THE INDIVIDUAL AMT: WHY IT MATTERS - ntanet.org INDIVIDUAL AMT: WHY IT MATTERS ... the AMT uses a separate tax calculation ... The AMT form does not call the difference in NOL

THE INDIVIDUAL ATM: WHY IT MATTERS

453

THE INDIVIDUAL AMT:WHY IT MATTERSROBERT P. HARVEY * &JERRY TEMPALSKI **

Abstract - The individual alternativeminimum tax (AMT) is a complicated taxthat currently affects relatively fewtaxpayers (700,000 in 1997) and raisesrelatively little revenue ($4.5 billion in1997). By 2007, however, the number ofAMT taxpayers will reach 9 million andtheir AMT liability will reach $21 billion.The reason for these very sharp increasesis that the main parameters (e.g.,personal exemption and rate bracketwidths) of the regular income tax areindexed for inflation, whereas the mainparameters (e.g., AMT exemption) ofthe AMT are not. This paper discussesthe structure of the individual AMT andexamines the long-run effects of theAMT.

The individual alternative minimum tax(AMT) is not well understood by mosttaxpayers. This lack of understanding isnot surprising, given that relatively fewtaxpayers (500,000 in 1994) pay AMTtax, and those that do pay relatively littlein AMT taxes (about $3.6 billion in1994).1

The individual AMT is a complicated taxthat was primarily intended to affect therelatively few high-income taxpayerswho Congress believed overused certaintax deductions, exclusions, or creditsand consequently were not paying theirfair share of taxes. The AMT was notintended to affect many taxpayers.Unless the tax code is changed, how-ever, by 2007, over 9 million taxpayerswill be affected by the AMT, and thesetaxpayers will pay about $21 billion inAMT tax. The taxpayers affected by theAMT in the future will increasingly betaxpayers who are not traditionallyviewed as aggressive and abusive of thesystem.

The reason for the projected sharpincrease in the number of AMT taxpay-ers is that the main parameters (i.e.,personal exemption, standard deduc-tion, and tax-bracket widths) of theregular tax are indexed for inflation,whereas the main parameters of theAMT are not. Each year, inflation putsmore taxpayers onto the AMT. As aresult, if policymakers change the taxcode to limit growth in AMT liability, thecost will be quite large.

This paper begins by describing theevolution of the individual minimum tax.Then, it describes the structure of the

*Joint Committee on Taxation, Washington, D.C. 20515.**U.S. Department of the Treasury, Washington, D.C. 20220.

NATIONAL TAX JOURNAL VOL. L NO. 3

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current AMT and the taxpayers affectedby it. It concludes with a discussion ofAMT projections for the next ten years.

EVOLUTION OF THE INDIVIDUALMINIMUM TAX

The tax code has had two differentindividual minimum taxes—the “add-on” minimum tax, which was in effectfrom 1970 to 1982, and the AMT,which has been in effect since 1979.2

Changes to the individual minimum taxhave been included in almost everymajor tax bill since 1969 and in manyminor tax bills. The changes havegenerally been designed to increase thelikelihood that all taxpayers with signifi-cant amounts of economic income incurtheir fair share of federal tax liability.

Changes to the regular tax system canalso play an important role in determin-ing the effect of the minimum tax.Because the minimum tax is designed toaffect taxpayers with relatively lowregular tax liability, the more regular taxliability that a taxpayer has for a givenlevel of income, the less minimum taxliability that taxpayer is likely to have.For example, an increase in currentregular tax rates would reduce both theamount of AMT liability and the numberof taxpayers affected by the AMT,absent any change to the AMT itself.

Add-on Minimum Tax

The add-on minimum tax was enactedfollowing the furor that resulted fromrelease of a Treasury study in January1969.3 The study, the first of its kind,reported that 155 individuals, each withadjusted gross income (AGI) of morethan $200,000, paid no federal incometax in 1966.

The add-on minimum tax was a tax on“tax preferences,” which are items

excluded from taxable income under theregular tax but taxable under theminimum tax. The most important ofthese tax preferences was excludedcapital gains.

Congress significantly expanded theadd-on minimum tax in 1976, becauseit was concerned that the tax was notadequately forcing high-incometaxpayers to pay their fair share. Part ofthis concern followed release of anotherTreasury study that found that 244taxpayers with AGIs above $200,000 in1974 had no federal income tax liabilitythat year.4

The add-on minimum tax was weak-ened in 1978, because Congress wasconcerned that the 1976 changes to thetax were hampering capital formation.In particular, Congress eliminatedexcluded capital gains as an add-onpreference in 1978, because it wasconcerned that capital gains were taxedtoo heavily. As a replacement, the AMTwas created, and excluded capital gainswere taxed under the AMT.

The add-on minimum tax was repealedin 1982, and nearly all of its preferenceitems were folded into the AMT.

AMT

When the AMT was created in 1978, itoriginally had only two preferenceitems, of which excluded capital gainswas almost certainly the more impor-tant. The list of AMT preferences wasexpanded substantially in 1982, bothbecause the add-on minimum taxpreferences were folded in and becausemany new preferences were added.

The AMT was changed significantlyagain in 1986. But the 1986 tax changewith the biggest effect on the AMT wasthe elimination of the capital gains


455

1

2

1

2

exclusion under the regular tax. Ex-cluded capital gains accounted for thevast majority of pre-1987 AMT prefer-ences, about 85 percent in 1986.

The most recent major changes to theAMT occurred in the Omnibus Reconcili-ation Act of 1990 (OBRA90) and theOmnibus Reconciliation Act of 1993(OBRA93). OBRA90 increased the AMTtax rate from 21 to 24 percent. OBRA93increased the AMT tax rate and made itgraduated at 26 and 28 percent.OBRA93 also increased the AMTexemptions by 12.5 percent.

CURRENT AMT

The individual AMT can be considered aparallel tax system to the regular taxsystem. Like the regular tax, the AMTinvolves multiplying some measure ofincome by the appropriate tax rate, thensubtracting allowable tax credits. Butthe AMT uses a separate tax calculationfrom the regular tax, with a generallybroader tax base, lower tax rates, higherexemption, and fewer allowable credits.Further, as noted above, unlike theregular tax, the key AMT parameters(i.e., exemption level and rate brackets)are not indexed for inflation.

A taxpayer’s AMT liability is essentiallythe difference between a taxpayer’sregular income tax liability and thetaxpayer’s tentative AMT.5 TentativeAMT is calculated using AMT income,the AMT exemption, AMT rates, andallowable AMT credits.

AMT Income

A taxpayer’s tentative AMT is based onthe amount of AMT income (AMTI) thatexceeds the AMT exemption. The AMTIis calculated by taking line 35 of Form1040 (taxable income plus personalexemptions), then adding the many

AMT preference items. Although mostAMT preferences increase AMTI relativeto taxable income, some (e.g., state andlocal tax refunds) actually decrease AMTIrelative to taxable income.

The 1994 AMT form included lines for27 different preferences6 (Table 1). Mostpreferences are deferral items, whichaccelerate deductions or delay realiza-tion of income, but which do not causea permanent difference in taxableincome over a period of years. Forexample, the AMT uses a depreciationschedule than generally requires longerwrite-offs than the regular tax, and theAMT requires that research and experi-mental expenses be amortized over tenyears rather than expensed as theregular tax allows.7 The remaining AMTpreferences are exclusion items thatpermanently lower taxable income. Forexample, the AMT includes the standarddeduction and certain tax-exemptinterest as preferences.

For taxpayers who incurred AMT liabilityin 1994, four items accounted for 86percent of total AMT preferences(including personal exemptions). Stateand local tax deductions accounted for47 percent, miscellaneous deductionsabove the 2 percent floor for 19percent, personal exemptions for 11percent, and post-1986 depreciation for9 percent. The only other preferencethat accounted for more than fivepercent of total adjustments was passiveactivity losses. Table 1 lists the amountsof all AMT preferences and other itemsneeded to reconcile AMT income withtaxable income for 1994.

In addition to AMT preferences increas-ing AMT income above taxable income,the AMT also has different rules thanthe regular tax for deducting netoperating losses (NOLs). These differentrules generally increase AMT income


456

TABLE 1RECONCILIATION OF TAXABLE INCOME WITH AMT INCOME FOR

TAX RETURNS AFFECTED BY THE AMT IN 1994

I. Taxable income from Form 1040

II. Reconciliation of AMT with Form1040 taxable incomeA. Adjustments and preferences

from AMT form (Form 6251)1 State and local tax deductions2 Miscellaneous deductions above

the two-percent floor 3 Post-1986 depreciation4 Passive activity loss5 Incentive stock options6 Long-term contracts7 Charitable donations8 Beneficiaries of estates9 Standard deduction

10 Private activity bonds interest11 Depletion12 Loss limitations13 Medical deductions14 Certain home-mortgage interest15 Circulation expenses16 Intangible drilling costs17 Pre-1987 accelerated depreciation18 Related adjustments19 Tax shelter farm loss20 Mining costs21 Patron’s adjustment22 Pollution control facilities23 Installment sales24 R&E expenditures25 Investment interest26 Adjusted gain or loss27 State and local tax refunds

Subtotal (adjustments and preferences)

B. Other reconciliation items28 Regular tax NOLs29 Personal exemptions30 Limitation on itemized deductions under

regular tax31 AMT NOLs32 Undetermined reconciliation items

Subtotal (other reconciliation items)

Total Reconciliation Items:

III. AMT income (taxable income plusreconciliation items)

Source: Tabulations from unpublished IRS data from the Statistics of Income Division.aLess than 500.bLess than $500,000.

3

ReportedAmount

($ Millions)Deferral

Preference

AverageAmount

per Return(in Dollars)

Number ofReturns

(in Thousands)

155,019

24,973

19,01416,088

9,837132,57174,33315,400

9,5003,7246,000

14,00024,600

2,2438,500

13,6674,2862,4004,000

–1,000–11,780

–3,364

41,037

561,7698,674

–6,758–372,000

54,560

209,580

464

402

213125129

76

15245831105

378a

3751a

a

a

a

a

641

195

463

13276

2525

464

464

71,929

10,039

4,0502,0111,269

928446231228216186140123

836844413012411b

–2–4–6

–483–656

19,000

7,3032,394

–1,703–1,860

182

6,316

25,316

97,245

xxxx

x

x

xxxxxxxxxx

x


457

relative to taxable income. The AMTform does not call the difference in NOLrules an AMT preference.

The AMT exemption is $45,000 for jointreturns ($33,750 for singles); theexemption is not indexed nor is it basedon the number of dependents. The AMTexemption is phased out at the rate of$0.25 per $1 of AMTI above $150,000for joint returns ($112,500 for singles).Thus, the AMT exemption is totallyeliminated for joint returns with AMTIabove $330,000 ($247,500 for singles).

AMT Tax Rate

The AMT tax rate is 26 percent on thefirst $175,000 of AMTI above the AMTexemption and 28 percent on AMTImore than $175,000 above the exemp-tion. For taxpayers in the phase-outrange of the AMT exemption, the 26-and 28-percent tax rates effectivelyincrease to 32.5 and 35 percent,respectively.

Allowable Credits Against the AMT

The only major tax credit that can beused against the AMT is the foreign taxcredit.8 But the amount of foreign taxcredits that can be used against theAMT is generally limited to 90 percentof a taxpayer’s precredit tentative AMT.

In 1994, 160,000 taxpayers had taxcredits disallowed because of the AMT;the amount of these disallowed taxcredits was $1.3 billion.9 Of these lostcredits, $0.9 billion were AMT credits(discussed below). The vast majority ofthe other lost credits were generalbusiness credits (GBCs).10 The remaininglost credits totaled less than $50million.11

AMT Credits

Some taxpayers who incur AMT liabilitymay be able to use some of their AMTliability as a credit to offset their regulartax liability in future years. These AMTcredits, however, cannot lower ataxpayer’s regular tax liability for a givenyear below the taxpayer’s tentative AMTfor that year.

Only AMT liability that results fromdeferral preferences can offset futureregular tax liability.12 The portion of AMTliability that results from exclusionpreferences cannot be used to offsetfuture regular tax liability. (Table 1indicates which AMT preferences aredeferral preferences.) The rationalebehind the AMT credit is to allowtaxpayers with tax preferences thatreflect deferral, rather than permanentavoidance of tax liability, some adjust-ment after the deferral period ends.13

Taxpayers incurred $9.0 billion inindividual AMT liability (excluding lostcredits) over the 1987–93 period, butthey used only $1.8 billion of AMTcredits over the 1988–94 period.Taxpayers used $0.4 billion in AMTcredits in 1994 (Table 2). Taxpayers alsocarried forward an additional $1.5billion in unused AMT credits from pre-1994 AMT liability into 1995. Combin-ing the credits used over the 1988–94period with unused credits carriedforward indicates that taxpayers will beable to use a maximum of $3.3 billion inAMT credits resulting from the $9.0billion in AMT liability.

The obvious reason for the largedifference between AMT liability andAMT credits is that AMT deferralpreferences are a relatively small portion


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459

of all AMT preferences. Of the $25.3billion in AMT adjustments in 1994, only$4.6 billion were deferral items thatcould generate AMT credits.

FILING COMPLICATIONS CAUSED BYTHE AMT

As described above, the AMT may notsound very complicated, but it containsseveral features that can significantlycomplicate the filing of tax returns fortaxpayers who owe AMT tax. Inaddition, the AMT complicates fillingout tax returns for many other taxpayerswho do not even owe AMT tax.

Dual Accounting Systems

Many AMT preferences (e.g., deprecia-tion and circulation expenses) resultfrom the AMT having different amorti-zation and depreciation schedules thanthe regular tax. As a result, taxpayershave to keep two separate sets ofaccounting records for these items todetermine the appropriate amount ofthese AMT preferences. Similarly, theAMT also has different rules than theregular tax for using NOLs and foreigntax credits. For these items, taxpayersmust also keep separate accountingrecords.

Kiddie Tax

To determine the individual AMT liabilityfor a child subject to the kiddie tax, ataxpayer must fill out both a 17-lineworksheet and an 18-line worksheet.The child’s AMT liability can be affectedif part of his parents’ AMT exemption isunused or if his parents’ (or even asibling’s) regular tax liability is greaterthan their tentative AMT liability.

Claiming AMT Credits

To use AMT credits to offset regular taxliability (or to carry forward unused AMT

credits), a taxpayer must fill out both the42-line AMT form and the 28-line AMTcredit form for both the current yearand the previous year.

Regular Tax Credits

The AMT can significantly complicatefiling a tax return for the millions oftaxpayers with tax credits, even thougha taxpayer may have no additionalliability from the AMT. The IRS instruc-tions for many of these credits include a10-line worksheet that every taxpayerwho claims the credit is expected to fillout to determine if the AMT disallowsany of the credit. The vast majority oftaxpayers do not have any disallowedcredits, but they can only be assured ofthis after completing the worksheet(and possibly filling out the 42-line AMTform itself).

TAX LIABILITY FROM THE MINIMUM TAX

The minimum tax has never accountedfor more than two percent of totalindividual tax liability in any year. AsTable 2 shows, annual minimum taxliability has ranged between $122million in 1970, the first year of aminimum tax, and $6.7 billion in 1986.Significant changes in annual minimumtax liability were generally caused bynew legislation.

Add-on minimum tax liability wasrelatively stable from 1970 to 1975,then soared in 1976 because of the1976 tax changes. Add-on minimum taxliability plunged in 1979 with theelimination of excluded capital gains asa preference item, then was relativelystable until the add-on minimum taxwas eliminated after 1982.

The AMT liability was $0.9 billion in1979, the first year of the AMT, andincreased in most years until peaking in


460

1986. The 1982 AMT changes signifi-cantly increased AMT liability in the 1983–86 period. The AMT liability increaseddramatically from $3.8 billion in 1985 to$6.7 billion in 1986, primarily because ofa huge increase in capital gains thatresulted from enactment of the 1986 taxchanges.14 Taxpayers with long-termcapital gains rushed to realize their capitalgains in 1986 before the 60-percentexclusion was eliminated at year-end.

The end of the capital gains exclusion,by increasing regular tax liability,significantly reduced AMT liability after1986. Increases in the AMT rate inOBRA90 and OBRA93 increased AMTliability over the 1991–94 period, butAMT liability in 1994 was still lowerthan in the mid-1980s (Figure 1).

TAXPAYERS WITH MINIMUM TAXLIABILITY

Not surprisingly, as Table 2 shows, theamount of minimum tax liability isgenerally closely related to the numberof taxpayers affected by the minimumtax. The number of returns with add-onminimum tax liability ranged between19,000 (0.03 percent of the totalnumber of individual tax returns filed) inboth 1970 and 1973 and 495,000 (0.6percent) in 1978. The number of returnswith AMT liability ranged between114,000 (0.1 percent) in 1988 and609,000 (0.6 percent) in 1986. Despitethe AMT rate increases in 1990 and1993, the number of AMT taxpayers in1994 was still less than in 1986(Figure 2).

The AMT is generally considered to be atax paid primarily by high-incometaxpayers. The data certainly supportthis belief. In 1994, taxpayers with AGIsabove $100,000 incurred 88 percentof AMT liability. Although the distribu-

tion of AMT liability is heavily skewedto high-income taxpayers, the distribu-tion of the number of AMT taxpayersis not so heavily skewed. In 1994, only61 percent of the returns with AMTliability had AGIs above $100,000(Table 3).

Taxpayers with very high AGIs accountfor a disproportionate share of totalAMT liability. Returns with AGIs above$500,000 in 1994 accounted for only 6percent of the total number of returnswith AMT liability, yet these returnsaccounted for 37 percent of total AMTliability. The average AMT liability forreturns with AGIs above $500,000 in1994 was $44,100, whereas theaverage AMT liability for returns withAGIs below $500,000 was $5,200.

The data suggest that roughly 40percent of taxpayers with AMT liabilityoff the AMT form (i.e., excluding lostcredits) in one year will have AMTliability in the following year. Based onpanel data, 37 percent of the taxpayersin the panel who had AMT liability in1992 also had AMT liability in 1993; 46percent of the taxpayers who had AMTliability in 1993 also had AMT liability in1994.15 Overall, 65 percent of thetaxpayers who had AMT liability overthe 1992–4 period had AMT liability inonly one of the three years, 28 percenthad AMT liability in two of the threeyears, and only 6 percent had AMTliability in all three years.

In 1994, 18,000 taxpayers (four percentof all taxpayers with AMT liability) hadno regular tax liability but did have AMTliability. These taxpayers incurred a totalof $318 million in AMT liability (ninepercent of total AMT liability). Theaverage amount of AMT liabilityincurred by these taxpayers was$18,000 per year. The most distinguish-


461


462


463

ing characteristics of these taxpayers arethat together they accounted for 63percent of all AMT NOL deductions, 33percent of the incentive stock optionpreference, and 22 percent of AMTforeign tax credits used.

THE AMT UNDER PRESENT LAW OVERTHE NEXT TEN YEARS

Most taxpayers see the AMT as a taxthat has no impact on them. A commonperception is that the AMT applies onlyto an elite few and can be safelyignored by the vast majority of taxpay-ers. However, if no change is made topresent law, the AMT will affect over 9million individual taxpayers by 2007.

Today the AMT affects relatively fewindividual income taxpayers. In 1997, itis projected that just under 700,000taxpayers will be affected by the AMT.16

These taxpayers make up fewer than0.7 percent of all taxpayers with positiveindividual income tax liability in 1997.The impact of the individual AMT willbroaden significantly over the next tenyears unless there is a change in presentlaw. From 1997 through 2007, the

number of taxpayers with AMT liabilityis projected to grow at an annual rate of29 percent. In 2007, just under 9percent of all taxpayers with positive taxliabilities will be affected by the indi-vidual AMT. This large increase in thenumber of taxpayers affected by theAMT is shown in Figure 3.

Under present law, tax liability from theindividual AMT also is projected toincrease substantially. As shown inFigure 4, tax liability from the individualAMT revenues and lost tax credits isprojected to increase to just over $21billion by 2007. This is more than threetimes the amount of AMT liability in1986, and represents a 16.5 percentaverage annual increase from theprojected $4.5 billion in AMT liability for1997. As a percentage of individualincome tax liability, the AMT is projectedto increase from 0.7 percent in 1997 to2.1 percent in 2007.

Designed to ensure that high-incometaxpayers with unusually high deduc-tions, exemptions, and credits do notavoid paying income taxes, the AMTgenerally has affected few taxpayers

TABLE 3INCOME DISTRIBUTION OF INDIVIDUAL AMT, 1994

Source: Treasury’s Individual Tax Model.Note: Detail may not sum to total because of rounding.

AdjustedGrossIncome(in Dollars)

Amount ofAMT Liability

$ MillionsPercentof Total

Returns withAMT Liability

Number(in Thousands)

Percentof Total

32635

185767

147108

30

464

<00 – 10,000

10,000 – 20,000 20,000 – 30,000 30,000 – 50,000 50,000 – 75,000 75,000 – 100,000100,000 – 200,000200,000 – 500,000

>500,000

Total

3000125

203137

100

102176

124070

189705

1,1151,323

3,579

16114

121432236

100


464


465


466

with income less than $100,000. In1997, only 0.2 percent of taxablereturns reporting AGI less than$100,000 are projected to pay the AMTor to have tax credits reduced becauseof the AMT. By 2007, this percentage isprojected to increase to 4.4 percent.17

More than one in four taxpayers withAGI greater than $75,000 will beaffected by the AMT in 2007, and nearlyone in three taxpayers with AGI greaterthan $100,000 will be affected. Figure 5compares the percentage of taxablereturns affected by the AMT in tax year1997 with the percentage of returnsaffected in tax year 2007 by AGI class.Under present law, the most dramaticrise in the share of taxpayers affected bythe AMT will occur in the $75,000 to$100,000 AGI category.

A rising share of the AMT preferenceitems of taxpayers affected by the AMTwill come from the standard deductionand personal exemptions. The increasein importance of these two preferenceitems indicates the broader range oftaxpayers who will be affected by theAMT over the next ten years underpresent law. These two AMT preferenceitems are projected to make up just over13 percent of the total AMT preferenceitems in 1997 for taxpayers affected bythe AMT. This share will increase tonearly 50 percent by 2007. Today, themajority of the AMT preference itemscome from the personal exemption,standard deduction, state and localtaxes, and miscellaneous itemizeddeductions. However, by 2007, thesefour preference items will constitutealmost 95 percent of all AMT prefer-ences. Under AMT rules, these fourpreference items are exclusion itemsthat cannot generate AMT credits to beused to offset future regular tax liability.Table 4 shows the distribution of AMTpreference items for taxpayers affectedby the AMT in tax years 1997 and 2007.

The share of total AMT preference itemsfrom the standard deduction willincrease by almost sixfold over the ten-year period, increasing from 1.2 to 6.8percent.

The Standard Deduction and the AMT

The increase in the standard deductionas a share of total AMT preferenceindicates that the AMT will have animpact on an increasing number oftaxpayers who claim the standarddeduction. Between 1997 and 2007,the number of taxpayers who claimthe standard deduction and have AMTliability is projected to increase fromapproximately 65,000 to nearly 2.1million. As a percentage of taxablereturns claiming the standard deduction,the increase also is large. In 1997, 0.1percent of all taxpayers with positive taxliability and claiming the standarddeduction are projected to be affectedby the AMT. By 2007, this percentage isexpected to rise to 3.2 percent.18

An example may help demonstrate whyso many taxpayers who take thestandard deduction will be affected bythe AMT in the future under presentlaw. Consider a hypothetical family thatconsists of a couple with two depen-dents filing a joint return. Assume thecouple takes the standard deduction19

and claims the dependent care credit foreach dependent.20 The regular individualincome tax, before and after tax credits,and the tentative AMT over a range ofAGI levels are shown in Figure 6 for ourhypothetical family for 1997. As Figure6 shows, this family’s regular income taxafter credits exceeds its tentative AMTfor all income levels. Therefore, the taxliability of this family would be repre-sented by the regular-tax-after-creditcurve, and the family’s tax liability isunaffected by the AMT. Over the next


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ten years, this situation will change. Thestandard deduction and personalexemption amounts are indexed forinflation, so for any given income levelexpressed in nominal dollars, thehypothetical family’s regular income taxliability will be lower over time. Graphi-cally, the indexation of the standarddeduction and personal exemptionsshifts the curves representing theregular income tax before and aftercredits down as we look at future years.Because the AMT exemption amount($45,000 for a joint return) is notindexed for inflation and the standarddeduction and personal exemptions areAMT preference items, the curverepresenting tentative AMT remainsfixed.

Figure 7 shows what would happen toour hypothetical family in 2007 underpresent law. A family with AGI between$65,591 and $151,775 will have toreduce its dependent care creditbecause of the AMT. If its AGI isbetween $74,318 and $103,775, thefamily would lose the entire dependentcare credit and would pay AMT taxesequal to the difference between thefamily’s tentative AMT and its regularincome tax before credits. For example,a taxpayer with the same familystructure as our hypothetical family and

AGI of $80,000 would have regularincome tax liability before credits of$8,625.21 Before consideration of theAMT, this taxpayer would be entitled toa dependent care credit of $960.However, this taxpayer’s tentative AMTwould be $9,100. Because his tentativeAMT exceeds his regular income taxbefore credits, the taxpayer’s entiredependent care credit would bedisallowed and he would be required topay a minimum tax of $475. In thisexample, the AMT has increased thetaxpayer’s tax liability by $1,435.

Our projections of the effect of the AMTon taxpayers claiming the standarddeduction support the findings of ourhypothetical example. In 1997, weproject that approximately 0.4 percentof taxpayers with AGI between $75,000and $100,000, who claim the standarddeduction, will be affected by the AMT.By 2007, we project that this percent-age will increase to 23.3 percent. Theperception of the AMT as a tax on high-income individuals who make use ofunusually high deductions will have tochange in the future if there is nochange in present law.

Distribution of the AMT

Table 5 presents the projected distribu-tion of the AMT by AGI category for taxyears 1997 and 2007. In 1997, 67percent of taxpayers affected by theAMT had AGI greater than $100,000.These taxpayers will pay over 88 percentof the taxes collected by the AMT. By2007, 57 percent of the taxpayersaffected by the AMT will have AGIgreater than $100,000.22 The percent-age of AMT returns with AGI over$200,000 will drop from 32 percent in1997 to 17 percent by 2007. The shareof AMT taxes from this AGI class willalso decrease from 71 to 49 percentover the same period. Taxpayers with

TABLE 4SELECTED AMT PREFERENCES AS PERCENTAGE OFTOTAL AMT PREFERENCES, PROJECTIONS FOR TAX

YEARS 1997 AND 2007

AMT Preference 1997 2007

Personal exemptions Standard deductionState and local taxes Medical deductionsMiscellaneous itemized

deductionsOther preferences and

adjustments

Source: Joint Committee on Taxation IndividualTax Model.

40.9%6.8%

38.6%0.7%

8.5%

4.5%

11.9%1.2%

43.9%0.4%

16.0%

26.6%


469


470


471

AGI between $50,000 and $100,000will become an increasing percentage oftaxpayers affected by the AMT. In 1997,26 percent of AMT taxpayers had AGIbetween $50,000 and $100,000; by2007, the percentage will increase to 40percent. The share of AMT taxes willincrease from 7 to 17 percent between1997 and 2007 for taxpayers in thisincome class.

Indexation of the AMT

The sharp increase in the number oftaxpayers affected by the AMT over thenext ten years occurs because the mainparameters of the regular income taxare indexed for inflation while the AMTparameters are not indexed. To demon-strate, we projected the number oftaxpayers affected by the AMT and theirAMT liability assuming that the mainparameters of the AMT were indexedfor inflation starting with tax year 1998.The three main parameters of the AMTthat are indexed for this exercise are theAMT exemption, the income level atwhich the phaseout of the AMTexemption begins, and the income levelat which the AMT marginal tax rateswitches from 26 to 28 percent.

Figures 3 and 4 show the effect ofindexing these parameters. Withindexation, the number of taxpayers

affected by the AMT increases fromapproximately 700,000 in tax year 1997to just over 800,000 by tax year 2007.Therefore, approximately 8.2 millionfewer taxpayers would be affected bythe AMT if these AMT parameters wereindexed for inflation beginning with taxyear 1998.

With indexation of the AMT parameters,minimum tax receipts and lost creditswould increase from $4.6 billion in 1997to $7.2 billion by 2007, but as apercentage of total individual incometax revenues, revenues generated by theAMT would remain at 0.7 percent.

ENDNOTES

We are grateful to Jim Cilke, Jim Nunns, MarkRider, and John Karl Scholz for their comments.We are especially grateful to Jim Cilke and GordonWilson for their superb computer assistance. Theviews expressed in this paper are those of theauthors and do not necessarily reflect the views ofthe Joint Committee on Taxation or the U.S.Treasury Department.

1 The most recent detailed IRS data available on theAMT are for 1994.

2 In the four years in which the two minimum taxesoverlapped, 1979–82, a taxpayer could haveliability from both taxes.

3 The corporate minimum tax was also established in1969.

4 The 1976 legislation also required the Treasury topublish annually the number of taxpayers withincomes greater than $200,000 who had nofederal income tax liability.

TABLE 5INCOME DISTRIBUTION OF AMT, PROJECTIONS FOR TAX YEARS 1997 AND 2007

1997 2007

Source: Joint Committee on Taxation Individual Tax Model.*Sum does not equal 100 due to rounding error.

AdjustedGross Income(in Dollars)

Percent ofAMT

Returns

Percent ofAMT

Liability

Percent ofAMT

Returns

Percent ofAMT

Liability

47

173338

100

72635266

100

217313416

100

34040161

100

< 50,000 50,000 – 100,000100,000 – 200,000200,000 – 500,000

> 500,000

Total, all returns *


472

5 Before 1987, a taxpayer’s total AMT liabilityactually was the difference between his tentativeAMT and his regular tax liability (before othertaxes). The Tax Reform Act of 1986, however,changed the way AMT liability is currentlyreported. Under current law, tax credits lost by ataxpayer because of the AMT are reflected in thecredit forms themselves rather than on the AMTform. Thus, AMT liability currently is the differencebetween tentative AMT and regular tax liability(before other taxes) plus lost credits. An exampleshould clarify. Assume a taxpayer has regular taxliability of $10,000 (before credits and other taxes),$500 in tax credits (all lost because of the AMT)and tentative AMT of $11,000. Under pre-1987law, the taxpayer would report regular tax liabilityof $9,500 and tentative AMT of $11,000; thetaxpayer’s AMT liability was reported as $1,500.Under current law, the taxpayer would reportregular tax liability of $10,000 (lost credits arereflected on the credit forms) and tentative AMT of$11,000; the taxpayer’s AMT liability is reported as$1,000 (as calculated on the AMT form). But theactual effect of the AMT under current law is still$1,500 ($500 in lost credits and $1,000 in liabilityoff the AMT form).

6 Personal exemptions are not explicitly included asan AMT preference item on the AMT form.Because the AMT form starts with line 35 of Form1040, the fact that personal exemptions areeffectively an AMT preference is obscured.Personal exemptions, however, should beconsidered as a preference item because the AMTdoes not allow deductions for personal exemp-tions.

7 Taxpayers can prevent certain preferences frombeing treated as AMT preferences if they use theAMT treatment of these items when figuring theirregular tax. The preferences for which theoptional write-off can be used are (1) research andexperimental expenses, (2) circulation expenses, (3)intangible drilling costs, and (4) mining explorationand development costs.

8 The empowerment zone employment credit, whichwas established in 1993, can offset up to 25percent of a taxpayer’s AMT liability.

9 The amount of lost credits, however, does notnecessarily represent additional revenue to thegovernment from the AMT. Lost GBCs can becarried back three years to offset prior year regulartax liability. Lost credits that are carried backrepresent no additional revenue for the govern-ment from the AMT. Lost GBCs that cannot becarried back can be carried forward 15 years; lostAMT credits can be carried forward indefinitely. Asa result of these carryforwards, some of the taxcredits used to reduce regular tax liability for non-AMT taxpayers in 1994 may represent lost creditsfrom previous years, and some of the credits lost in1994 may be used to reduce regular tax liability in

future years. Some of 1994’s lost credits mightactually have been lost credits from 1993 thatwere carried forward to 1994.

10 The general business credits affected by the AMTare as follows: (1) investment, (2) targeted jobs,(3) alcohol fuels, (4) research and experimental, (5)low-income housing, (6) enhanced oil recovery, (7)disabled access, (8) renewable electricityproduction, (9) Indian employment, and (10)employment social security. In addition, at least 75percent of the empowerment zone employmentcredit is lost because of the AMT.

11 The other credits that can be lost because of theAMT are as follows: (1) child and dependent care,(2) elderly or disabled, (3) nonconventional fuels,(4) electric vehicles, (5) orphan drug, (6)investment, (7) targeted jobs, (8) alcohol fuels, (9)research expenditures, (10) low-income housing,and (11) enhanced oil recovery, (12) disabledaccess, (13) renewable electricity production, (14)mortgage interest, and (15) earned income tax.

12 The corporate AMT, unlike the individual AMT,allows all AMT liability to offset future corporateregular tax liability in excess of tentative AMT.

13 Lost credits for nonconventional fuels and orphandrugs are treated exactly the same as AMT creditsgenerated from deferral preferences and can becarried forward indefinitely.

14 Capital gains realizations increased from $132billion in 1985 to $343 billion in 1986.

15 The panel consists of a weighted sample oftaxpayers who filed a tax return in 1985 and ineach year of the 1991–4 period. The panelaccounts for 68 million taxpayers, about 60percent of the total number of taxpayers in 1994.

16 The source of all projections of individual incometax liabilities presented in this section is the JointCommittee on Taxation individual income taxmodel.

17 The income categories are reported in nominaldollars.

18 Likewise, there would be a large increase in thepercentage of taxpayers who itemize theirdeductions and pay the AMT. In 1997, 1.9 percentof taxpayers with positive tax liability who itemizewill pay the AMT. By 2007, this percentage willincrease to 17.6 percent.

19 In 1997, the standard deduction for joint filers is$6,900 and the personal exemption is $2,650.

20 The dependent care credit applies to employment-related expenses up to $4,800 for two or morequalifying dependents. The credit rate is 30percent for taxpayers with AGI less than $10,000phasing down to 20 percent for taxpayers withAGI over $28,000. The dependent care credit isincluded in this example to show how the AMTaffects individual income tax credits.

21 It is projected that the standard deduction fortaxpayers filing a joint return will increase to$9,300 for tax year 2007, and the personal


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exemption amount for that year is projected to be$3,550.

22 These income categories are not adjusted forinflation. Hence, while the percentage of AMTtaxpayers with income above $100,000 decreases

between 1997 and 2007, the percentage of alltaxable returns reporting AGI greater than$100,000 is projected to increase from 7 percentof taxable returns to 15 percent during this sameten-year period.

Documents

THE INDIVIDUAL AMT: WHY IT MATTERS - ntanet.org INDIVIDUAL AMT: WHY IT MATTERS ... the AMT uses a separate tax calculation ... The AMT form does not call the difference in NOL