Tax and mend

asked why he’s taken a lead role in the bid by House Democrats this year to enact an overhaul of the little-known alternative minimum tax, U.S. Rep. Richard Neal of Springfield points to Maggie Rauh, a Chicopee accountant and mother of three in his western Massachusetts district.

Rauh and her husband are among the many Bay State residents trying to raise a family on a middle-class income. Saving is hard, she told Neal’s Ways and Means subcommittee on Select Revenue Measures earlier this year. And the tax code is only making it harder. After working the numbers, Rauh told the subcommittee, she was “dumbfounded” to realize that, in 2007, unless Congress acts to limit the projected hit of the alternative minimum tax, her family will be among the 23 million American households forced to pay more under the separate tax system, increasing their tax burden by $1,300—no small sum on a family income of $75,000.

That’s not what Congress intended when it created the AMT back in 1969. At the time, Congress was reacting to news that 155 high-income taxpayers had avoided taxes that year altogether by claiming unusually large deductions. The idea was to ensure that wealthy Americans couldn’t pull that stunt anymore.

But Congress made a crucial mistake by failing to index the AMT to inflation, the result of which has been a steady expansion of the people who find themselves hit by the tax, particularly among those with larger-than-average families or substantial deductions for state taxes and home mortgage interest.

Here’s how it works: Taxpayers must calculate their taxes under both the regular tax system and the AMT’s rules and pay whichever bill is highest. AMT filers cannot claim deductions for home mortgage interest or state and local taxes. Instead, single filers may claim a $42,500 deduction (or $62,550 for married couples filing jointly) and then pay 26 percent on income up to $175,000 and 28 percent on income above that.

Beginning in 2001, Congress has passed an-nual “patches” to the AMT, or one-year adjustments that have shielded most taxpayers from its bite. In 2006, only 4 million Americans ended up paying the AMT, thanks to the patch. But because of high property costs and state and local taxes, Massachusetts is one of the hardest-hit states in the country—seventh overall, according to a recent study of 2004 data by the Tax Foundation, a Washington think tank. Nearly 4 percent of state taxpayers paid the AMT that year.

The hardest-hit congressional district in the Bay State was the 4th, which runs from western Boston suburbs such as Brookline and Newton down to the South Coast and is represented by Barney Frank. There, nearly 5.5 percent of taxpayers were hit with an average AMT bite of $4,500 beyond what they would have paid under the regular tax structure. Neal’s 2nd district, anchored in Springfield, had a relatively low burden, with only 2 percent of taxpayers paying the AMT there.

But Neal, because of his role as the only Bay State representative on the tax-writing Ways and Means Committee, has been more attuned to the growing AMT problem than most, first proposing legislation to fix it a decade ago. Now, with Democrats in control of the House for the first time since 1995, and Neal chairing the Ways and Means subcommittee with oversight authority on the issue, he’s leading the effort.

“This was part of the promise we made during election season: to make sure middle-income people are not going to get hit by the alternative minimum tax,” he says.

But it’s proving a lot easier said than done. Neal and his allies want to end the AMT hit on middle-class households, while paying for it with tax increases elsewhere. (Price tag: $800 billion over 10 years.) “We don’t just want to do it that way, we have to do it that way,” he says. That’s because House Democrats, upon taking control of the chamber in January, put back in place so-called pay-as-you-go rules, which require legislation to be revenue-neutral.

Neal says his plan would benefit 87 taxpayers for every one who has to pay more because of it. “The anger of the one is relatively insignificant compared to the 87,” he says. But most of the 87 who stand to benefit from Neal’s fix—people like Chicopee’s Maggie Rauh—have never actually felt the tax’s hit, because of the patches Congress has passed each year. That’s why the political calculus is that those who would benefit from a permanent AMT solution are unlikely to know the difference, while those stuck with the tab to pay for it surely will.

Meanwhile, despite the Democratic takeover of Congress, Neal isn’t getting much help from the Senate, where finance committee chairman Max Baucus, a Montana Democrat, is pushing a two-year patch for the AMT at a cost of $110 billion that he doesn’t intend to pay for by raising taxes elsewhere.

Neal says he’s not worried about how the Senate approaches the job, saying that it’s the House’s role to lead on revenue measures, and let the chips fall where they may. He wants to raise the AMT rates from the current level of 28 percent on joint income tax filers with incomes of above $500,000, in order to pay for an elimination of the tax for filers below $250,000. Families with incomes in between would still be subject to the AMT, but would get a rate reduction. (But if the legislation does not include indexing for inflation, the AMT squeeze on the middle class could reappear down the road.)

For their part, Neal’s Republican counterparts on the Ways and Means Committee have blasted the approach as a surefire way to short-circuit economic growth. President Bush hasn’t said whether he would support it, but most Washington prognosticators think it’s unlikely.

Meet the Author

Shawn Zeller

Washington Correspondent
Neal says that for every year Congress passes another temporary fix—and fails to pay for it with tax increases elsewhere—other federal programs and urgent funding needs are left unmet. “It takes away your ability to do other things you’d really like to do,” he says. “I think there’s more political risk to not fix it.”

Whether enough of his colleagues come to see it that way, of course, is the real question.