Posted by Thomas G Kinsella, ATP

Understanding AMT Taxes

Understanding AMT Taxes

In 1969, it came to the federal government's attention and the public that there were 155 taxpayers with an income of $ 200,000, or an annual income of over $ 1.3 million in today's dollars rate, who did not pay federal income tax.

Although their $0 tax liability was legal under the current tax code (they were appropriately using the income deductions and tax incentives allowed by the federal government), the government was embarrassed and moved quickly to legislate on a solution. From this, the Alternative Minimum Tax or AMT came to life, with the aim of making the tax system fairer.


What to Know about AMT 

The alternative minimum tax (AMT) is a mandatory alternative to standard income tax. It is triggered when taxpayers earn more than the exemption and use many common itemized deductions. It is estimated that 60% of taxpayers earn between $200,000 and $500,000.

In 2017, the Tax Cuts and Jobs Act maintained the AMT but increased exemption and elimination levels for fiscal years 2018 to 2025. It includes an automatic adjustment to the cost of living. (Congress eliminated AMT for businesses.)

AMT taxpayers practically calculate their income tax twice, according to normal tax rules and according to more stringent AMT rules, and then pay the higher amount.

AMT works in parallel with the standard tax system but has a different tax rate structure and eliminates some common tax incentives. Here is a summary of how the AMT calculation works:

  • Calculate your taxable income, but with fewer tax exclusions and deductions, as determined by the AMT rules - IRS Form 6251 specifies the tax exemptions assigned in the AMT calculations.

  • Once you have this AMT version of your taxable income, deduct the AMT exemption amount.

  • Multiply what is left by the appropriate AMT tax rates. There are two types: 26% and 28%. The commission you pay depends on the amount of your AMT taxable income.

  • Decrease the foreign AMT tax credit if you qualify. What remains is income tax per AMT rules.

  • If the AMT income tax is higher than the basic income tax at normal rates, you pay the higher amount.

If you are not liable for the AMT this year but have paid the AMT in previous years, you may be entitled to your normal minimum tax credit this year. If you are eligible, you must complete and attach Form 8801, Credit for Prior Year Minimum Tax Credit - Individuals, Property, and Trusts, to claim the credit.


More on the details

The law sets the AMT exemption amounts and AMT tax rates. Taxpayers can use the special capital gains rates to affect the ordinary tax if they are lower than the applicable AMT tax rates. Additionally, some tax credits that reduce ordinary tax liability do not reduce AMT's tax liability.

Among the tax cuts you lose with the AMT include state and local tax deductions, such as property taxes and various business items. Investors may also face AMT - long-term capital gains, and some dividends may increase their income beyond the limit.

However, taxpayers are not helpless. You can avoid AMT by reducing adjusted gross income - maximizing your contributions to a 401(k) savings account, IRA, or health care account. Plus, manage long-term capital gains.


How do you know if you have to pay for AMT?

Unfortunately, there is no easy way to know if you will be liable for the AMT. Each person's tax situation is different and what is included in the calculations is exclusively personal. To complicate matters, there is no specific income limit for the AMT to kick in.

A good place to start is to check out the IRS website or talk to a tax expert. You can also check whether or not you are AMT subject by using tax planning software to make projections and monitor your tax obligations. Or you can hire a professional to make the projections for you.

Another way to estimate if you are about to be affected by AMT is to calculate last year's taxes using Form 6251 and see where your income will decrease from that year.


Conclusion

As a taxpayer, you need to determine if you owe additional taxes under the alternative minimum tax system by completing IRS Form 6251. Suppose the tax calculated on Form 6251 is greater than that calculated on your regular tax return. In that case, you have to pay the difference as AMT in addition to your regularly calculated income tax.

The IRS collects interest on unpaid taxes and assesses penalties.


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Thomas G Kinsella, ATP
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