The oppressive nature of the AMT

Here is a short lesson in average and marginal rates on income taxes and why they matter.   An average rate on income taxes relates the amount of taxes you pay compared to your income.   If I make $50,000 and pay $12,500 in taxes my average rate is 25%.    The marginal rate is the rate applied to additional income.  In a progressive system the tax rates increase as your income increases.   For example the 2013 tax rate tables for a person who is married an filing jointly look like this -

• 10% on taxable income from $0 to $17,850, plus
• 15% on taxable income over $17,850 to $72,500, plus
• 25% on taxable income over $72,500 to $146,400, plus
• 28% on taxable income over $146,400 to $223,050, plus
• 33% on taxable income over $223,050 to $398,350, plus
• 35% on taxable income over $398,350 to $450,000, plus
• 39.6% on taxable income over $450,000.

As our income increases I pay at a higher rate.  Most people only think of the average rate they pay but marginal rates have a much greater effect on incentives to work.   If marginal rates are too high people will substitute non-income activities for income - they will take more vacations or (if they are dishonest) take some of their income under the table.   I am a conscientious taxpayer - I do not do all the tax games that some people do.  Indeed last year my average rate was 25% which was about 7% higher than the average rate paid by the President, who made considerably more than I did.

I came home yesterday to get a communication from the IRS which suggested that I had underpaid my 2011 taxes.   I went back to my files to figure out whether their assessment was correct and found that for some reason that I had failed to include one 1099 from an investment firm where I have multiple accounts.   The missing data showed I had about $4000 in additional income.   The incremental increase in taxes for that amount of income amounted to a marginal rate of 33%.

But then there is the kicker of the AMT (Alternative Minimum Tax) which is that bizarre remnant of tax policy which was put there to punish miscreants who (some people think) don't pay enough tax - or at least that was the theory.  The provision requires you to take all your income/deductions and figure your tax and then if you meet certain conditions an additional rate is assessed that rate is paid in addition to the tax you owe from the regular code.  The AMT complicates the code and at the same time is quite arbitrary.   The AMT assessment added another $2300 or a marginal rate of 58% (far higher than any of the posted rates) - the combination of the regular and AMT additions for this increase in my income amounted to an 88% marginal rate.   By any standard that sounds a wee bit excessive.