The Alternative Minimum Tax and Effective Marginal Tax Rates
The AMT has only a modest impact on the average marginal tax rates for most sources of income because it raises marginal tax rates for some taxpayers and lowers marginal tax rates for others.
The Alternative Minimum Tax (AMT) is a provision of the U.S. income tax code that currently affects a modest number of taxpayers, but will become increasingly important over the next decade. The AMT was established in 1978. The AMT base includes all the components of Adjusted Gross Income (AGI), the capital gains exclusion, as well as such income tax preferences as oil depletion and accelerated depreciation. The AMT applies only when the resulting tax base exceeds an exclusion amount, which is $58,000 for joint filers in 2004, but declines to $45,000 beginning in 2005. For single filers, the exclusion is $40,250 in 2004, and $33,750 beginning in 2005. While most of the other key parameters of the tax code are indexed for inflation, the exclusion level for the AMT is not. Inflation, in conjunction with the reductions in income tax liability that were legislated in recent tax reforms, has therefore led to a growing number of AMT taxpayers in the last decade. Much more rapid growth is projected for the balance of the current decade.
In The Alternative Minimum Tax and Effective Marginal Tax Rates (NBER Working Paper No. 10072), NBER Research Associates Daniel Feenberg and James Poterba examine the impact of the AMT on the marginal tax rates that apply to various components of taxable income. They also consider the impact of several AMT reform proposals on the number of AMT taxpayers, total AMT liability, and the marginal tax rates that apply to wages, capital income, and deductions such as local and state taxes and charitable gifts. Using the NBER's TAXSIM model, which calculates federal income tax and payroll tax liabilities for a representative sample of U.S. families, the authors project federal personal income tax liabilities as well as AMT liabilities between 2003 and 2013.
Feenberg and Poterba find that the AMT has only a modest impact on the average marginal tax rates for most sources of income because it raises marginal tax rates for some taxpayers and lowers marginal tax rates for others. They project rapid growth in the number of AMT taxpayers and in AMT liability until 2010. By that date, approximately 37 million taxpayers, or nearly one in four, will be subject to the AMT. The AMT will account for nearly 9 percent of total income tax revenue, or approximately $125 billion. After 2010, when many provisions of the 2001 tax reform are scheduled to phase out, the number of AMT taxpayers should decline. But even if these 2001 reforms are phased out, the number of AMT taxpayers will rise again in subsequent years.
The authors use the TAXSIM data on more than 100,000 individuals to calculate the weighted average of the individuals' marginal tax rates on different income components. They find that average marginal tax rates on many individual income components, such as wages and interest income, are affected only modestly by growth in the AMT. In 2010, for example, the authors project that the AMT will raise the weighted average marginal tax rate on wage income by 1.3 percentage points relative to what it would be if the AMT were repealed, and no other tax changes were enacted. For interest income, the effect of the AMT on the weighted average marginal tax rate is just below one percentage point.
These changes conceal larger changes in marginal tax rates for individual households. Some are pushed from marginal rates of 15 or 25 percent under the ordinary income tax into the AMT brackets of 26 and 28 percent. Others drop from marginal rates above 30 percent under the income tax to the AMT rate of 28 percent.
The authors' projections show that modest increases in the AMT exclusion level would substantially reduce the number of AMT taxpayers. Indexing the AMT to inflation would reduce the number of AMT payers in 2010 from 37 million to 14 million. Although that would reduce AMT liability from $125 billion to $48 billion, the resulting revenue loss slightly more than 5 percent of total personal taxes projected for 2010. These changes would also reduce the AMT's impact on average marginal tax rates.
-- Les Picker