As many as 17 million Americans begin the new year facing the possibility of sharply higher federal income taxes in 2006.
Because Congress has not yet intervened, the number of taxpayers
affected by the Alternative Minimum Tax could soar to 20 million or
more. Many of the new victims could see their federal tax burdens grow
by several thousands of dollars.
Congressional leaders say that
will never happen, pledging that the House and Senate will pass
remedial legislation early next year limiting the growth of this surtax
to a much smaller number. But there’s no assurance this will occur, in
part because some in Congress have other priorities, such as pushing
tax preferences for capital gains and dividends.
As a result,
there’s at least a chance that millions of Americans are in for a rude
awakening on the tax front, and that some of them won’t find out about
it until they file their returns in 2007.
Maggie Doedtman, a tax
preparation expert for H&R Block in Kansas City, Mo., says the
Alternative Minimum Tax constitutes a major surprise for a growing
number of taxpayers.
“People think of this as something that
should just not happen to them,” says Doedtman. “Even if Congress does
another short-term patch, the number of people affected by this will
continue to grow.”
Becoming subject to the Alternative Minimum
Tax can be downright disagreeable. The average tax per AMT payer was
about $4,000 last year, and it’s not unusual for first-time payers to
take a four-figure hit.
The fact that nearly 4 million taxpayers
are expected to find themselves subject to the AMT for 2005 is a far
cry from what creators of the tax intended a quarter-century ago. The
parallel tax system was aimed at a few hundred Americans who were using
multiple tax write-offs to avoid paying any federal income tax.
The AMT addressed the problem by eliminating major categories of tax
deductions such as state and local taxes, health costs and personal
exemptions, then recalculating tax liability under a different formula.
In the early years only a few Americans saw their tax bill go up as a
result of the AMT.
But, unlike the main tax system, the AMT was
never indexed for inflation. As a result, its reach has gradually
grown, and would have expanded even faster but for temporary fixes by
Congress in recent years. Now, with Congress failing to act on a patch
covering the 2006 tax year, millions enter the new year unable to
predict their federal liability.
According to the Congressional
Budget Office, the AMT hits hardest on those with adjusted gross income
of $100,000 to $500,000. Already, well over half the families and
individuals earning $200,000 to $500,000 are taxed under AMT, the CBO
But the new AMT targets aren’t just the affluent. In
recent years the surtax has affected those in increasingly lower income
brackets, in some cases for the simple reason that a large family is
unable to use its multiple personal exemptions under AMT. About 10
percent of tax returns showing incomes of $75,000 or less are now
subject to the tax, according to the IRS; by 2010, that number is
projected to exceed 20 percent.
Political leaders vow that won’t happen.
“What we want to do is make sure that it doesn’t hit more middle-income
Americans,” said Scott McClellan, President Bush’s spokesman.
Republican Sen. Charles Grassley, chairman of the Senate Finance
Committee, has vowed to get AMT relief “enacted into law.”
But there’s no guarantee that will happen, or that Congress will find the money to fully fund it.
For one thing, the cost of making these temporary patches is growing
rapidly, to roughly $30 billion in 2006. Between 2005 and 2010, tax
revenue generated by the AMT is projected to increase five-fold,
dimming hopes for eliminating the tax.
Perhaps as important,
some see the Alternative Minimum Tax as leverage for achieving higher
priority aims. Republican leaders in the House, for example, omitted an
AMT fix from their prime tax-cut measure this year in favor of a
provision extending lower rates on capital gains and dividends. (They
then advanced the AMT legislation in a separate measure, though it
stalled in the waning days of December.)
Some Republicans hint
that permitting a rapid expansion of the AMT bite might also build
support for a more fundamental overhaul of the federal tax system.
“Might it not help the momentum on tax reform if a few more people
fully understood the impacts of AMT?” said Rep. Bill Thomas, chairman
of the House Ways and Means Committee.
Sooner or later, many
people think the AMT ultimately will force such as a reckoning. By
2013, according to one scenario, the AMT will be collecting more tax
revenue than the regular tax system.