In the mid-1960s, news reports that 155 wealthy Americans paid NO federal income tax resulted in a ground swell of anger that led to an eventual solution designed to assure the rich no longer alluded taxes. These high-income individuals avoided taxes through the use of deductions and tax shelters.
The Alternative Minimum Tax or AMT, as it is better known by many, was enacted into law in 1969. It began as a way to ensure that every income earner – even the rich and sophisticated who know how to use the tax laws to their advantage – pays a share of tax. It has become in this decade, a tax on the middle class. Since the law was not indexed to inflation, the AMT has trapped a growing number of middle-class taxpayers in recent years.
Initially, about 200 taxpayers were impacted by the AMT legislation. In recent years, the numbers of taxpayers facing the possibility of AMT is staggering: 1 million in 1999, 1.3 million in 2000, and roughly 4 million in 2009. It is estimated that by 2010, some 27 million taxpayers will face taxation from AMT, unless Congress continues to act, so far by passing a band aid AMT patch.
There are several 'think-tank' groups that have possible proposals regarding AMT. Some of these include: repealing AMT, replacing it with an add-on tax of 4% for higher income levels, and indexing the AMT retroactive to 2007 legislation which would greatly reduce the number of taxpayers that have to cope with the forms.
Calculating AMT is a mind-numbing challenge, and in most cases, requires at least a computer program to determine if you owe AMT. Here is a way to figure your AMT tax liability.
First, calculate your regular income tax, and then add AMT preferences, such as personal exemptions, itemized deductions, accelerated depreciation and others. With these items included, the AMT is calculated. If your regular income tax is more than this amount, you owe no AMT. But if the amount calculated for AMT is higher than your regular income tax, you pay AMT calculated at 26% to 28%, depending on your income.
The AMT rules are complex and independent of regular income tax rules and provisions. The calculation of AMT takes a detailed analysis of your exact events to determine your AMT situation. This means that your tax professional might tell you that you do not owe income tax but he must spend time checking your exact circumstances to determine if you owe AMT.
Taxpayers who have incomes as low as $70,950 with two or more children may face the probability of AMT. According to Urban-Brookings Tax Policy Center , "More than two-thirds of married taxpayers with two or more children will face AMT in 2010." Taxpayers with higher incomes and additional AMT preference items will be facing the likelihood of AMT taxation at even greater frequency.
The key areas that cause AMT are exemptions, state and local taxes, interest on mortgages (where the borrowing was not used to buy, build, or improve your primary residence), medical expenses, long-term capital gains, tax-exempt interest and tax shelters. Other items that can trigger AMT include items that pass through to your individual tax return from your business or investments on K-1s from S-Corporations, partnerships or LLCs.
Applying AMT can be complex and seemingly unfair. For example, if you bought a hybrid vehicle to support the environment, but you also anticipated receiving the tax credit touted in the media and at the car dealership, you may be in for a surprise. Within the complex tax law, you find that the hybrid credit is limited to the amount by which your regular tax liability (minus certain credits) exceeds your AMT. In one situation, the hybrid credit came to only $1 because it triggered AMT. Again, what appears to be a tax break comes way short of what was promised.
If you are facing AMT, you need to meet with your tax professional to design a strategy. The complexity of what will trigger AMT is as complex as your personal and business matters. This is an area where you need specific advice for your situation.
The good news is the amount of money you pay in AMT is held as a credit. In future years when your regular income tax is reduced, due to timing differences that triggered AMT, this credit will actually help offset some of your regular income taxes. You can only use this AMT credit in a year when you owe no AMT.
If you have paid AMT in the past, it is crucial you meet with your tax advisor. Most likely, you can design or create the right business and personal financial opportunity to free up this credit, saving you taxes already paid to the government.
If you face AMT, you should investigate how to avoid AMT in the future. In true accounting parlance, the simple answer is to have fewer AMT preference items. The single largest preference tends to be state income taxes and the timing of when these are paid.
Tax planning for most successful taxpayers is not something that can be done over the phone where your tax professional is comparing last year's set of events to this year's guesses. If you have successfully avoided the financial impact of AMT, you are lucky.
Keep being lucky, or invest a few moments with your tax professional to make sure your luck doesn't run out.
