Advisers oppose Rangel tax proposal

An overwhelming majority of people polled by InvestmentNews oppose the legislation to repeal the alternative minimum tax which was introduced Oct. 25 by the chairman of the House Ways and Means Committee, Rep. Charles B. Rangel, D-N.Y.

Based on 268 poll responses received through the end of October, 81% agreed with the characterization that his tax overhaul bill was the “mother of all tax hikes.”

Just 19% would describe the bill as the “mother of all tax reforms,” though some of those polled thought that the proposal, which would add a surtax of at least 4% on joint taxpayers earning $200,000 or more a year, was a step in the right direction.

Some financial advisers were critical on several fronts.

“It’s definitely going down the wrong path,” said Matthew Murphy, president of Murphy Capital Advisors LLC of Buckeye, Ariz.

“The AMT was a mistake. There should be no replacement of the AMT tax revenue,” Mr. Murphy said.

“It’s irresponsible of [Congress] to say they should replace that,” he said.

“They shouldn’t have that money to begin with. It should be in the American pocket.”

Under Mr. Rangel’s plan, which is likely to be a starting point in the presidential campaign debate over taxes, the estimated $800 billion cost of repealing the AMT over the next 10 years would be borne by the highest-earning 10% of taxpayers. That top 10th starts at $200,000 of income annually for married couples.

The proposed 4% surtax would start at that income level for couples, rising to 4.6% for couples earning more than $500,000 a year. The surtax would raise an estimated $832 billion over the next 10 years.

Another $29 billion would be raised by limiting itemized deductions and personal exemptions to the limits that existed before enactment of the Economic Growth and Tax Relief Reconciliation Act of 2001 for taxpayers with adjusted gross income above $500,000 for joint returns.

Mr. Rangel also proposed extending for another year a $51 billion “patch” that would prevent the AMT from hitting an estimated 23 million middle-income taxpayers in 2007.

The fact that the proposed surtaxes would be applied to adjusted gross income rather than taxable income is one of the biggest flaws of the Rangel plan, according to Gerald Weiss, principal of Weiss Financial Planning in Dublin, Calif.

“Normally, the tax rate is applied to taxable income,” he said. “If you’re going to do something like this, it would be better to just raise the marginal tax rates. When you use AGI, you can get a lot of unintended consequences.”

Mr. Weiss conducted a quick survey of his tax clients, and he said the first client with income above

the $200,000 level “happened to be someone with large charitable donations” that could not be deducted under the proposal.

Another client who has three children and whose wife received stock options as a result of a company buyout would be subject to the 4% surtax as well, Mr. Weiss found. “By no means would I consider them rich,” he said.

“For two professionals in California, it’s pretty easy to get to $200,000″ in income,” Mr. Weiss said. “It’s an expensive place to live.”

He noted that high-income San Diego-area residents who lost homes in the recent wildfires there might not be eligible to take casualty losses under the proposal, be-cause using adjusted gross income prevents taxpayers from taking many such deductions.

“If they really want AMT reform, they need to go to a real overhaul that goes beyond the income tax system,” Mr. Weiss said.

That sort of reaction from many advisers “ignores that this bill would provide overwhelming tax relief to more than 91 million families,” said Matthew Beck, spokesman for the Democratic membership of the House Ways and Means Committee.

Under Mr. Rangel’s proposal, that many families would receive substantial tax relief, Mr. Beck said, while some 1.7 million taxpayers would see an increase in their tax liability. The tax relief would extend to small-business owners, Mr. Beck added.

Criticism “also ignores a significant reduction in the corporate-tax rate,” which has been advocated by Treasury Secretary Henry Paulson, Mr. Beck said.

Corporate-tax rates would be lowered to 30.5%, from the current rate of 35%, but many companies would lose deductions they currently enjoy.

Republicans on the Ways and Means Committee dispute the analysis being touted by committee Democrats. “The analyses done thus far use the [Congressional Budget Office] baseline,” said Mike Steel, spokesman for the Republicans on the Ways and Means Committee.

That analysis assumes the expiration of tax cuts passed in 2001 and 2003, as well as some $1 trillion in additional revenue from the AMT, he said.

“That does not reflect the reality that taxpayers face,” Mr. Steel said.

“If I’m a taxpayer, and I pay more next year, that’s a hike. Compared to the current reality, which is what they’re actually paying, the Rangel bill is a $1.3 trillion tax increase,” he said.

Other financial industry officials think that increasing taxes could lead to an economic downturn. “We could be headed for a disaster from Rangel’s tax increases,” said David Lifson, president of the New York State Society of Certified Public Accountants in New York.

“Those increases could depress the economy,” he said. “While they are great in theory, if people aren’t making money, no matter what rate you charge them, tax revenues go down.”

The society’s proposal would “unclutter the tax bill,” Mr. Lifson said. “Instead of raising taxes on the rich, the proposal would more effectively collect taxes from people who don’t pay their fair share.”

The Financial Planning Association in Denver does not have a position on Mr. Rangel’s bill, said Dan Barry, director of government relations in its Washington office.

“We’re supportive of the AMT patch,” Mr. Barry said. “We support a permanent fix of the AMT, but we realize it requires some tough decisions.”

Still, some advisers think that Mr. Rangel is headed in the right direction. The proposal would result in “higher taxes for the highest income in order to pay for some necessary changes, including elimination of the AMT,” said Paul Baumbach, a managing partner of Mallard Advisors LLC in Newark, Del.

Mr. Mallard particularly likes a proposal in the Rangel bill that would tax managers of hedge funds and private-equity funds at ordinary income tax rates, rather than at the lower capital gains taxes they now generally pay on most of the fees they earn.

“These guys are bringing down billions,” Mr. Mallard said. “Everyone, except the tax code, views that as compensation. It’s a gaping loophole. [The proposal is] a great way to find the dollars necessary to get the other benefits that are built into this bill.”

Sara Hansard can be reached at [email protected].