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We need to eliminate the AMT from the tax code entirely. Here’s why:
The Alternative Minimum Tax (“AMT”) presents hardships to the practitioner as well as the taxpayer who prepares his own return by, as its name implies, imposing a second tax calculation mechanism on taxpayers. It serves virtually no useful purpose, other than the raising of an ever-increasing amount of tax revenue. But it has become very clear in recent years that this AMT tax revenue is not coming from just the taxpayers who were the intended targets of this tax.
The AMT was instituted in its present form when the prior “add on” Minimum Tax was transformed into the AMT in the early 1980’s. Its stated purpose was to require that all taxpayers paid at least a fair share of tax. It was to do this by identifying “loophole” type deductions, also known as “preferences”. There would then be an alternative calculation using lower tax rates applied against this taxable income as increased by the preferences. Whichever of the taxes is higher is the one the taxpayer must pay.
However the AMT was seriously flawed from the outset. Instead of focusing on these loophole type preferences (which would have limited the tax to a very small number of tax law “abusers”), the law that was passed included items that were not loopholes at all. A convoluted formula compares the differences between income and deductions to determine who falls under the guidelines.
A very substantial majority of all AMT paid by taxpayers results from the following four factors:
- Treating state and local taxes as a preference
- Treating miscellaneous deductions as a preference
- Allowing lower exemptions than the regular tax.
Each of these, however, can be quickly shown as inappropriate factors with which to base a tax system intended to just make sure everyone pays a “fair share” of tax.
- State and local taxes are hardly a loophole. The taxes exacted by state and local governments are hardly “voluntarily” paid by taxpayers in an attempt to avoid paying federal taxes.
- Miscellaneous deductions is the category of deductions that consists primarily of expenses incurred to earn income that is subject to tax. It includes unreimbursed employee expenses, investment expenses, etc. This is the most basic and important deduction needed to have a truly fair income tax system. For example, if an individual pays a lawyer a fee for collecting back wages, the legal fee is a miscellaneous deduction. If an individual pays the lawyer $300 for collecting $1000 of back pay, netting $700, the AMT would tax the individual on the full $1000.
- The exemption available under the AMT tax system is a fixed dollar amount which, unlike exemptions and standard deductions under the regular tax system, is not indexed for inflation. Furthermore, it is phased out entirely over certain income levels. And each year Congress has to approve an annual “patch”, which raises the threshold for inflation, in order to raise the exemption limits of the tax so that less wealthy taxpayers won’t be subject to the AMT.
The AMT in its present form has no place in tax law. The AMT does not serve the purpose for which it was intended and functions in a most inequitable manner while adding enormous compliance burdens. It should therefore be changed to eliminate the adjustments for state and local taxes and miscellaneous deductions, update its rates, and modify its exemption — or else the AMT needs to be eliminated completely.
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The Democrats have continuously claimed that they are looking out for America’s middle class by keeping the tax rates the same for them while seeking to raise rates on the wealthiest Americans who need to “pay their fair share”. This assertions serves to deflect attention away from the one policy that is already the mechanism for ensuring that the wealthiest pay more. What is it? The AMT.
The Alternative Minimum Tax (AMT) currently serves virtually no useful purpose, other than the raising of an ever-increasing amount of tax revenue. The AMT was instituted in its present form when the prior “add on” Minimum Tax was transformed into the AMT in the early 1980’s. Its stated purpose was to require that all taxpayers paid at least a “fair share of tax”. Yet it has become very clear in recent years that this AMT tax revenue is not coming from just the taxpayers who were the intended targets of this tax.
The AMT was developed to identify “loophole” type deductions, also known as “preferences”. There would then be an alternative calculation using lower tax rates applied against this taxable income as increased by the preferences. Whichever of the taxes is higher is the one the taxpayer must pay.
However the AMT was seriously flawed from the outset. Instead of focusing on these loophole type preferences (which would have limited the tax to a very small number of tax law abusers), the law that was passed included items that were not loopholes at all. A convoluted formula is used to calculate and compare the differences between income and deductions in order to determine who falls under the guidelines. Interestingly, a very substantial majority of all current AMT paid by taxpayers results from the following factors: 1) treating state and local taxes as a preference; 2) treating miscellaneous deductions as a preference; 3) allowing lower exemptions than the regular tax.
These factors have flaws. For instance, state and local taxes are hardly a loophole because taxes exacted by state and local governments are hardly “voluntarily” paid by taxpayers in an attempt to avoid paying federal taxes. Likewise, “Miscellaneous Deductions” is the category of deductions that consists primarily of expenses incurred to earn income. It often includes unreimbursed employee expenses, investment expenses, etc. This is the most basic and important deduction necessary to have a truly fair income tax system and should not be considered a loophole. Furthermore, the exemption available under the AMT is a fixed dollar amount which, unlike exemptions and standard deductions under the regular tax system, is not indexed for inflation; it is also phased out entirely over certain income levels.
During AMT discussions over the years, Congress used to posture and point to the AMT patch as some major revenue loss (had the AMT been applied to those families) as an excuse to raise to raise taxes in order to offset this “potential missing tax revenue”. Once the “patch” became permanent and the higher exemption level kept many taxpayers from being hit with the AMT, Congress stopped talking about the AMT altogether. But the fact still remains that there is a parallel tax system already that goes after the highest income-earners; they already pay “their fair share” — and then some
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Entitlement reform is necessary for the fiscal health of this country, but it is something that no one wants to talk about, much less tackle. How can we begin? How can we open up the conversation and the possibility to reform and improve our social security system?
One step in the right direction would be to treat Social Security as a true retirement plan, and not as a wealth transfer system that it currently is. This could begin with reclassifying the payroll tax. The majority (6.2% out of 7.65%) of the payroll tax covers Social Security retirement benefits. If we actually used it (or at least most of it) for that individual’s social security retirement, everyone’s perception would change. Instead of being viewed as a hated tax (just ask any young person who has received their first paycheck), it would be viewed as a desirable saving for their future!
Let’s make another incremental change. The employer and employee contribute equally to the Social Security Tax. If the individual’s part went towards his personal retirement, the other part could go towards defraying the past obligations that are coming due. If we had done such a thing 20 years ago, the entire system would have been fixed. Unfortunately, the present situation would probably require some portion of the individual’s portion to also go towards paying the ever growing obligation for past unfunded promises. It’s that dire! And every year that we do not fix it, it gets worse.
We must stop treating Social Security like welfare or wealth transfers and start treating it like a retirement system. It’s our money anyway, even though the government wants to act like it is being generous when it gives us back our money. This would lessen the loose-and-fast accounting gimmicks that contribute to the fiscal mismanagement of Social Security anyway — and may move it away from its impending insolvency.
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Whenever tax reform, tax packages, or tax changes get discussed and debated, the focus is always on “the middle class.” While this sounds noble, the reality is that the middle class already pays very little in taxes. The majority of the middle class “tax bill” is actually Social Security — which is not truly a tax.
For example, my son made about $35,000 last year. He paid $1,500 in income tax and $4,500 in Social Security. But contributions to the Social Security system should not be viewed as a tax — it is effectively a forced retirement payment. Pundits and lawmakers need to stop calling Social Security payments a tax, and need to stop including Social Security payments in their tax equations because it does not operate as a tax.
I strongly believe that with some tweaks to the Social Security system that make the benefits more tied to contributions and allow for some ownership of the underlying assets, we can get people to view those payments in a positive light – investing for their future. When you remove the Social Security line item from the amount of tax liability, you see that the lower and middle classes have a very low income tax liability.
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I’m sick and tired of reading over and over again in places both liberal and conservative that Trump’s (as well as the Republican’s) proposed tax reforms are going to give the lion’s share of the cuts to the top 1%. The entire concept is totally distorted.
In fact, nobody has been talking about the series of tax changes that occurred when Obama and his Democrat cronies passed the Obamacare increases. These raised the Bush tax rates on only the wealthiest from 36% – 39.6 % and then again raised the tax rates on the wealthiest by adding a net investment income tax (NIIT), otherwise known as the “Obamacare tax,” which covered all investment income. The increase also raised capital gains tax on the wealthiest from 15% – 20%. When the 3.8% tax is added, capital gains rates effectively went from 15%- 23.8% — an increase of almost 60%. That’s ridiculous!
Those ludicrous tax increases were principally responsible — along with the hemorrhage of regulations coming out of the Obama administration — for the horrific economic performance since Obama took office. The first step of any meaningful tax reform should be to reverse those Obamacare tax increases, which went 100% to the higher income individuals, and 0% to the middle class and lower income. The reversal of those insane tax increases should in no way be considered a tax cut. It is just restoring what was in fact an egregious toxin on our entire economy.
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The appointment of Former F.B.I Director Robert Mueller as Special Counsel for the Trump-Russia investigation seemed like a decent choice for the task. I had only heard good things about Mueller and looked forward to getting to the bottom of whether or not there were actual, illegal ties between Trump’s campaign and Russian officials. Unfortunately, by one single action, Robert Mueller has now revealed himself as a person unfit to be special counsel. This action was his selection of Andrew Weissmann as a key advisor in the investigation. Mueller has simply discarded his integrity. Andrew Weissmann is an outrageous, criminal human being.
Robert Mueller knows full well that Andrew Weissmann should be jailed for misconduct, or at the very least, disbarred. The one job that Weissmann should never again have is that of prosecutor. There are two very well-known, high-profile court cases I will briefly overview which will show Weissmann’s lack of any moral compass and highly unethical legal practices.
The first example is the famous Arthur Andersen case. The list of egregious behaviors by Weissmann runs long:
In an effort to make a name for himself, Andrew Weissmann brought an indictment against the Arthur Andersen firm as an entity, instead of only against the partner that allegedly committed a crime. No indictment against a company for the action of one person had never been done before — or ever since. This is especially important because Weissmann knew, that in the context of a “Big 4 CPA firm,” bringing an indictment — even if no conviction were ever accomplished — would automatically and completely destroy the firm and all of its employees, which is exactly what happened.
Once he issued forth the indictment, he used malicious and unorthodox methods to pursue his case, including threatening indictment of numerous individuals if they testified for the defense, intentionally distorting the “crimes” that Arthur Andersen allegedly committed, and refusing to allow Arthur Andersen tell their side of the story to the Grand Jury.
If that wasn’t enough, Weissmann lambasted Arthur Andersen in court for legally shredding documents, which they – in accordance with their firm’s existing policy and existing law — had no obligation whatsoever to retain. Most outrageously, Weissmann made changes to the definition of the “crime” and its level of criminal culpability (intent) in the jury instructions. With all these procedures, Weissmann strongly urged — and convinced the jury — to find Arthur Andersen guilty – even if the firm had no knowledge that its members had done anything wrong.
What’s worse is that in the end, no crime was actually ever committed, as determined later by a unanimous 9-0 Supreme Court decision. At oral argument, the Court viciously ridiculed the theory that Weissmann used in order to charge the crime in the first place. Unfortunately, that exoneration came too late: Weissmann had destroyed an 89 year-old accounting institution and eliminated 85,000 jobs by distorting the law, denying the defendants a fair trial, and taking intent out of the jury instructions, all for no purpose whatsoever, except possible personal gain and fame.
The second case high-profile case, involving Jim Brown of Merrill Lynch (also related to Weissmann’s position on the Enron task force), is equally appalling:
Andrew Weissmann persecuted and prosecuted Jim Brown, a Merrill-Lynch executive, for a deal with Enron which Weissmann argued in court was a bogus deal. The problem is that Jim Brown never extracted a deal at all; he opposed it and was not a privy to it. The deal in question involved a solicitation from Merrill-Lynch to provide $7 million cash for minority holdings in a company that electrical power barges near Nigeria; Enron held the majority interest. The crime in question was the allegation that Enron had agreed to buy the barges back later, thereby making its accounting as a gain from its sale to Merrill-Lynch wrong. Weissmann alleged that since Jim Brown was one of four Merrill-Lynch executives, he was a culpable party.
Much of the case hinged on a phone call where the deal was discussed — a phone call that Jim Brown wasn’t actually on. Weissmann met with Brown voluntarily to hear his opinion of the telephone call, and despite hearing the exculpatory explanation, Weissmann nevertheless had Brown indicted for perjury and obstruction of justice. Weissmann later produced an email that mentioned the phone call, written by Brown in a different context and a year after the phone call in question, then urged the judge to prevent any evidence that would explain the email’s actual meaning.
Based upon the above facts, there is no way anyone could think Jim Brown could be accused of a crime. So, in order to win that case, Weissmann (1) concocted evidence; (2) terrorized anyone that would come forth to support Jim Brown’s position; and (3) threatened prosecuting individuals who would testify for Jim Brown. More outrageously, Weissmann also hid Brady material (evidence known by Weissmann that would be important to the defense and which by law Weissmann was required to turn over); he then repeatedly lied to the court about having such material. In a truly incredible incident, a document was discovered in which Weissmann highlighted in yellow magic marker evidence that would have gone a long way to proving Jim Brown’s innocence — at the same time he was telling the court that he had no such evidence!
The atrocities don’t end there. In another example, Katherine Zrike, a key individual in the Brown transaction, virtually exonerated Brown in her testimony under oath to the Grand Jury. Weissmann hid this information from the defense (a clear Brady violation) and subsequently lied to the Court about having relevant information. Jim Brown was ultimately found guilty of fraud, conspiracy, perjury, and obstruction and sent to prison. The fraud and conspiracy charges were later overturned.
On October 26, 2011, six years after the Arthur Andersen case was decided and less than two years after the Jim Brown debacle concluded, Robert Mueller announced the appointment of Andrew Weissmann as FBI General Counsel and Deputy Director under Mueller’s watch. What’s more, in 2015, the same Weissmann moved to the criminal fraud section at Department of Justice. And now, Weissmann is a part of Mueller’s special counsel team investigating allegations of collusion between Trump’s campaign and Russia. This truly is the story of the fox -with blood on his lips – guarding the henhouse!
The current Trump-Russia investigation requires evenhanded, impartiality, and integrity. It’s as important as any special counsel in history. That fact that Mueller would even consider someone with such a heinous, tainted history as Andrew Weissmann to work on his team shows incredibly poor judgment. It is absolutely imperative that Robert Mueller resign now.
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Over the past 15 years, France’s tax on the wealthy has resulted in a capital flight of 35 billion euros ($41 billion). 10,000 wealthy have left the country over it, which currently applies to personal assets of more than 1.3 million euros. Noting the substantial loss, France will amend their budget so that the tax will be levied only on real estate, thereby exempting “other forms of wealth such as shareholdings in companies” in the coming year.
I wrote about this phenomenon as it was happening in 2014. It bears repeating once again: high taxes drive away citizens who wish not to hand over to the government the money they have saved and earned — just to see it misspent and frittered away.
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Forbes has published a continuation of John Mauldin’s essay from September 16. He reiterates that “the coming pension and unfunded government liabilities storm is so big that many of us simply can’t get out of the way, at least not without great difficulty. This holds true not just for the U.S. but for almost all of the developed world.” Read his essay below:
Getting back to the topic, we’re all trapped on small, vulnerable islands. Multiple storms are coming, and evacuation is not an option. All we can do is prepare and then ride them out.
And we all have some very important choices to make.
It Will Be Every Man for Himself
Although I’m known far and wide as “the Muddle Through Guy,” the state and local pension crisis is one that we can’t just muddle through. It’s a solid wall that we’re going to run smack into.
Police officers, firefighters, teachers and other public workers who expect to receive the promised retirement benefits will be bitterly turned down. And the taxpayers will complain vigorously if their taxes are raised beyond all reason.
Pleasing both those groups is not going to be possible in this universe.
So what will happen?
It’s impossible to say, just as we don’t know in advance where a hurricane will make landfall: We just know enough to say the storm will be bad for whoever is caught in its path. But here’s the twist: This financial storm won’t just strike those who live on the economic margins; all of us supposedly well-protected “inland” folk are vulnerable, too.
The damage won’t be random, but neither will it be orderly or logical or just. It will be a mess.
Some who made terrible decisions will come out fine. Others who did everything right will sustain severe hits. The people we ought to blame will be long out of office. Lacking scapegoats, people will invent some.
Worse, it will be a local mess.
Imagine local elections that pit police officers and teachers against once-wealthy homeowners whose property values are plummeting. All will want maximum protection for themselves, at minimum risk and cost.
They can’t all win. Compromises will be the only solution—but reaching those unhappy compromises will be unbelievably ugly. In the next few paragraphs I will illustrate the enormity of the situation with a few more details, some of which were supplied this week by readers.
The Problem Is Reaching a Critical Point
Let’s look at a few more hard facts. Pension costs already consume more than 15% of some big-city budgets, and they will be a much larger percentage in the future. That liability crowds out development and infrastructure improvement, not to mention basic services. It forces city leaders to raise taxes and impose “fees.” Let me quote from the always informative 13d letter (their emphasis):
Consider the City of Los Angeles, which Paul Hatfield, writing for City Watch L.A., recently characterized as being in a state of “virtual bankruptcy.” After a period of stability going back to 2010, violent crime grew 38% over the two-year period ending in December 2016. Citywide robberies have increased 14% since 2015. One possible reason for this uptick: the city’s population has grown while its police department has shrunk. As Hatfield explains:
The LAPD ranks have fallen below the 10,000 achieved in 2013. But the city requires a force of 12,500 to perform effectively… A key factor which limits how much can be budgeted for police services is the city’s share of pensions costs. They consume 20% of the general fund budget, up from 5% in 2002… It is difficult to increase the level of service while lugging that much baggage.
What about subway service in New York City? The system is fraying under record ridership, and trains are breaking down more frequently. There are now more than 70,000 delays every month, up from about 28,000 per month five years ago. The city’s soaring pension costs are a big factor here as well. According to a Manhattan Institute report by E.J. McMahon and Josh McGee issued in July, the city is spending over 11% of its budget on pensions. This means that since 2014, New York City has spent more on pensions that it has building and repairing schools, parks, bridges and subways, combined.
There are many large, older cities where there are more police and teachers on the pension payroll than are now working for the city. That problem is compounding, as those workers will live longer, and the pensioners typically have inflation and other escalation clauses to keep their benefits going up.
Further, most cities do not account for increases in healthcare costs (unfunded liabilities) that they will face in addition to the pensions. Candidly, this is just another “a trillion here, a trillion there” problem. Except for the fact that the trillion dollars must be dug out of state and local budgets that total only $2.5 trillion in aggregate.
Now, add in the near certainty of a recession within the next five years (and I really think sooner) and the ongoing gridlock in national politics, plus the assorted other challenges and crises we face. I won’t run down the full list—you know it well.
I just have to wonder, what are we going to do?
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While reading the New York Times’ assessment of the upcoming tax cut bill, a sentence popped out at me: “Wary of any tax legislation that benefits the rich, Democrats have taken a firm stance against Republican policies that would add to the deficit and said they will not support a bill that does not pay for itself.” (“Senate Republicans Embrace Plan For $1.5 Trillion Tax Cut,” NYT: Sept 19, 2017).
This is laughable! Did the Democrats take a “firm stance” at any time during the Obama Administration against policies that added to the deficit? Of course not.
Indeed, most of the article was an attempt to paint the Republicans as hypocrites for trying to pass a tax cut plan that may or may not add to the federal debt after 10 years — while staying utterly silent about the fact that federal debt doubled during the Obama Administration, and each fiscal year ended in a deficit! The sudden interest in some sort of fiscal responsibility from the Democrats rings hollow.
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John Maudlin writes a compelling piece this week on what he coins “the bubble in government promises.” He claims it “is arguably the biggest bubble in human history. Elected officials at all levels have promised workers they will receive pension benefits without taking the hard steps necessary to deliver on those promises. This situation will end badly and hurt many people. Unfortunately, massive snafus like this rarely hurt the politicians who made those overly optimistic promises, often years ago.”
This is a theme I have been focusing on for years. His essay below is a must-read in its entirety:
This time is different are the four most dangerous words any economist or money manager can utter. We learn new things and invent new technologies. Players come and go. But in the big picture, this time is usually not fundamentally different, because fallible humans are still in charge. (Ken Rogoff and Carmen Reinhart wrote an important book called This Time Is Different on the 260-odd times that governments have defaulted on their debts; and on each occasion, up until the moment of collapse, investors kept telling themselves “This time is different.” It never was.)
Nevertheless, I uttered those four words in last week’s letter. I stand by them, too. In the next 20 years, we’re going to see changes that humanity has never seen before, and in some cases never even imagined, and we’re going to have to change. I truly believe this. We have unleashed economic and technological forces we can observe but not entirely control.
I will defend this bold claim at greater length in my forthcoming book, The Age of Transformation.
Today we will zero in on one of those forces, which last week I called “the bubble in government promises,” which I think is arguably the biggest bubble in human history. Elected officials at all levels have promised workers they will receive pension benefits without taking the hard steps necessary to deliver on those promises. This situation will end badly and hurt many people. Unfortunately, massive snafus like this rarely hurt the politicians who made those overly optimistic promises, often years ago.
Earlier this year I called the pension mess “The Crisis We Can’t Muddle Through.” Reflecting since then, I think I was too optimistic. Simply waiting for the floodwaters to drop down to muddle-through depth won’t be enough. We face an entire new ocean, deeper and wider than we can ever cross unaided.
Storms from Nowhere?
This year marks the first time on record that two Category 4 hurricanes have struck the US mainland in the same year. Worse, Harvey and Irma landed directly on some of our most valuable and vulnerable coastal areas. So now, in addition to all the problems that existed a month ago, the US economy has to absorb cleanup and rebuilding costs for large parts of Texas and Florida, as well as our Puerto Rico and US Virgin Islands territories.
Now then, people who live in coastal areas know full well that hurricanes happen – they know the risk, just not which hurricane season might launch a devastating storm in their direction. In a note to me about Harvey, fellow Rice University graduate Gary Haubold (1980) noted just how flawed the city’s assumptions actually were regarding what constitutes adequate preparedness. He cited this excerpt from a recent Los Angeles Times article:
The storm was unprecedented, but the city has been deceiving itself for decades about its vulnerability to flooding, said Robert Bea, a member of the National Academy of Engineering and UC Berkeley emeritus civil engineering professor who has studied hurricane risks along the Gulf Coast.
The city’s flood system is supposed to protect the public from a 100-year storm, but Bea calls that “a 100-year lie” because it is based on a rainfall total of 13 inches in 24 hours.
“That has happened more than eight times in the last 27 years,” Bea said. “It is wrong on two counts. It isn’t accurate about the past risk and it doesn’t reflect what will happen in the next 100 years.”
Anybody who lives in Houston can tell you that 13 inches in 24 hours is not all that unusual. But how do Robert Bea’s points apply to today’s topic, public pensions? Both pension plan shortfalls and hurricanes are known risks for which state and local governments must prepare. And in both instances, too much optimism and too little preparation ultimately have devastating results.
Admittedly, public pension liabilities don’t come out of nowhere the way hurricanes seem to – we know exactly where they will strike. In many cases, we know approximately when they’ll strike, too. Yet we still let our elected officials make impossible-to-fulfill promises on our behalf. The rest of us are not so different from those who built beach homes and didn’t buy hurricane or storm surge insurance. We just face a different kind of storm.
Worse, we let our government officials use predictions about future returns that are every bit as unrealistic as calling a 13-inch rain in Houston a 100-year event. And while some of us have called pension officials out, they just keep telling lies – and probably will until we reach the breaking point.
Puerto Rico is a good example. The Commonwealth was already in deep debt before Irma blew in – $123 billion worth of it. There’s simply no way the island can repay such a massive debt. Creditors can fight in the courts, but in the end you can’t squeeze money out of plantains or pineapples. Not enough money, anyway. Now add Irma damages, and the creditors have even less hope of recovering their principal, let alone interest.
Puerto Rico is presently in a new form of bankruptcy that Congress authorized last year. Court proceedings will probably drag on for years, but the final outcome isn’t in doubt. Creditors will get some scraps – at best perhaps $0.30 on the dollar, my sources say – and then move on. We’re going to find out how strong those credit insurance guarantees really are.
“That’s just Puerto Rico,” you may say if you’re a US citizen in one of the 50 states. Be very careful. Your state is probably not so much better off. In 10 years, your state may well be in the same place where Puerto Rico is now. I’d say the odds are better than even.
Are your elected leaders doing anything about this huge issue, or even talking about it? Probably not.
