnerable to the AMT.

The center estimates the AMT will raise an extra $104.5 billion in 2010, while “repealing” the rest of the income tax would cost only $57.8 billion. Without the Bush tax cuts, the AMT would have raised only $34.2 billion more, but repealing the conventional income tax would have cost 4 times as much — $221.8 billion. Taking those estimates at face value, the net reduction in individual income tax will then amount to $93.7 billion a year. That’s not much, but even a small tax cut is more than the president’s critics can stand. Without the Bush tax cuts, many more people would have been subject to income tax rates above the AMT levels. As a result, they would not be “hit” or “clobbered” by the AMT, but would instead be hit even harder by higher tax rates.

The Times finds it “most outrageous” that “only 35 percent of taxpayers who earn $1 million or more will owe the alternative tax,” concluding “the people who should be paying the alternative tax do not.” But these taxpayers are less often subject to the AMT because deductions are phased out at higher incomes, leaving them subject to a 35 percent tax on salaries, bonuses, stock options, royalties and interest income. The percentage of taxpayers affected by the AMT is no indication how much tax is paid under the AMT alone, much less the total income tax. The Tax Policy Center table estimates the average AMT for those earning $1 million or more will be $97,110 in 2010, while the AMT for those earning $75,000 to $100,000 will be $1,671.

A Wall Street Journal reporter recently editorialized that the president’s budget “doesn’t include… costs that are likely to be incurred (there is nothing provided for adjusting the alternative minimum tax, for instance).” But what is “likely” to happen is anyone’s guess, and the president is not obligated to budget for policy proposals he has not made. Besides, some Dec. 28 advice from the same paper explained, “it often makes sense to push income, such as a big bonus, into AMT years, when it might be taxed at a lower rate.”

The Carter-Clinton AMT is a ridiculous tax, but how terrible it is depends on what sort of tax increases are proposed as the price to “adjust” or eliminate it. The Times says, “The obvious answer is to restore the alternative tax to its true anti-sheltering purpose by fully taxing capital gains and dividends under the alternative system.” Under this scheme, the tax on capital gains and dividends — which has nothing to do with sheltering — would be nearly doubled. That sounds like an obviously awful answer to me, and to the Congress. Besides, contrary to the editorial, long-term capital gains can and do trigger the AMT.

John Podesta, former Clinton chief of staff, promises to scrap the AMT in exchange for taxing all income above the 25 percent bracket at 39.6 percent, including dividends and capital gains. That is like asking taxpayers to jump out of a lukewarm frying pan into a blazing fire.

Alan Reynolds is a senior fellow with the Cato Institute and a nationally syndicated columnist.