Middle income taxpayers – beware – the dreaded Alternative Minimum Tax (AMT) is about to bite you in the butt.
The AMT makes for a fine Exhibit A for anyone trying to make the case that the U.S. tax code is a mess. And that means it may have some positive political value as Congress struggles with the fiscal cliff and its tangled collection of expiring tax breaks. The AMT is so unpopular that lawmakers may be able to use its elimination as a kind of “carrot” to get lawmakers to move along toward compromise.
In 1969, Congress enacted an individual AMT to ensure that everyone paid a minimum amount of taxes, even while preserving tax breaks written into the code as economic and social incentives. Congress wanted to keep the mortgage interest deduction as an incentive for investment in real estate but with the lengthy number of deductions available, they didn’t want the wealthy to not pay their “fair” share. By enacting the AMT they forced the wealthy to calculate taxes the regular way and then again the AMT way and pay taxes on the higher of the two.
But Congress did not build in an inflation escalator. And then it cut tax rates. The combined effect of higher inflation and lower rates played havoc with the intention of the AMT, allowing the parallel tax system to cover more and more middle-class families. A tax that was supposed to hit only the richest Americans must continually get updated or it will affect larger and larger numbers of average people.
Anyone who follows the adventures of the alternative minimum tax has to be getting sick of the many sequels. Again and again, this unpopular income tax threatens to hit middle-class families with large and unexpected tax increases. And each time the threat reappears, Congress applies a “patch” to fix the problem temporarily.
And, unless Congress applies a new patch, this year the AMT will apply to nearly half of people with incomes of $75,000 to $100,000. Without action, an estimated 27 million more tax filers could find themselves paying an average of $3,700 more in taxes for 2012.
Even if the new, incoming Congress applies an AMT patch after January, experts say it will be an accounting nightmare. It’s difficult to undo the tax once the filing season has begun in January, and at the least, it would result in long processing delays of all returns.
Eric Toder, co-director of the Tax Policy Center, says the problem is that the AMT — if unpatched — generates loads of theoretical tax revenues in coming years. When Congress puts together the annual federal budget and projects deficits into the future, it knows that having an unpatched AMT will make the fiscal future look brighter. But each year, Congress does not allow those projected revenues to actually come into Treasury coffers because it patches the AMT.
The AMT exists today to make Congress look less inept at budgeting in the future. “They can only afford to kill it a year at a time. It’s a mess.”
It is political gaming at its best on Capital Hill.