In the TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. Foundation’s new Options for Reforming America’s Tax Code 2.0, there are several options that would simplify the tax code, including eliminating the alternative minimum tax (AMT)The Alternative Minimum Tax (AMT) is a separate tax system that requires some taxpayers to calculate their tax liability twice—first, under ordinary income tax rules, then under the AMT—and pay whichever amount is highest. The AMT has fewer preferences and different exemptions and rates than the ordinary system. . While this move would remove a source of complexity, policymakers should also consider reforming the deductions that created a justification for the AMT in the first place.
The alternative minimum tax is a separate set of rules that requires some households to calculate their tax liability twice: once under the normal income tax rules and once under the AMT. The AMT rules provide a larger exemption amount but fewer tax preferences than the ordinary income tax system; the AMT can thus capture more income tax from households that would otherwise claim large deductions under the normal system.
The 2017 tax reform law temporarily increased the AMT exemption and phaseout threshold through 2025, resulting in smaller AMT liabilities and fewer households incurring any AMT liability.
The alternative tax system actually imposes lower marginal tax rateThe marginal tax rate is the amount of additional tax paid for every additional dollar earned as income. The average tax rate is the total tax paid divided by total income earned. A 10 percent marginal tax rate means that 10 cents of every next dollar earned would be taken as tax. s on labor than the conventional tax system. The AMT has only two tax bracketA tax bracket is the range of incomes taxed at given rates, which typically differ depending on filing status. In a progressive individual or corporate income tax system, rates rise as income increases. There are seven federal individual income tax brackets; the federal corporate income tax system is flat. s, one of 26 percent and the other at 28 percent. As a result, eliminating the AMT would reduce economic growth. However, the Tax Foundation model does not consider the compliance costs that a second tax system imposes on taxpayers.
|Static Revenue (10-year)||-$395.08 billion|
|Dynamic Revenue (10-year)||-$436.17 billion|
Source: Tax Foundation General Equilibrium Model, April 2021.
The compliance costs of the AMT are significant. According to the Taxpayer Advocacy Service’s annual report to Congress in 2013, the AMT doubles the burden of tax filing for taxpayers who have to calculate their AMT liability. Notably, that does not just mean taxpayers who end up paying the AMT—many filers have to find their AMT liability, even if they still end up falling under the ordinary tax system.
Furthermore, the AMT treats certain deductions and credits differently, in addition to having different rules for assets than the regular tax system. In that 2013 report to Congress, the Taxpayer Advocacy Service noted that, while under the normal income tax, a taxpayer would spread the cost of an office building over 39 years. However, under the AMT, they would have to depreciate it over 40 years instead.
In a 2018 paper, my colleague Erica York and I estimated that, by reducing the number of taxpayers subject to the AMT, the 2017 tax law reduced compliance costs by between $4.6 billion and $8.5 billion. The lower estimate comes when using the median hourly private sector wage, the higher when using median professional wages—the latter to account for AMT filers typically being higher-income.
Eliminating the AMT alone is a second-best solution. The purpose of the AMT is to prevent individual taxpayers from reducing their taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. by too much. But why is that a policy goal? If those deductions serve a purpose, then it does not make sense to punish certain taxpayers for engaging in behavior lawmakers have decided to incentivize. If these deductions are not economically sound, then policymakers should eliminate those deductions, instead of creating a separate tax system to penalize individuals who benefit from too many of them at once. Revenue generated from eliminating inefficient deductions could then go towards reducing marginal tax rates, thus compensating for the economic effects of AMT repeal.
Eliminating the AMT is a good idea. But policymakers should also address the myriad tax provisions that drove Congress to create the AMT in the first place.
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