This is the third in a series of postings about the alternative minimum tax or AMT. In prior postings, I have discussed the function of the AMT, its expansion to a broader segment of taxpayers due to the changes to the regular tax and lack of indexation, and its origins as a backup system to the regular tax system intended to ensure that wealthy taxpayers pay at least some tax in spite of their ability to aggregate substantial "preferences". This posting will briefly set out the fiscal context against which any changes to the AMT must take place, including the impact of the 2001-2004 Bush tax cuts.
First, the effect of the 2001-2003 tax cuts has been to increase an already growing income disparity in the United States. The gap between rich and poor has been growing steadily over the last quarter century, with the top 10 percent of income earnings gaining while the bottom 90 percent have been losing. The median income of CEOs at public corporations in 2003 was $700,000, while the average income for taxpayers generally was about $44,000. 7 million families lived below the official poverty line in 2002, while top CEOs made as much as $35 million in one year.
The tax cuts enacted under the Bush administration have exacerbated the trend. Between 2003 and 2010, the top 1% of taxpayers will receive an average 15% cut in their tax bills, while the bottom 20% will receive an average cut of only 10%, according to Citizens for Tax Justice. If the tax cuts are made permanent (remember, they were enacted with a sudden death gimmick to hide their real cost), the top 1% of taxpayers will receive a tax cut that is 8000% that of the cut for middle-income taxpayers. Gale & Orszag, 104 Tax Notes 1559 (Sept 27, 2004). If long-term financing of the tax cuts is included, then about one fourth of American taxpayers at the top of the wealth heap get tax cuts that are paid for by the remaining three-quarters of American taxpayers who will have tax increases or benefit reductions. That's effectively a transfer from lower income Americans to wealthy Americans of between 15 and 35 billion dollars a year. Gale, Orszag & Shapiro, 103 Tax Notes 1539 (June 21, 2004).
Changes to the treatment of investment income--in particular, dividends and capital gains--in the 2003 tax legislation (generally known by its acronym as JGTRRA) were of special benefit to the wealthy. JGTRRA reduced the already low rates on capital gains even further--to 5% for net capital gains in the lower brackets and 15% otherwise. Those rates will reach 0% and 15% in 2008. These very low rates for capital gains are a significant benefit for the highest income taxpayers who own a hugely disproportionate share of all assets and in fact may receive most of their income in the form of capital gains rather than ordinary wages. The IRS's Statistics of Income data show that two-thirds of the income of the top 400 taxpayers from 1992 to 2002 was net capital gains. (Americans for Democratic Action notes that "The average income of the 400 wealthiest taxpayers in 2002 was an astounding $174 million." ) Furthermore, before JGTRRA, dividends from corporations were taxed at ordinary income rates, with a maximum rate of 35%. JGTRRA reduced the rates applicable to dividends to the same preferential rates given to capital gains. Since the wealthiest 5 percent receive 60 percent of all investment income, these changes guaranteed that the wealthy received the lion's share of the benefit from the Bush tax cuts.
Second, for all the talk about the need to favor capital to increase investment in productive activity, there is a vital link between the well-being of ordinary American workers and the U.S. economy. In fact, it is the consumption spending of wageearners that powers growth. When wages fall or prices rise, economic growth is endangered. Consumer Prices Increase, Outstrip Wages. Because it is ordinary Americans' daily consumption that drives the economy, we should pay particular attention to the impact of tax policies on ordinary working Americans.
Third, to fill the gap between the growing budget deficits and ongoing expenditures, including the occupation of Iraq and continuing military buildup, the U.S. debt load has grown enormously. At $7.9 trillion now, it is expected to increase to $11.1 trillion in 2010. The U.S. is now in the unenviable position of being the biggest debtor nation in the world. Foreigners hold more than 40 percent of our debt, with China, Japan, the U.K. and the tax haven banking nations in the Caribbean as the largest foreign holders.
Fourth, the Bush tax cuts, coupled with the growing costs of the Bush invasion and occupation of Iraq, have pushed the United States from a 2000 budget surplus to a growing budget deficit. Bush's FY2002 Budget originally justified the tax cuts based on projections of a budget surplus of $5.6 trillion over 10 years. When it was clear that the surplus didn't exist, the tax cuts were passed anyway, with a different rationale--to jumpstart economic growth. The expected deficits followed: $157.8 billion in FY 2002, $375 billion for FY 2003, $412 billion for FY 2004 (an all-time record), and $331 billion for FY 2005.
The Bush administration has made much of the "improvement" in the deficit situation because the 2005 deficit is $100 billion less than last year's. It is, however, still the third-largest budget deficit in U.S. history. If you take into consideration the fact that the Social Security surplus is being used to fund the regular budget, the deficit is actually even larger--$587 billion. The Congressional Budget Office notes that the temporary decline this year (due to a surge in corporate tax) will not be duplicated over the long term. The CBO Budget Outlook projects deficits of $2.1 trillion from 2006 to 2015, more than double the amount forecast just 5 months ago. The deficit for 2006 to 2015 is projected to be a staggering $3.4 trillion if Congress makes the Bush tax cuts permanent.
Because of the deficit, the tax cuts amount to a huge intergenerational transfer to the wealthy of today from American taxpayers in the future, who will have to make good on the massive U.S. government debt. Alan Greenspan, Chair of the Federal Reserve, suggested as early as February 2004 that the United States should make the tax cuts permanent by cutting back on Social Security and Medicare benefits--the insurance program that provides a guarantee to Americans that they will not be broke in their old age and that they will be able to afford basic medical care. One way or another, the debt burden will weigh on future Americans. It cannot be ignored in deciding what to do about the AMT.
Future postings will consider what changes to the AMT to spare ordinary, working taxpayers are reasonable in light of this background information, and whether it may also be necessary to undo some of the less justifiable changes to the regular tax system.