All signs point to a political stalemate on the big tax issues this fall, including both the future of the Bush tax cuts and President Obama’s new tax proposals to spur hiring and investment. But there is a ticking time bomb that could upend calculations in both political parties: the Alternative Minimum Tax, or AMT, a huge and largely incomprehensible tax that will hit almost 27 million households in the next few months if Congress fails to act.
The AMT is the like a tax version of the vampire Lestat, locked up for years in a coffin but gaining strength all the while. It was created in 1969 to stop millionaires from taking too much advantage of tax breaks, but its potential reach has expanded to include millions of middle-income families. For years, Congress has suppressed the tax’s expansion by passing one-year patches to the law. But not this year. The last patch expired at the end of 2009, which means that millions of unsuspecting people could face a nasty shock as soon as they start filing their 2010 tax returns.
The Congressional Budget Office estimates that the AMT would hit 27 million taxpayers this year, up from 4.5 million in 2009. The average tax increase would be $3,900, the agency predicted. Virtually every family with an income above $100,000 would be affected, the agency predicted. The budget cost of a one-year patch just for 2010 is expected to be about $70 billion, and to climb again next year.
This Fall’s Must-Pass Bill
That makes a fix for the AMT more of a must-pass bill this fall than an extension of the Bush tax cuts. Even though the Bush tax cuts expire at the end of 2010, a bickering Congress could easily postpone action until next spring without anybody noticing. The same is true for President Obama’s package of spending and tax proposals to revive economic activity. The tax proposals include a permanent extension of the tax credit for research and development, a temporary reprieve from payroll taxes for new hires, and a temporary measure to let corporations expense 100 percent of new investment in buildings and equipment.
But Democrats face intractable opposition from Republicans, who are hoping to score major gains in the upcoming midterm elections. "The White House is missing the big picture,’’ said House Minority leader John Boehner on Tuesday. “None of its plans address the two big problems that are hurting our economy: excessive government spending, and the uncertainty that Washington Democrats’ policies, especially their massive tax hike, are creating for small businesses.” Republican analysts say their party has no reason to agree with President Obama on anything before the upcoming elections, or in a lame-duck session this fall after the elections.
Many analysts predict that Congress will pass a one-year extension of all the Bush tax cuts this fall, and postpone almost all other action until next year.
“You can never overestimate Congress’s ability to get nothing done, but I think it would be very damaging to let the tax cuts sunset,’’ said Douglas Holtz-Eakin, director of the American Action Forum, a GOP think tank. “If you let them actually sunset, you could create a lot of negative psychology.”
force the two parties into a somewhat broader agreement.
On Wall Street, some analysts are already worrying that Congress won’t even agree on a temporary extension of tax cuts for middle-income households.
“Policy gridlock in Washington has created uncertainty, which is a drag on growth,’’ Richard Berner, chief economist at Morgan Stanley, wrote in a research note to clients. “If, contrary to the assumptions behind our forecasts, this gridlock is not resolved soon, expectations of fiscal drag will become reality.”
The AMT, which would start to hit taxpayers as early as January, is the one must-pass tax measure that might force the two parties into a somewhat broader agreement. Because it is the hardest issue to postpone, it could prompt lawmakers to hammer out deals on other issues.
But veteran observers note that Congress also failed to pass an extension of the estate tax on inherited wealth. Under the Bush tax cuts, the estate tax was whittled back and then eliminated for 2010, but it is set to reappear in full in 2011. Democrats want to retain the estate tax at 2009 levels, while Republicans want to eliminate it permanently.
“If you forced me to make a prediction, I would say that Congress will act on the AMT,’’ said Bill Ahern, head of communications for the Tax Foundation. “But one year ago, I said there was no way that Democrats would let the estate tax disappear this year, and look at what happened.”