The tax code’s crazy complexity, Part 2

January 25, 2013

Well, it turns out that I knew even less about federal income taxes than I thought I did. In my recent column lamenting the extra complexity added to the tax code by the “fiscal cliff” avoidance legislation and the fact that even a numbers nut like me needs expert help to figure out his tax rate, I wrote that the legislation raised taxes on single people with at least $400,000 of adjusted gross income, and couples with at least $450,000.

As some of my e-mail correspondents pointed out gleefully, I got it wrong — it was $400,000 and $450,000 of taxable income, not adjusted gross income. “That was a clever touch to demonstrate the point of your article — namely, you really don’t know much about the tax code,” Curt St. John, a certified public accountant from Alexandria, wrote playfully. At least, I think he was being playful.

I apologize for the mistake, which is totally my own fault. But that I got this wrong shows how crazy and complex the whole tax situation is. I now see that things are even worse than I had thought, and I already thought they were pretty bad.

Here’s what happened. When President Obama talks about “the rich” who supposedly aren’t paying their fair share of taxes, his definition of “rich” is people with adjusted gross incomes — not taxable incomes — of $200,000 and up for single taxpayers, and $250,000 for married taxpayers. That’s why I wrote, without thinking, that the legislation dealt with adjusted gross income. My bad.

There is a large difference between adjusted gross income and taxable income. Taxable income consists of adjusted gross income less personal exemptions less deductions. This means that far fewer people are affected by the cliff-avoiding hike than if adjusted gross income had been the metric.

Just to make sure that I wasn’t making yet another mistake — I don’t want to have to correct my correction — I e-mailed Roberton Williams, the Tax Policy Center’s Sol Price fellow, to make sure that, this time, I got my numbers and definitions right.

The answer I got from Bob is what prompted me to write another column rather than just a short correction.

“Two issues have confused people about this one,” he wrote me. The first, he said, is that the other tax increases on high-income people (the Obamacare taxes and the phaseouts of personal exemptions and itemized deductions) affected taxpayers based on their adjusted gross income, not on their taxable income.

The second source of confusion, he said, was that Obama’s proposals to raise taxes only on single people with adjusted gross income above $200,000 and married couples above $250,000 “made it difficult for him to propose tax brackets.” That’s because filers with the same adjusted gross income can have widely differing exemptions and deductions, resulting in widely differing taxable incomes.

As long as he was in the neighborhood, Williams pointed out an anomaly that I’d like to pass along. Because of the way these various pieces of legislation intersect, there is now a bizarrely narrow 35 percent federal bracket for single filers: $398,350 to $400,000 of taxable income. By contrast, the 33 percent bracket is wide: from $183,250 to $398, 350. (See all the new brackets at taxpolicycenter.org/
taxtopics/2013-Tax-Parameters.cfm
.)

This ridiculous situation is a perfect example of our absurd income tax system. I don’t mind paying the level of taxes that I pay. My wife and I have a household income above Obama’s $250,000 adjusted gross “rich” level, but significantly below the $450,000 taxable income level at which our stated marginal rate would rise. We’ve done very well, and I’m grateful for the chances this country has afforded us and our children.

But as I wrote in my previous column, my tax situation is so complex that I had to ask my accountant to figure out my marginal tax bracket — the tax I pay on each extra dollar of income.

Rather than being in the 33 percent bracket, which is where our taxable income would put us, or the 28 percent bracket because we’re subject to the 28 percent alternative minimum tax, my wife and I have a 35 percent marginal rate because we’re in the AMT’s phaseout bracket. Our rate on qualified dividends and long-term capital gains isn’t the stated 20 percent maximum (plus 3.8 percent for Obamacare) that billionaires pay, but is actually 27 percent (plus Obamacare).

Oh, well. So much for the way our alleged leaders resolved the fiscal cliff tax situation. I can’t wait to see what atrocities await in the debt ceiling spectacle, now playing at a theater near all of us.

Allan Sloan is Fortune magazine’s senior editor at large.

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