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Abolish the AMT? Think tax hike
Nobody likes the alternative minimum tax. But the government can't afford to give it up.
July 21, 2005: 4:05 PM EDT
By Krysten Crawford, CNN/Money staff writer
Estimates show AMT on the rise, in terms of numbers of taxpayers hit and as a contributor to government coffers.
Estimates show AMT on the rise, in terms of numbers of taxpayers hit and as a contributor to government coffers.

NEW YORK (CNN/Money) - When a presidential adviser charged with recommending fixes to the tax code signaled Wednesday that his panel will soon propose the repeal of the alternative minimum tax, the few million taxpayers around the country who've been hit by the dreaded levy were no doubt cheering wildly.

But there were millions more who -- perhaps incorrectly -- might not think it's such a good idea after all.

The AMT is a system intended to ensure that the richest Americans pay income tax, but which in practice catches more middle-income taxpayers every year. It is expected to generate nearly $1.2 trillion worth of additional tax revenues over the next 10 years.

Do away with the AMT, and the government may have to find other ways to make up for that lost revenue.

Congress basically has a few options: raise income tax rates, eliminate certain tax credits and deductions, or cut spending on federal programs.

With neither party demonstrably interested in reducing the size of the budget, it's more probable that if the AMT goes away, many American taxpayers are going to see their tax bills rise.

"If they repeal the AMT, they've got to replace it with higher taxes somewhere else," said Chris Edwards, the director of tax policy studies at the Cato Institute. "Tax reform could mean a big looming tax increase for a lot of people."

Michael Graetz, a nationally-recognized tax expert and professor at Yale Law School, agreed.

Suppose tax reformers eliminated the deductions now allowed for state and local taxes, he said. Taxpayers who don't pay the AMT but find they can no longer take advantage of common credits and deductions are not going to be happy.

It may turn out that many people will be better off if the AMT is abolished. The problem is, until Congress acts and finds a way to replace the AMT with other tax hikes, it's not clear who wins and loses.

"As to who's better off or who's worse off, that's the trick," said Graetz. "It depends on how (tax reformers) pay for $1.2 trillion" in lost AMT revenues.

"Not many people pay the AMT now and although a lot of them are going to be paying it in the future, they don't feel the pain today," said Edwards. "But if you eliminate the AMT and repeal the child credit to pay for it, they would feel the pain."

A nice idea gone bad

The AMT dates to the late 1960s, when Congress learned that some wealthy individual taxpayers were paying zero federal income tax thanks to special loopholes. To close those holes, federal legislators established in 1969 what later became the AMT.

The AMT is a parallel tax structure that adds back in certain deductions allowed under the regular income tax, such as those for state and local taxes.

The major problem with the AMT has to do with its exemption levels, which have never been indexed to inflation and now stand at $58,000 for married couples and $40,250 for single taxpayers -- those levels apply to a lot more people than they did several years ago.

The office of the National Taxpayer Advocate, an agency within the Internal Revenue Service whose job is to represent taxpayer interests, estimates that nearly 3 million taxpayers owed the AMT tax this year, paying on average $6,000 more in taxes than they would have paid in regular income taxes.

The numbers caught by the AMT could reach more than 30 million in 2010, according to the Tax Policy Center, a nonpartisan tax policy group based in Washington, D.C. That translates to roughly one in three taxpayers and includes 89 percent of married couples with two or more kids and income of $75,000 to $100,000.

As the AMT's reach has grown, so too have calls for its reform -- or even its outright repeal. Leonard Burman, the co-director of the Tax Policy Center has called the AMT "untenable" and "irrational."

The bipartisan panel that President Bush directed in January to recommend ways to improve the federal tax system early on singled out the AMT as ripe for change.

In recent months, a number of powerful legislators, Senate Finance Committee chairman Charles Grassley (Rep.-Iowa), have said the AMT should be repealed.

John Breaux, the former Democrat senator from Louisiana and vice-chairman of the Bush tax reform panel, has said there are many options for fixing the AMT, all of which will involve "painful" choices. The big mystery, Breaux has said, is finding the money to pay for it.

Here's the rub: although the goal of AMT reform is to prevent huge numbers of taxpayers from getting hit by the tax in coming years, taxpayers who have not yet had to pay the AMT but were likely to in coming years won't necessarily recognize that they're better off without the AMT.

There's no doubt that AMT reform will be difficult, said Burman. "If it weren't difficult, it would have been done a long time ago," he said.

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