August 23,2017

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Tax Talk: Middle-Class Relief from the Alternative Minimum Tax

Parallel Tax System Is Out-of-date, Complicated & Confusing

Phase-outs, home interest deduction, marriage penalty or marriage bonus, state and local deductions, charitable contributions, investment interest, exclusions, limitations, credits…and the list goes on.

The U.S. tax code is a maze of red tape riddled with inequities and complexity that causes confusion for Americans across the country. And, if navigating a minefield of deductions, credits, exclusions, eligibilities, and the like weren’t enough, more and more hardworking, middle-class families face the threat of falling into the ever-widening reach of the Alternative Minimum Tax (AMT). 

What’s the AMT?
Created in 1969, the AMT imposed on individuals was designed to prevent 155 wealthy individuals from dodging their annual income tax. While this tax was intended to target the “rich,” over the years it has crept into the pocketbooks of more middle-class families. In fact, according to the Tax Policy Center, married couples with children are more than six times as likely as single individuals to pay the AMT.

As further evidence of the complexity of the tax code, the AMT not only applies to individuals, but also to C corporations, estates and trusts. Pass-through businesses, such as partnerships and S corporations, pass income through their businesses to partners and shareholders who then may face the individual AMT.

Why it matters for the middle-class?
The AMT requires a separate and unique tax calculation that has its own set of rates and rules on how to quantify income and determine eligibility for tax deductions. Individuals potentially in the AMT must calculate their tax liability under the regular income tax, and then calculate an adjusted measure of income, subject that adjusted measure to AMT tax rates, compare the two income tax amounts – regular and AMT – and pay the higher of the two. Even the description is nearly mind numbing.

While the regular income tax system is indexed for inflation, the AMT, until 2013, was not. So as annual incomes rose an increasing number of taxpayers got hit with the tax. As more taxpayers became subject to this parallel tax system, more individuals and families were prevented from taking advantage of the of tax incentives they planned for, and more and more taxpayers faced the uncertainty over whether they were paying the correct amount of taxes – the regular income tax or the dreaded AMT. Moreover, increasingly, those facing the AMT were not what most would think of the “rich,” using special tax planning techniques to avoid taxes.

Even though the 2013 law curbed the AMT’s reach, it’s still on the books, causing uncertainty and anxiety for individuals and families during tax time. For tax year 2015, according to preliminary estimates from the IRS, more than 4.4 million individual filers were roped into the AMT, accounting for more than $26 billion in federal tax payments – and the number caught by the AMT is likely to keep on growing, barring action by Congress to eliminate this complex tax that increasingly hits the middle class.

For 2016, instructions for the AMT applied to individuals totaled 14 pages of confusion, and the form (Form 6251) comprised 64 lines of calculation – making a calculus exam look simple by comparison. Of course, in recent times with the development of automated tax-filing software, individuals and families type tax information into their computers, which then do the mind-numbing calculations to, hopefully, arrive at a determination of whether the regular income tax or AMT needs to be paid. Nonetheless, that does not remove uncertainty over whether the correct information is being processed, and the computer got it right, inserting further panic into household tax time. And, it is hardly a testament to fair and simple taxation to lack any understanding of how a computer, or tax professional using computers, came up with your tax liability.

Bottom line: The AMT, which has been tweaked nearly 20 times since its inception, is out-of-date, complicated and confusing. There is broad bipartisan support to eliminate it and, as Congress works to streamline the code, to make it simpler and fairer. As tax reform efforts proceed, Washington will take a close look at getting rid of this arcane tax once and for all.