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What You Should Know About the Alternative Minimum Tax

by: Smith and Howard

October 20, 2016

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When it comes to paying taxes most people want to understand the basics: how much will they owe and when are taxes due. The Alternative Minimum Tax (AMT) —not so much.

Many people haven’t heard of the AMT, and those who have probably wish they hadn’t, but if you truly want to get your arms around tax issues that may affect you, you should read on. The information we’re sharing here can help you solve the byzantine conundrum that is AMT, and can help you plan for it as we approach 2017.

Let’s first review some AMT basics.

What is the AMT?

The AMT is a tax system that was enacted by Congress back in 1969 to keep a small percentage of very wealthy taxpayers from using tax loopholes to avoid paying any tax at all.

Congress devised a plan to calculate a person’s tax two different ways—once using the traditional tax system, and once with a special “alternative” system.

Consequently, a taxpayer will pay the higher of the two results. One tax system is complex enough. Not surprisingly, this double system is even more complex, confounds many taxpayers, and sometimes even experienced tax professionals.

Initially, the plan didn’t affect a large percentage of U.S. taxpayers, so there wasn’t much of a fuss at the outset. In 1970, about 19,000 taxpayers fell within the AMT’s higher income range. However, AMT amounts didn’t sufficiently keep up with inflation, so more and more Americans found themselves subject to the AMT and by 2012, the Tax Policy Center showed that over 4.2 million Americans would be subject to AMT.

I Don’t Consider Myself Very Wealthy, or Even Mildly Wealthy; Does the AMT Apply to Me? If So, What Can I Do About It?

Your total tax liability is expressed as regular tax plus AMT. There’s some math involved to determine whether or not you’re subject to AMT in the first place. First, you (and/or your accountant) essentially need to calculate tax twice – once with the regular system and once with the AMT system.

Generally speaking, the AMT won’t affect you if your income is less than the exemption. For 2015, the AMT exemption amounts for each tax filing status were:

  • Single and/or head of household: $53,600
  • Married filing jointly: $83,400
  • Married filing separately: $41,700

That’s It?

Actually, that’s part of the picture—there’s some math involved to determine whether or not you’re really subject to AMT. First, you (or your accountant) essentially need to calculate tax twice.

To understand what that means, I’ll reference the two taxing systems—the regular tax system and the alternative, or AMT, system. Putting pencil to paper, your regular tax is first calculated using the regular tax system:

  1. Under the AMT system, your AMT taxable income is computed by taking your adjusted gross income (AGI), as computed under the regular tax system, and adding back, or adjusting certain deductions that are not allowed for AMT purposes. This results in the alternative minimum taxable income (AMTI)
  2. Next, the AMT exemption is subtracted from your AMTI.
  3. That net amount is subsequently multiplied by an AMT rate. Generally speaking, AMT won’t affect you if your AMTI is less than the exemption mentioned above.
  4. Finally, the tentative minimum tax that results from this calculation is compared to the regular tax. If your regular tax is greater than the tentative minimum tax, you pay the regular tax only. If the regular tax is less, you pay AMT.

In summary, your total tax liability is expressed as regular tax plus AMT. To better understand this calculation, check Smith & Howard’s Web Tax Guide. You will find further explanation of the AMT with some helpful links.

What About Deductible Items? Do They Apply to Both Regular Tax and AMT?

It depends.

Take the standard deduction, for example. It reduces your standard tax amount, but not the AMT. Additionally, itemized deductions for state and local income tax, real estate taxes, general sales tax, personal property tax, investment advisory fees and employee business expenses are not deductible against the AMT. Personal exemptions also are not accepted when calculating AMT. (Consult your tax professional for a full accounting of deductible items and AMT-specific provisions.)

Are There Updates for 2016 That I Need to Know About?

According to the IRS, “The Alternative Minimum Tax exemption amount for tax year 2016 is $53,900 and begins to phase out at $119,700 ($83,800, for married couples filing jointly for whom the exemption begins to phase out at $159,700). The 2015 exemption amount was $53,600 ($83,400 for married couples filing jointly).  For tax year 2016, the 28 percent tax rate applies to taxpayers with taxable incomes above $186,300 ($93,150 for married individuals filing separately).”

My Head is Spinning from All This; What Should I Do Next?

If you’re like most taxpayers, your goal isn’t to maximize your knowledge of the tax code, but rather, to minimize your tax liability. And remember, your tax liability is the sum of your regular tax plus AMT. If a deduction that trims regular tax liability is reinserted into the equation for AMT purposes, your AMT liability will increase. Even if reducing or eliminating AMT liability by decreasing deductions eventually occurs, as some experts suggest it might, your regular tax will increase.

We all like stories with happy endings. But in the case of the AMT, it’s not that simple. The best way to plan ahead for the AMT is to carefully read your tax return every year, including Form 6251, which is used to figure the amount, if any, of your AMT.

The specific strategy you (and your tax professional, if applicable) employ depends on your income, as well as the type of tax benefits that trigger your AMT. Understanding the basics of how the AMT works can aid your tax planning immensely; it can certainly help you analyze the effect of a particular tax-planning strategy on your wallet.

As with any tax planning strategy, it is important that consult with your tax professional prior to taking any action. If you have questions about whether the AMT may apply to you, please contact the Smith & Howard tax team at 404-874-6244.

How can we help?

If you have any questions and would like to connect with a team member please call 404-874-6244 or contact an advisor below.

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