The Individual Alternative Minimum Tax: Historical Data and Projections, Updated October 2009

THE INDIVIDUAL ALTERNATIVE MINIMUM TAX: HISTORICAL DATA AND PROJECTIONS, UPDATED OCTOBER 2009 Katherine Lim and Jeffrey Rohaly October 2009 Urban-Brookings Tax Policy Center The Urban Institute 2100 M Street, NW, Washington, DC 20037 The Brookings Institution 1775 Massachusetts Avenue, N.W. Washington, DC 20036 Acknowledgments Funding for the general operations of the Tax Policy Center is provided by a generous consortium of donors, including the Annie E. Casey Foundation, Bill and Melinda Gates Foundation, Brodie Price Fund at the Jewish Community Foundation of San Diego, Charles Stewart Mott Foundation, Ford Foundation, George Gund Foundation, John D. and Catherine T. MacArthur Foundation, Popplestone Foundation, Rockefeller Foundation, Sandler Foundation, Smith Richardson, Stoneman Family Foundation, and private donors. URBAN-BROOKINGS TAX POLICY CENTER -2- The Individual Alternative Minimum Tax: Historical Data and Projections, Updated October 2009 Congress originally enacted a minimum tax in 1969 to guarantee that high-income individuals paid at least a minimal amount of tax each year.1 Due to design flaws, however, the current alternative minimum tax (AMT) requires annual congressional action to prevent it from affecting tens of millions of taxpayers each year. One reason for the expansion of the AMT is that—unlike the regular income tax system—the AMT brackets and exemption are not indexed for inflation. In addition, the tax cuts passed during the Bush administration exacerbate the AMT problem because they reduce regular income taxes without a corresponding permanent reduction in the AMT. Absent another temporary fix or other change in law, the tax cuts and lack of indexation will combine to push more than 27 million taxpayers onto the AMT in 2010. If Congress extends the Bush tax cuts, that number would swell to almost 52 million by 2020. Alternatively, if Congress allows all of the tax cuts to expire—which is highly unlikely—the number of AMT taxpayers would fall dramatically in 2011, but then trend back upward over time to hit more than 37 million taxpayers by 2020. Regardless of how Congress deals with the coming expiration of the Bush tax cuts, policymakers will also need to address the explosive growth of the AMT from an obscure tax affecting only 20,000 filers in 1970 to one that could affect nearly a third of all taxpayers in 2010. The Tax Policy Center (TPC) has written extensively about the AMT.2 This paper briefly describes how the AMT works and provides the TPC’s latest estimates of AMT coverage, revenue, and distribution.3 1. How the AMT Works The individual AMT operates parallel to the regular income tax: it applies a different income definition and rate structure, and allows different deductions, exemptions, and credits.4 After calculating regular tax liability, taxpayers must calculate their “tentative AMT” under the alternative rules and rates and pay the larger amount. To calculate tentative AMT, taxpayers determine the AMT tax base, apply the AMT tax rate and exemption phaseout schedules, and then subtract applicable credits. Technically, AMT liability is the excess, if any, of tentative AMT above the amount of tax due under the regular income tax. In short, taxpayers pay their regular income tax and then tack on any AMT liability. Alternative minimum taxable income (AMTI) is the sum of three components: regular taxable income for AMT purposes, AMT preferences, and AMT adjustments. Regular taxable Lim is a research assistant at the Urban Institute and the Urban-Brookings Tax Policy Center (TPC). Rohaly is a senior research methodologist at the Urban Institute and the director of tax modeling for the TPC. Views expressed are those of the authors alone and do not necessarily reflect the views of The Urban Institute, its Board or its funders. We thank Bob Williams for helpful comments and suggestions. 1 The original minimum tax was an addition to regular income tax. The current AMT is a floor on total tax liability. For details see Burman et al. (2002). 2 See, for example Burman, Gale, and Rohaly (2005); Burman and Leiserson (2007); Burman and Weiner (2005); and Burman et al. (2007). 3 The Urban-Brookings Tax Policy Center Microsimulation Model (version 0509-2) produced the estimates in this paper. For a brief description of the tax model, see http://www.taxpolicycenter.org/numbers/related.cfm. This paper updates the AMT projections in Rohaly and Leiserson (2008). 4 This section draws heavily on Burman and Weiner (2005). URBAN-BROOKINGS TAX POLICY CENTER -3- income for AMT purposes is basically the same as taxable income for regular tax purposes except it may be negative if deductions exceed gross income. An AMT preference or adjustment is simply any exclusion, exemption, deduction, credit, or other treatment (such as a method for computing depreciation) in the regular income tax that is either restricted or disal