PAUL GIGOT: Welcome to THE JOURNAL EDITORIAL REPORT. About 35 years ago, the Treasury Department reported to Congress that 155 people with high incomes had not paid any income tax. So Congress acted, imposing a tax to make sure rich folks don't use loopholes and shelters to escape paying. It is called the Alternative Minimum Tax, and all these years later it has become a kind of parallel income tax. Some of you may have noticed: taxpayers are forced to figure the tax they would owe under the regular income tax, then figure the tax they would owe under the alternative minimum tax, and then pay the bigger of the two. And more and more people are having to do this, because -- unlike the rest of the tax code -- the threshold for the alternative minimum tax is not adjusted for inflation.
Here's the result: When the alternative minimum tax started in 1970, 20,000 people paid it. This year, about 3.1 million people will pay it. And by 2006, unless something is done, more than 20 million people will pay it. And these are not the super rich tax-avoiders at whom the tax was aimed. These are mostly Americans with incomes between 100 and 500 thousand dollars a year.
With me to discuss all this are: Dan Henninger, columnist and deputy editor of THE WALL STREET JOURNAL editorial board; Jason Riley, a senior editorial page writer; and Stephen Moore, an economist who specializes in taxation and budget matters. He is President of the Free Enterprise Fund and a regular contributor to THE WALL STREET JOURNAL. Steve, welcome to the program. Great to have you. Why is the AMT, the Alternative Minimum Tax, hitting so many more taxpayers than it used to? And it's not really well-liked, is it?
STEPHEN MOORE: Well, you know, this is exactly what happened with the original income tax, if you go back to 1913 when we set up the income tax. It was supposed to be the rich man's burden, and the top rate, as you may recall, was 10 percent. Oh, no, I think it was seven percent, and people said pretty soon it'll be 10 percent. It was supposed to be only on the top five percent of Americans, and then it hit all Americans. And that's exactly what's happened with the Alternative Minimum Tax.
You're right. It was aimed at the few dozen richest people in America. Now you're exactly right, it's hitting many middle income people. I was pushed into the AMT this year. As you know, Paul, I'm not a rich man. Charles Grassley, the Chairman of the Senate Finance Committee, was hit by the AMT this year. Maybe that'll bring us some relief, when the Chairman of the cash rating committee gets hit by this. It's become one of the hated features of the tax code.
PAUL GIGOT: It's also something of a stealth tax, isn't it? Because you assume when you pay your income tax that all the normal legal deductions that you get, whether for having children or state and local taxes, will apply to you. But if you are forced into the Alternative Minimum Tax, a lot of those deductions go away.
STEPHEN MOORE: Yeah, what makes people really angry about the Alternative Minimum Tax is you fill out your regular 1040 forms, and that's no fun, and then when you're done with that you have to fill out the Alternative Minimum Tax. It should actually be called the Maximum Tax, not the Minimum Tax, because the truth is you have to pay the greater of the two, not the lesser of the two.
PAUL GIGOT: This was designed in 1969 because a Treasury Secretary by the name of Joe Barr, who was Treasury Secretary for all of 30 days at the end of LBJ's term gave testimony...
STEPHEN MOORE: This was his legacy.
PAUL GIGOT: It is. It really was Joe Barr's legacy. Gave his testimony before Congress that 21 millionaires were somehow evading tax. And then for the next few years, Congress decided to pursue those 21 millionaires. This is kind of the way tax policy gets made in this country, isn't it, Dan?
DAN HENNINGER: Yeah, it is. And it's turning out to be one of the weirdest political stories ever, because the way it is going -- I mean, this is not like the Capital Gains Tax or the Estate Tax, where it's a problem and you go over in a corner and you work on it and hope something comes of it. The way this tax is progressing in about five or 10 years it will be the tax system, and the argument is that you won't be able to get rid of it because it is the way the government produces revenue for itself.
JASON RILEY: Yeah, I think it's going to hit a little more than three million people this year. I think by '09 it'll hit a little more than 30 million people. And there are some cynical economists out there -- or maybe they're not being too cynical, but they say just let this thing continue to grow. Perhaps it will replace the regular tax code and that won't be such a bad thing if we get a sort of back door to a fairer, flatter tax system.
I mean, one of the problems with our current system is that it doesn't encourage a whole lot of economic growth. We tax savings, we tax investment. And the rates are so progressive that it sort of discourages risk taking, which means we have less entrepreneurial activity and therefore less economic growth. So if this sort of back door to a fairer, flatter tax system, or at least pushed reform in that direction, it'd be not such a bad thing.
PAUL GIGOT: One of the political ironies here is that this tax hits the most liberal states first, New York and California, New York number one in terms of AMT payers. California number two, because the state and local tax deduction does not apply to the AMT.
What are the political ramifications?
STEPHEN MOORE: The ramification is, Hillary Clinton is going to start rallying against this tax, and John Corzine and Barbara Boxer because their constituents get hit the hardest. It has been interesting over the last few months to see some of the most liberal democrats say, "Hmm, wait a minute. Maybe this tax wasn't such a good idea after all."
PAUL GIGOT: Steny Hoyer, the number two Democrat in the House from Maryland railed against the AMT, Chuck Schumer has come out and said we have to reform it. Is this really going to be a driver of tax reform this year? Because remember, in July we have the President's Tax Reform Commission coming out. Is this going to drive a kind of bipartisan search for some solution?
STEPHEN MOORE: I think it will. I think you see exactly all these liberal senators and congressmen rallying against it, and you have so many Republicans against it. And I talked to the Tax Reform Commission people last week. They said getting rid of the AMT, or at least providing some relief for it will be one of their top priorities.
PAUL GIGOT: Is there anything short of a major tax reform that we can do to adjust this? Is there some solution short of that? Obviously, one thing people would like to see is have it indexed for inflation. The regular tax code was indexed in 1981 as part of the Reagan tax cuts. But the Alternative Minimum Tax never has been. Is that some kind of a token fix that would work?
DAN HENNINGER: Yes, they might work in a sense. But it raises a subject that always comes up. It goes right to the core of tax reform. As soon as you propose any such fix, or any reform, the first question raised is, "What will it cost?" The "cost" is put in quotation marks. What they mean is, how much revenue will it withdraw from the federal government, from the federal budget?
The base line in any kind of argument here is, what does Congress need? What does the government need? And there's never a discussion, when we get into tax reform, about the size of the government and whether that's appropriate. It's always what will taxes do to keep sending all this revenue towards the government. That's what's known as "paying" for tax reform.
PAUL GIGOT: And by 2009 the Alternative Minimum Tax will actually get more revenue. It's estimated to get more revenue than the regular code, so it's almost impossible to repeal.
JASON RILEY: One way to slow it would be, of course, with these high tax states to lower some of their ... one way to slow the growth of the blob would be for the high tax states, like California and New York, to lower their rates and therefore not so many people in these states would be subject to the tax. But I doubt that's going to happen.
STEPHEN MOORE: Well, I have a radical idea with the AMT, which is let's lower the rate on that alternative amount of tax, which right now ...
PAUL GIGOT: Which right now is 26 and 28.
STEPHEN MOORE: That's right. Let's get it down to, say, 19 percent and then let people pay the lesser of the two, not the more of the two. And now all of a sudden you sort of back your way into a front tax. Because there is one virtue of the Alternative Minimum Tax, which is, it's not too complicated. There aren't a lot of deductions and carve-outs in that code. And so you can sort of back door your way into a flat tax if we can bring that rate down substantially.
PAUL GIGOT: But you would have to adjust it for a lot of people who pay the 10 percent and 15 percent rate now.
STEPHEN MOORE: That's right. You'd have to provide a zero bracket for, let's say, people up to twice the poverty level.
PAUL GIGOT: Well let's talk briefly -- we don't have a lot of time -- about the prospects of real major tax reform. Is this really something that we can see happening this year?
STEPHEN MOORE: Yes, it is. I always said that I thought there was a better chance of a bipartisan agreement on tax reform than Social Security reform. You go back to 1986 when we lowered the rates from 50 to 28 percent, got rid of a lot of the deductions. I mean, back then you could get deductions for investing in windmills and bull sperm and all sorts of things like that.
Yeah, I think there is a real chance for the Hillary Clintons of the world that come together with the supply siders on the House and Senate side and say, look, we can do better than this. Let's clear out all the pollution in the code, get the rates down.
PAUL GIGOT: I agree with you. I think, especially if Social Security reform doesn't pass the Republicans are going to be looking for a success on tax reform. All right. Thanks Steve. Thank you all. Next subject.