Understanding the Alternative Minimum Tax

Many people are unfamiliar with the alternative minimum tax or don’t have a clear idea of how it works. Basically, though, it’s just an alternative to the standard income tax that some people have to pay. So, you may be wondering, who has to pay it?

Well, it applies to taxpayers who make more than the exemption amount ($109,400 for joint filers and $70,300 for individuals) and who use certain itemized deductions.  

As you can imagine, a great many people are affected by this tax, especially those in higher income brackets. In fact, about 60% of people making from $200,000 to $500,000 will have to pay it.

Fewer Deductions

Unfortunately, some deductions don’t apply to the alternative minimum tax. These include the standard deduction, as well as personal exemptions and certain common itemized deductions.

Itemized deductions not included are state income taxes, local income taxes, employee business expenses, foreign tax credits, real estate taxes, property taxes, interest on home equity  mortgages except in the case of home improvements, and medical expenses unless they exceed 7.5% of your adjusted gross income.

A UniqueTax Rate

The alternative minimum tax rate is either 26% or 28%. The lower amount is for people who make below the AMT threshold, while the higher amount is for people who make more than the threshold amount.

As of 2019, the threshold for AMT taxable income is $194,800 for single people or married couples filing jointly and $95,750 for married couples filing separately.

Feeling Confused?

Feeling confused about the alternative minimum tax and whether or not it applies to you? Don’t worry. You’re not alone. Many people find the AMT a bit puzzling.

If you think you may have to pay it or have questions about if and how it will affect you, don’t stress. Just contact a tax professional to get you all sorted out and to help ensure you file your taxes correctly, AMT or not!

About the Alternative Minimum Tax

The alternative minimum tax was originally enacted to ensure that high-income taxpayers pay at least a minimum amount of tax if they benefit from certain deductions and other tax preference items.

The AMT tax computation is a parallel system to the regular tax system with its own definitions of income and expenses, rules for income recognition and timing, and exemptions and tax rates. Although every taxpayer is subject to AMT rules, the additional tax is paid only if the tax computation under AMT rules is higher than the tax computed under regular rules.

Even though the AMT was originally targeted toward high-income taxpayers, factors, including inflation and treatment of certain tax credits, can sometimes push lower-income taxpayers into an AMT situation.

How AMT Works

Certain items called “adjustments and preferences” are added to federal gross income. Personal exemptions that reduce taxable income for regular tax purposes are not allowed for AMT purposes and are added back to taxable income. A separate AMT exemption amount is allowed, depending on the taxpayer’s filing status. After the AMT adjustments and preferences are added to income, and the AMT exemption amount is subtracted, an AMT tax rate of 26% to 28% is applied. If the resulting tax is greater than regular tax, the difference is added to regular tax on line 45, Form 1040.

Example #1: When computed under regular rules, John’s income tax is $4,700. When computed under AMT rules, the tax amount is $3,900. Since his tax computed under AMT rules is less than his tax computed under regular rules, John will not pay any additional amount for AMT.

Example #2: Assume the same facts as Example #1, except when computed under AMT rules, John’s tax amount is $5,100. Since his tax computed under AMT rules is higher than his tax computed under regular rules, John must pay the difference in additional tax. John must report additional AMT tax on line 45, Form 1040, in the amount of $400.

AMT Triggers

Items that commonly trigger AMT include high deductions for state income tax, dependent exemptions, exercise of incentive stock options, and large miscellaneous itemized deductions reported on Schedule A, Form 1040. Other AMT adjustments and preferences include:

•    Medical and dental expenses. A portion of these deductions may need to be added back for AMT purposes.

•    Taxes from Schedule A, Form 1040.

•    Certain mortgage interest deductions.

•    Tax refunds reported on Form 1040.

•    Certain investment interest expense.

•    Certain depletion expense.

•    Net operating losses.

•    Interest from specified private activity bonds.

•    A portion of gain from section 1202 small business stock.

•    Certain gains from dispositions of property.

•    Certain depreciation adjustments.

•    AMT loss limitations.

•    Certain circulation costs.

•    Long-term contracts.

•    Certain mining costs. 

•    Certain research and experimental costs.

•    Pre-1987 installment sale income.

•    Intangible drilling cost preferences.

AMT “Patch”

Because the original AMT law did not include a provision to index the exemption amount for inflation, over the years, a growing number of middle-income taxpayers have become subject to AMT. Historically, Congress limited the impact of the AMT by passing temporary legislation, often referred to as “patches,” to provide relief for millions of middle-income taxpayers who might otherwise be affected by AMT. Congress has patched the AMT every year for the past several years.

The “fiscal cliff” tax law that was passed on January 2, 2013, included a provision making the AMT patch permanent. Exemption amounts were retroactively increased for 2012 and will be indexed for inflation in future years. Under the new legislation, personal credits will also be allowed against the AMT on a permanent basis.

Related articles

• Alternative Minimum Tax: Common Questions (turbotax.intuit.com)

Will the Alternative Minimum Tax Affect You?

Some people are really good at dodging high taxes. These people, who often earn higher than average salaries, can sometimes get away with paying next to nothing in taxes due to smart deductions made by their accountants. In order to prevent wealthy earners from not paying any taxes, the alternative minimum tax was created. Individuals who fall within certain income brackets and who meet other qualifications must pay the alternative minimum tax under certain circumstances.

In recent years, however, more and more moderate earners, not just high earners, have been forced to pay the Alternative Minimum Tax due to the fact that the tax and its qualifications were not adjusted to reflect inflation. All of that changed last year, however, due to recent “patch” that stops middle earners form having to pay the tax.

You can find out if, based on your income, you are required to pay the alternative minimum tax this year. The best way to do so is to contact qualified accountants in Naperville, such as those at Susan S. Lewis, Ltd.

Related articles

• Tax Tip: Avoiding the Alternative Minimum Tax (abcnews.go.com)
• Alternative Minimum Tax (violetaamercado.com)
• America Avoids the Fiscal Cliff: This Could be Money in YOUR Pocket! (turbotax.intuit.com)