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What is the alternative minimum tax (AMT)?The Alternative Minimum Tax (AMT) is a lesson in why you don't depend on the bureaucracy of big government to solve your problems. Back in the 1960s, there was an uproar when it was discovered that some high income individuals were not paying any federal income tax. How did they achieve this wonderful status? By taking advantage of various deductions allowed by the overly complex IRS tax code - nothing illegal, although perhaps trying to manipulate and take advantage of the rules. And how many people fell into this category? Not many, we're talking dozens or hundreds, not millions. So in their grand wisdom, the Alternative Minimum Tax was invented and became part of the federal tax system in 1969-70. Now it functions as a second tax system, forcing 10s of millions of people to calculate two tax returns and then pay the MAXIMUM or GREATER tax - not the minimum, so the name itself is misleading -- pretty high price to pay to get those 50 rich folks to pay their share of taxes, huh?
How to calculate whether you owe AMTHow is the AMT calculated? What can trigger the Alternative Minimum Tax? The Alternative Minimum Tax basically works as a flat tax, taking a good chunk of your income (26%-28%) with almost no deductions or loopholes. Think it is fair to deduct your state income tax or mortgage interest? Sorry, not under the AMT. What kind of things trigger the AMT? Your only deduction is the standard exemption allowed under the AMT rules - $58,000 for married people filing a joint return, $40,250 for single and head of household, and $29K for marrieds filing separate returns. If you are a taxpayer with incentive based stock option long term capital gains, accelerated depreciation, tax exempt income, tax credits, or lots of deductions (ranging from a lot of children to high state income taxes), the AMT may well apply to you. The problem is you don't really know for sure or how much until you calculate your entire tax return the old way, then calculate the entire thing again using the AMT rules and see which is higher. Leave it to the IRS to come up with a way for MORE PAPERWORK for everyone! One key problem with the ALternative Minimum Tax is that it is not indexed to inflation, so "high income levels" from the 70's -- like some fat cat making a whopping $150K (which is pretty standard for a lot of dual income families these days) -- really are not "rich" by today's standards. Congress occasionally ups the threshold and exemptions a bit, but not enough that millions (perhaps 10s of millions) of taxpayers will avoid being caught up in the AMT over the coming 5-10 years. Remember, this is all done to "catch" those terrible 100 people who weren't paying enough taxes 30 years ago.It is estimated that 15% of households with income between $75K-$100K was subject to the AMT in 2005. It seem unlikely that the AMT will get cancelled or wiped out since it is a huge money maker for the Treasury - imagine their joy at being able to tax everyone at 26% or 28% with no deductions!! Significant reform is needed to improve the indexing for inflation and raise the lowest threshold amount. How can you tell if you are subject to the Alternative Minimum Tax, and how much is the AMT? The IRS offers an AMT Assistant on their website -- to use it, you must first have your 1040 tax form completed, because you will fill in information from that form. Get help with the AMT here. You can also order any tax forms you might need from the IRS website. Avoiding the AMTMany people want to minimize their exposure to the Alternative Minimum Tax, but there really is not much you can do besides timing some end of the year state income tax payments to move it in or out of the current fiscal year, or try to control the timing of your stock options. You should talk to a financial or tax advisor if you have things like incentive stock options to minimize the impact of the AMT. Given the fixed, rigid rules under AMT and the lack of any deduction or exemptions other than the standard exemption, the calculation is pretty unavoidable. If you use tax software like TurboTax, it will calculate whether or not you owe AMT, how much AMT you owe, and print out all the necessary form for you. If you use a tax professional to prepare your return, they will also likely use tax software and handle the calculations automatically for you. The easiest way to avoid the AMT is to make less than $60K - with a married deduction of $58K, you end up with no taxable income under AMT. You will pay the 26% tax rate on all income up to $175K, and 28% on any income over this amount. That's why it is such a kicker for many families who are used to paying 15-20% under the old system, and suddenly find themselves socked at a 26% rate instead. For more information on how AMT works, check out Fairmark.com.
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