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Friday, November 26, 2010

The Alternative Minimum Tax for Individuals

Steven Maguire
Specialist in Public Finance

Over time, the individual income tax has been used as a vehicle to promote various social and economic goals. This has been accomplished by according preferential tax treatment to certain items of income and expense. The net result, however, has been that by taking advantage of the preferences and incentives in the tax code, some individuals can substantially reduce their income taxes.

Congress, in 1969, enacted the predecessor to the current individual alternative minimum tax (AMT) to make sure that everyone paid at least a minimum of taxes and still preserve the economic and social incentives in the tax code. The AMT is calculated in the following manner. First, an individual adds back various tax preference items to his taxable income under his regular income tax. This amount then becomes the AMT tax base. Next, the basic exemption is calculated and subtracted from the AMT tax base. A two-tiered tax rate structure of 26% and 28% is then assessed against the remaining AMT tax base to determine liability. The taxpayer then pays whichever is greater, the regular income tax or the AMT. Finally, the AMT tax credit is calculated as an item to be carried forward to offset regular income tax liabilities in future years.

Since its inception, the value and effectiveness of the minimum tax has often been the subject of congressional debate. Recently, the combined effects of inflation and the pending expiration of the 2001 and 2003 regular income tax cuts, have increased congressional concern about the alternative minimum tax.

The 2001 and 2003 tax cuts (P.L. 107-16 and P.L. 108-27) provided for temporary increases in the basic exemption for the AMT as a means of mitigating the interaction between the reductions in the regular income tax and the AMT. The Working Families Tax Relief Act of 2004 (P.L. 108- 311) extended those increases in the AMT exemption through 2005. Tax Increase Prevention and Reconciliation Act of 2005 (P.L. 109-222) patched the AMT for 2006 and allowed nonrefundable personal tax credits to offset AMT liability in full. The Tax Increase Prevention Act of 2007 (P.L. 110-166), enacted on December 26, 2007, increased the exemption and allowed all personal and business credits against the AMT. The Tax Extenders and Alternative Minimum Tax Relief Act, which was included in the Emergency Economic Stabilization Act of 2008 (P.L. 110-343) and enacted on October 3, 2008, extended the AMT patch for the 2008 tax year.

In the 111
th Congress, P.L. 111-5, The American Recovery and Reinvestment Act of 2009, included a one-year patch for the 2009 tax year, increasing the exemption amounts to $46,700 for individuals and $70,950 for joint filers. As with recent AMT patch legislation, nonrefundable personal credits are allowed against the AMT.

A permanent fix to the AMT would be expensive. Indexing the AMT for inflation from the 2009 levels through 2020 would cost an estimated $658.8 billion. The revenue loss estimate assumes that the 2001 and 2003 tax cuts are extended for all taxpayers. The 2011 budget proposal, however, also includes a revenue gain from letting some of the tax cuts for high income taxpayers expire. The Statutory Pay-as-You-Go Act of 2010 (P.L. 111-139) allows for an AMT patch for the 2010 and 2011 tax years such that the same number of taxpayers are affected in those years as in 2008 (3.9 million taxpayers). Without an AMT patch for 2010, the Joint Committee on Taxation (JCT) estimates that 25.2 million taxpayers would be affected by the AMT.

Date of Report: November 15, 2010
Number of Pages: 12
Order Number: RL30149
Price: $29.95

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