Corinne Ramey

The Frankenstein Tax, or the Story of How a Very Good Tax Went Wrong

Blog Post About DMI's TheMiddleClass.org

Once upon a time, in the late '60s, there were 155 Americans who didn't pay any federal taxes. These weren't just any Americans, but rich Americans who made between $200,000 and millions of dollars each year. That was a lot of money back then! They all used various tax loopholes to successfully avoid paying even a dime. When the American public found out, the story garnered widespread media attention and general public shock. The government, hard-pressed for money to pay for the Vietnam War, decided it was time to force those wealthy Americans to pay up. "But where we can prevent it by law, we must not permit our wealthiest citizens to be 100 percent successful at tax avoidance," said Nixon.

The Nixon administration's Tax Reform Act of 1969 was the legislation that eventually forced those 155 Americans to come clean to the IRS. The bill created the Alternative Minimum Tax (AMT), which legislated a minimum percentage that wealthy Americans were required to pay.

But today, almost four decades later, what started as a necessary and important tax has become what Senate Finance Committee Chairman Max Baucus has likened to Frankenstein and called a "monster" of a tax law. The tax that once only applied to the wealthiest Americans will effect 23.4 million taxpayers this year, many of them members of the middle class.

Because the AMT is not indexed for inflation, people making as little as $33,750 will be effected this tax season. The AMT also eliminates dependent exemptions, so married couples and households with children are much more likely to be effected by the tax. "The AMT is encroaching on the middle class," concludes a study by the Urban Institute and Brookings Institution. People who live in high tax states or areas with high costs of living are also hit harder by the tax.

In November, the House passed the Temporary Tax Relief Act of 2007, a bill that prevents more than 20 million middle class taxpayers from being effected by the AMT. The legislation increases other tax credits, such as the credit for local and state taxes and the child tax credit. The bill also extends tax credits to offset the AMT.

The bill is largely paid for by ending tax breaks for hedge funds and private equity firms. Other revenue-raising measures keep wealthy Americans from renouncing US citizenship to avoid paying taxes and prohibit the IRS from contracting private companies for debt collection. The bill, which will cost about $80.7 billion, is completely paid for by revenue gains, keeping with the Democrats' "pay as you go" rules.

This bill is certainly good for the middle class. As TheMiddleClass.org says,

"The Temporary Tax Relief Act of 2007 ensures that middle-class Americans are not overwhelmed by a tax that they were never intended to pay. An increase of approximately $3,000 in tax payments for more than 20 million American homes would be disastrous for families already reeling from home foreclosures, high gas prices, and unchecked income inequality. The bill’s tax credit increases and extensions, including credits for college tuition and for improving public schools in economically distressed areas, benefit current and aspiring middle-class families. The legislation also spares families who have lost their homes to foreclosure from large income tax bills that would result from their mortgage debts being voided...The bill’s revenue-raising tax hikes target the appropriate group: extraordinarily wealthy hedge fund and private equity managers who have exploited loopholes in the tax code to avoid paying their fair share of taxes."

The bill failed a procedural vote in the Senate on December 6. But luckily for all those hedge fund managers, the Senate then passed a similar version of the bill, but didn't include measures to actually pay for the tax cuts. For the bill to become law, the Senate and House will have to agree on one version of the bill that will then be signed by the President.

Until then, those 23 million taxpayers will just have to hope that the AMT will be amended before 2007 taxes are due. "Unless we act it will destroy the whole tax system," Baucus said of the tax. Those 155 taxpayers may not be around anymore, but the story continues for 23 million others.

Corinne Ramey: Author Bio | Other Posts
Posted at 12:31 PM, Dec 11, 2007 in Tax Policy
Permalink | Email to Friend