considers broad tax reform later in the year, its legislation may
include provisions to eliminate the individual and corporate
alternative minimum tax (AMT). That would be welcome
news for the more than 30 million taxpayers who are likely to face
the individual AMT by 2010.
Opponents of tax
reform will almost surely attack repeal of the corporate AMT as a
giveaway to big corporations, but repeal of the corporate AMT could
actually increase federal tax revenue. This is not "voodoo
economics," but simple addition: Between 1995 and 2002, corporate
AMT credits exceeded corporate AMT payments by nearly $4.3
How the AMT Works
In principle, the
corporate AMT works much like the individual AMT and is similarly
intended to ensure that profitable corporations pay at least some
federal income tax. The corporate AMT is calculated using a
different set of rules than the regular corporate income tax, and
it applies a 20 percent tax rate to an alternative definition of
taxable income. In general, the AMT applies an alternative tax rate
to a more broadly defined measure of income and a more narrowly
defined set of deductions.
The corporate AMT
sets a floor for corporate taxation. A firm pays the AMT only if
its regular income tax liability is less than its liability under
the AMT rules-known as the "tentative minimum tax." When this
"tentative" tax exceeds the firm's regular tax liability, the
company has to pay the difference. Formally, this
difference is the corporate AMT.
A firm's tax
generally cannot fall below the AMT floor. But because much of the
difference in tax liability under the two systems is caused by how
the systems deal with timing, firms are allowed to take an AMT
credit against their regular taxes in future years.
As an example of
these timing differences, under both sets of tax rules, firms are
allowed to fully depreciate the cost of their assets. Under the
AMT, however, they have to depreciate some of their assets more
The two systems'
treatments of net operating losses (NOL) also differ. Under the
regular tax rules, companies are allowed to use NOL from current
and previous years to reduce their taxable income to zero, provided
the losses are large enough. Under the AMT rules, firms can reduce
their "alternative minimum taxable income" (AMTI) with NOL, but NOL
cannot exceed 90 percent of the AMTI.
Firms that incur
AMT liability in a given year are allowed an AMT credit against
their regular income tax in future years. Without this credit,
companies would permanently lose their regular tax deductions even
when they no longer have to pay the AMT. In the aggregate, these
credits exceeded AMT payments by $4.3 billion between 1995 and
2002, the most recent year for which data are available. (See Table
The AMT Credit
How does the
credit work? Suppose ABC Corporation's AMT liability was $1 million
in 2004. If ABC owes $2 million in regular income taxes for 2005
and has no "tentative" minimum tax that year, it could reduce its
regular income tax by $1 million, the amount of AMT it paid in
The only catch is
that ABC cannot reduce its regular income tax below the AMT floor.
If, for example, ABC owes $2 million in regular income taxes for
2005 and has a "tentative" minimum tax of $1.5 million, it can use
only half of its AMT credit from 2004, or $500,000. It can then
apply the unused remainder of its 2004 AMT credit to regular taxes
in subsequent years.
The AMT credit
leads to the following quirk: Over any period of time, a company
that pays the AMT and claims all of its AMT credits will have paid
the same amount as if there had been no AMT. Thus, the AMT does not
raise corporate income taxes, but only accelerates them.
The AMT and Revenues
There is some
evidence that the corporate AMT has not led to higher tax revenues.
This question is difficult to research because firm-level corporate
tax return data are not publicly available. Nonetheless, the IRS
does publish some aggregate corporate income tax data, so a few
general comparisons can be made.
In 1981, six years
before the present-day corporate AMT went into effect, the
aggregate federal income tax rate for corporations (after credits)
amounted to 24.2 percent of taxable income. In 2002, this aggregate
rate was 25.58 percent. The average rate over this entire time
period was 26.13 percent, with a standard deviation of 1.45
percent. (See Table 2.)
In other words,
the average corporate tax rate has remained stable over the past 24
years. This should be no surprise: The AMT was not really designed
to raise tax revenue, only to accelerate it.
corporate AMT brings in little if any additional tax revenue, it
still places an enormous administrative burden on corporations.
Even ignoring these direct economic costs, it is likely that the
corporate AMT's enforcement costs exceed its added revenue.
Finding Common Ground
Those who define
fairness as making profitable companies pay more in taxes-their
"fair share"-should consider the corporate AMT a failure from the
start. These critics are sure to argue for reform of the corporate
AMT as an alternative to its elimination. But both sides of the
reform debate should be able to find common ground. The corporate
AMT and most tax reform proposals work by eliminating deductions
and credits and applying a single lower tax rate to income. The
major difference is that the corporate AMT accomplishes this by
penalizing companies that have high ratios of capital investment to
If those who favor
reform, rather than elimination, of the corporate AMT really
believe that firms avoid paying their fair share in income taxes by
taking advantage of a host of deductions and tax credits, they
should be willing to eliminate those deductions and credits from
the tax code. This would remove the major justification for the
AMT. Proponents of tax reform generally agree on this course as
well, as a means of simplification.
The corporate AMT
applies an alternative tax rate to a more broadly defined measure
of income and to a more narrowly defined set of deductions. The
problem is that the corporate AMT does this inefficiently, in terms
of compliance and enforcement costs, and in a way that penalizes
firms that have a high ratio of capital investment to profits. In
the end, the corporate AMT serves only to burden firms with
additional paperwork and accelerate their regular income tax
Many advocates of
tax reform want to broaden the tax base and lower tax rates, but
they want to do this efficiently, for all businesses. The corporate
AMT is the perfect target for tax reform because it is expensive
and inefficient and only adds to the complexity of the tax code. In
the context of broader tax reform, even those who believe that
corporations do not pay their fair share in taxes ought to be able
to support elimination of the corporate AMT.
Michel, Ph.D., is a Policy Analyst in the Center for Data Analysis
at The Heritage Foundation.