Friday, November 20, 2009

Watch out for non-indexed taxes

Remember all the agony that Congress has gone through every year because of the Alternative Minimum Tax that wasn't indexed to inflation. Every year they have to twist themselves into nots to find the money to make sure that people aren't suddenly thrown into having to pay the AMT. Originally, when it was introduced in 1970, it was meant to include only the very, very rich. It only applied to 20,000 people, But as a report by Tax Policy Center of the Urban Institute and Brookings Institute demonstrated, this small little tax on the very rich has expanded to the point where it could well encompass almost a third of all taxpayers.
Absent a change in law, more than 33 million taxpayers will be subject to the AMT by
2010. If Congress allows the tax cuts to expire at the end of 2010, the number of AMT taxpayers
will fall dramatically in 2011, but will then trend back upward over time. By 2018, about 43
million taxpayers will be subject to the AMT under current law; that number will swell to almost
57 million if the tax cuts are extended. Although most lower- and middle-income taxpayers will
remain unaffected by the tax, policymakers will need to deal with the explosive growth of the
AMT from an obscure tax affecting only 20,000 filers in 1970 to one affecting more than a third
of all taxpayers by 2010.
And why is that? Because the geniuses writing this provision in 1970 did not index the tax to inflation. And it is high cost of living states such as New York, Massachusetts, and California where this hits the most because people might receive what seems like a high salary, but it doesn't really count as such a high salary once you figure in the cost of living. so it is senators from those states, always Democrats, who are always in the lead to pass some sort of temporary fix every year to make sure that the AMT doesn't hit their constituents. You would think that our legislators would have learned their mistakes.

But nooooo. They've slapped an additional tax into Harry Reid's version of the bill. As Keith Hennessey points out, that surcharge on Medicare payroll taxes is not indexed to inflation. You might not worry about an additional tax on people earning over $200,000 a year now. But wait a decade or so as inflation kicks in, more and more people will be subject to that additional tax. If we then see those blue state Democrats replicating their role on the AMT to postpone the tax falling on their constituents? And what will that do those CBO projections of cost neutrality?

Cute, eh?