I received an interesting email today--one of many that are now sent out seeking publicity for someone who has written about, or wants to advise on, certain tax positions. This one starts out as follows:
"We are currently experiencing the lowest income tax rates in America's history."
Now, if you read much that is put out by many of the groups talking about tax these days, you won't find that statement there. In fact, there is a considerable amount of material that talks about the US as a high-tax jurisdiction and claims that we can't be competitive unless we lower our corporate tax rates or that we will drive entrepreneurs out of the country if we don't lower our individual income tax rates or if we tax managers of private equity funds at the ordinary rate like everyone else who earns compensation for the services they provide.
But of course the quoted statement is quite true. We had much, much higher tax rates in the pre-Reagan era and we had significantly higher tax rates before Bush II's succession of tax cut bills. And those eras were eras of the economic growth that supported improving standards of living for ordinary folks.
Of course, the email didn't stop with that statement--it suggested that Americans should start planning, because taxes are likely to rise soon. That statement may be true or not--it depends on Congress and on what steps are taken this year to deal with the sunset provisions put in by the Republicans when they passed the series of tax cuts under Bush. The sunset gimmicks were used because it was obvious, back then, that making those large tax cuts permanent--including very preferential rates for capital gains and dividends and lots of business cuts--would be very costly. How can a Congress responsibly extend those Bush cuts, given today's economic environment?
When the Bush cuts were passed, Congress also used another gimmick--it left the Alternative Minimum Tax (AMT) in place without changing its rates to correspond with the changes in the regular tax rates as had usually been done in the past. The AMT kicks in for higher income individuals who have significant amounts of items that are treated as preferences under the AMT. But without lowering the AMT rate at the same time that there was a substantial lowering of the regular tax rate, the AMT applies to many more people --for someone subject to regular tax at a marginal rate of 25%, the AMT tax rates of 26% and 28% on a broader tax base will likely result in AMT liability. So the AMT would have essentially clawed back the Bush cuts, except that Congress has passed a "patch" increasing the AMT exemption level every year, to prevent that from happening. (The AMT exemption applies instead of the standard deduction and personal exemptions.)
It is a very costly patch, and it is not (yet) in place for 2010. So the AMT will hit more people than before this year if a patch isn't passed. The CBO has put out a very readable study of the AMT and the expected increases in AMT taxpayers over the next few years, assuming that there is no patch and that the Bush tax cuts are allowed to expire as written. (If the Bush tax cuts were extended, the cost of increasing the AMT exemption level for inflation would be even more expensive.) You can access the study here: The Individual Alternative Minimum Tax, CBO (Jan. 15, 2010).
Is the AMT bracket creep all bad? Certainly nobody likes paying more taxes. But the main income group that will be hit by the bracket creep, at least in the next few years, is taxpayers who have between $200,000 and $500,000 of adjusted gross income--a farily well-to-do group that benefited from the Bush tax cuts.
One of the problems is that the preferences (the items that get added back into the AMT base) are not finely tuned. I've argued that the AMT should treat the capital gains preferential rate as a preference, but Congress has shown no inclination of late to bite that bullet.
I've also argued that comprehensive reform of the AMT should protect ordinary folks--but not those richer folks in the $200,000 to $500,000 bracket-- from having to deal with this alternative tax system. If you take the average income of around $50,000, then folks who earn up to double that shouldn't be subject to the AMT. That could be done with a new exemption, indexed for inflation, of around $100,000 or $150,000 at most, maybe, but to do that will be costly. It means biting the bullet by adding preferences to expand the AMT base even more (such as my suggestion re capital gains) and/or allowing the Bush cuts to expire.
The CBO study provides some information on the costs of various suggested "fixes" to the AMT bracket creep problem. Just continuing the "patch" through 2019 would cost $450 billion. Amending the preferences to allow taxpayers the benefit of standard deductions, personal exemptions (which are indexed, unlike the current AMT exemption) and state and local tax deductions for AMT purposes would cost around $530 billion over the same period. Repealing the AMT would cost $620 billion over that period and reopen some loopholes that the AMT helps to close.