Policy Memo: Reform the Federal Alternative Minimum Tax

Posted on January 18, 2007 In Blog

Policy Memo: Reform the Federal Alternative Minimum Tax

The Orthodox Union supports the reform of the federal Alternative Minimum Tax. Without reform, the AMT will have an increasing impact upon many members of our community who are already under significant financial pressure due to commitments with which we are all familiar. In brief, the AMT is increasingly forcing taxpayers with large families from states with high state tax payments to pay more in federal taxes under the AMT system than they would otherwise be obligated to pay but for the AMT.

Congressional leaders have already been discussing publicly the desire to reform the AMT. On the opening day of the new Senate session, Senators Baucus (D-MT) and Grassley (R-IA), the chairman and ranking member of the Senate Finance Committee, introduced legislation to abolish the AMT altogether.

Reform or elimination of the AMT is necessary for the tax code to be family friendly.

Background Information

The Alternative Minimum Tax (AMT) was originally intended to prevent the highest earning taxpayers from using loopholes or other tax reduction strategies to bypass paying a substantial amount of their income tax. The tax, however, has grown and is projected to continue to grow rapidly so that by 2010, a substantial number of middle class families will owe the alternative tax. AMT significantly affects those who are married and have children, discouraging family values the Orthodox Union holds dear. Many Congressional Democrats wish to reform the AMT and there is speculation that the possibility for reform will arise in the near future.

The AMT was originally intended to set a minimum tax rate of approximately 27% on the highest earning taxpayers to prevent these taxpayers from evading a substantial tax payment. The AMT was intended to affect taxpayers who have what are known as “tax preference items” including long-term capital gains, accelerated depreciation, percentage depletion and certain tax-exempt income.

But the AMT also affects those who are married and who have children. A federal taxpayer can claim a $1000 (2005) per child tax credit if his child is a dependent, a citizen, national, or resident of the U.S, is related to the taxpayer and will be under the age of 17 for the duration of the year. Married taxpayers can claim these deductions in full if their joint income is below $110,000 and will receive a reduction of $50 in their deduction for every $1,000 their income exceeds $110,000. Singles or heads of households can claim the above deductions in full if their income is below $75,000 and will receive the same type of reduction for every $1,000 their income exceeds that amount. AMT prohibits taxpayers from claiming any part of these deductions.

The AMT is not indexed for inflation, which leads to greater AMT liability even if real income is not changing. For instance, currently households with $75,000 income are rarely subject to AMT, however that will change in a few years if no indexing occurs. The Brookings Institution reports that in 1999, only 1 million taxpayers paid the AMT, by 2010, 33 million taxpayers will be liable to the AMT. “The AMT will be the de facto tax system for households with income between $100,000 and $500,000, 93 percent of whom will face the tax, it will encroach dramatically on the middle class, affecting 37 percent of households with income between $50,000 and $75,000…”

The rise in taxpayers liable to the AMT due to inflation imposes a penalty on those who are married and have children. Couples will be more than 20 times as likely as singles to face the AMT in the year 2010. Because of the prohibition against deductions for dependents, 85 percent of married couples with two or more children will face AMT, 97% of such couples with income between $75,000 and $100,000. About 6 million taxpayers will face the AMT in 2010 only because they have children.

In addition to the AMT removing the child tax credit benefit from OU constituent families, OU constituents are also affected by virtue of the AMT’s removal of the federal deduction for state and local tax payments. The states of New York, New Jersey, Connecticut, California, Massachusetts and Maryland are most impacted by the AMT and are where most Orthodox Jews live.

Although the median household income in the United States was $44,389 in 2005, and households making over $75,000 per year make up the top quartile of household incomes, many of the taxpayers who earn $75,000 a year are “middle class” in comparison to their neighbors.

According to the 1990 National Jewish Population study, the median income for American Jewish families with two children is $75,000-$80,000. According to the American Jewish Identity Survey 2001, the average Jew who says Judaism is his or her religion has a household income of $72,000. It appears therefore, that the AMT will likely affect many members of the OU community. While according to the National Jewish Population study cited above, Orthodox Jews earn a little less then non-Orthodox Jews, there still are a significant number of Orthodox Jews and constituents of the Orthodox Union, whose incomes put them at risk to become liable to pay the AMT.

Those who oppose indexing the AMT for inflation state that this reform would largely increase the federal deficit. The Joint Committee on Taxation, for example, cites that indexing the AMT will explode the deficit by $370 billion. The Center on Budget and Policy Priorities (an advocate for low-income Americans) states that repealing the AMT after the tax cuts of 2001 and 2003, would add $1.2 trillion to the debt over the next decade. However, it has been noted that the AMT is undermining President Bush’s recent tax cuts. As regular tax rates are going down, more people are liable to pay AMT.