Preface: Alternative minimum taxes (AMT) are increasingly applicable to taxpayers. Understanding what AMT is and being aware of the additional tax cost, as earnings increase, is the purpose of this blog.

 

What is Alternative Minimum Tax?

 

The Internal Revenue Codes Section 55, is a shadow tax system, designed to collect more tax revenues and is becoming more relevant an increasing number of taxpayers resulting from inflationary increases in wages and business earnings. In fact, more than 4 million taxpayers filed Form 6251 for an Alternative Minimum Tax (AMT) liability in the previous year.

AMT was introduced to the tax code in 1969 after Treasury Secretary Joseph Barr testified that in 1967, 155 individuals paid no federal income tax with incomes over $200,000 at that time (the equivalent of say $1.2m today). To resolve that problem, Congress added a minimum tax feature the Internal Revenue Code, hence today’s code Section 55, and called AMT after the 1982 modification of IRC Section 55.

AMT tax calculations involve adjustments to taxable income and preferences designed to either eliminate or defer tax deductions for AMT purposes. To name a few adjustments and preferences: medical expenses to the extent they exceed 10% on AGI and not 7.5% for regular tax; state and local taxes are not deducted for AMT purposes from itemized deductions, so therefore, taxes for income to state and local authorities, sales tax, property taxes etc. are not deduction for AMT. This reduces the Schedule A itemized deductions for income earners subject to AMT. In addition, numerous miscellaneous itemized deductions subject to the 2% floor are not deductible for AMT, i.e. investment advisor fees, and portfolio management fees say or unreimbursed employee business expenses.

A planning tip for AMT is to reduce withholdings and quarterly estimates in the years subject to AMT so the adjustment for state and local taxes is optimized, i.e. no large overpayments on estimated taxes, that would be added back to taxable income. A significant aspect of AMT tax is depreciation. Businesses have a Federal depreciation book and AMT depreciation book. These depreciation differences involve adjustments to taxable income for AMT.

AMT tax is complex; therefore, without appropriate tax planning, AMT can often surprise taxpayers. You cannot simply eye a taxpayers income and itemized expenses to determine if AMT tax is applicable. Often taxpayers do not realize they will owe AMT in the initial year income reaches the applicable level, and therefore often underpayments of tax estimates occur. AMT surprises are typical for entrepreneurs. The good news is that AMT rates are only 26% and 28%. The problem is more of your income can be subject to that tax.

There are a few interesting tax planning tips for taxpayers with increasing earnings, who may be subject to AMT in the current year, and in higher tax bracket in following years. They should accelerate earnings in the current year to pay the top AMT bracket, and not say 39%+ in future years if they exceed the AMT threshold.

Summarized: AMT is increasingly relevant to taxpayers. With its complexity, tax planning for AMT requires additional tax accounting calculations. This blog is not to be construed as tax advice on AMT. It is to provide an awareness of additional tax costs that some taxpayers earnings could be subject to. Talk with your CPA in regards to AMT costs relevant to your tax planning.