Why Do We Need A Millionaires’ Tax When We Have The AMT?

“I reject the idea that asking a hedge fund manager to pay the same as a plumber or a teacher is class warfare. It’s just the right thing to do… This is not class warfare. It’s math. The money’s gonna have to come from someplace.” – President Obama speaking in the Rose Garden today

Today, President Obama unveiled a plan to reduce the deficit by $4 trillion and pay for the new round of economic stimulus, the American Jobs Act, he sent to Congress last week. In a Rose Garden speech about the plan, the President repeatedly emphasized the idea that spending cuts need to be balanced with tax increases. What will likely be one of the most controversial  elements of the plan is Obama’s proposal that individuals making over $1 million pay a certain minimum tax rate. Nicknamed the “Buffett Rule” after Warren Buffett’s advocacy of higher taxes for the super-rich, the proposal aims to rectify the fact that, due to the quirks of our tax system, some ultra-wealthy individuals pay lower effective tax rates than upper-middle income households.

Some of you may be scratching your heads, wondering, don’t we already have a tax that’s designed to ensure the wealthiest households pay a certain minimum tax rate? Why, yes we do: the Alternate Minimum Tax or AMT. Individuals with income above a certain threshold have to calculate what they owe under the AMT, which has a different set of rules than the regular income tax system, and then pay whichever is greater, their regular income tax or the AMT.  Why do we need a millionaires’ tax if we have the AMT? Simply put, the AMT is not achieving its intended goals.

(1) Over time the AMT has come to affect families on the lower end of the upper class more than the super-rich. When first enacted forty years ago, the AMT affected only 20,000 taxpayers, but by 2009, 5% of taxpayers paid the AMT. As it has grown to include more households, the AMT has begun to affect average wealthy families (some people would call them upper-middle class but I think that is numerically misleading) more than the super-rich, as you can see in the table below. Many super-high-earners don’t pay the AMT because they owe more under the regular income tax system (which maxes out at a 35% marginal rate) than the AMT (which maxes out at 28%). The AMT is doing less to increase taxes for the super-rich (its original target) and more to increase taxes for those on the lower end of the upper income brackets.

Income

Percent Affected By The AMT (2011 projected)

Average Effective Marginal Tax Rate After The AMT (2009)

$200,000 – $500,000

52%

34.0%

$500,000 – $1,000,000

67%

30.2%

> $1,000,000

42%

27.9%

(2) The AMT doesn’t address one of the main reasons why the super-rich pay lower overall tax rates than some people who earn much less than them: preferential rates on capital gains. As I explained before, when compared to other taxpayers, the super-rich earn a higher share of their income from dividends and gains on investment than from wages. Investment gains are taxed at a lower rate than wages, ergo lower overall tax rates for the super-rich. Since 1987 the AMT has had the same preferential rates (currently 15%) for capital gains as the regular income tax system, so this distortion carries over into the AMT system (see the last column in table above).

Obama didn’t discuss many details of the millionaires’ tax during his Rose Garden speech, but according to the NY Times, he intends it to replace the AMT. Which may make sense given what he is aiming for, since the AMT in its current form doesn’t effectively target the super-rich and doesn’t fix one of the main tax breaks that disproportionately accrues to the super-rich. It seems to me that if anyone should be in favor of a millionaires’ tax, it is the people on the lower end of the upper class, those making between $200,000 and $1 million a year, since they often end up paying the same or higher tax rates as people earning hundreds of times what they earn.

The Individual Alternative Minimum Tax: Historical Data and Projections, Updated October 2009
Urban-Brookings Tax Policy Center // Katherine Lim, Jeff Rohaly // October 5, 2009

The Alternative Minimum Tax
Congressional Budget Office // Roberton Williams // April 15, 2004

3 thoughts on “Why Do We Need A Millionaires’ Tax When We Have The AMT?

  1. In our neck of the woods we earn less than $200k, and still pay AMT, because property taxes are so high. Our neighbors are teachers, train engineers, school custodians. This issue should be front and center in the Democratic assault. Of course the GOP is a great supporter of AMT because it punishes those suburbanites who vote in Democratic local government and pay high property taxes (because they wish to maintain standards in the schools, live in a pleasant environment, support local amenities, God forbid).

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