I’ve heard from many of you asking for more information on the AMT because some of you are in it and others fear they will be in it soon. This is not a surprise to me because I have found 2 things to be true in recent years about the AMT:
First, more and more people are getting caught in the AMT trap.
Second, many tax preparers are not aware of the strategies that can be used to legally avoid AMT. Some of these strategies need to be done before the end of the year, but others can be done when the tax return is prepared.
What is AMT? Let me start with an overview of the Alternative Minimum Tax (AMT). AMT is a system of tax laws that parallels the regular tax laws. It has its own rates, its own exemption and its own deductions.
Every individual must compute their tax every year under both the AMT and the regular tax rules. The individual then pays the higher of the two taxes.
The regular tax laws provide tax benefits for certain kinds of income and allow special deductions and credits for certain kinds of expenses. The AMT attempts to ensure that anyone who benefits from these tax advantages pays at least a minimum amount of tax.
The AMT does this by eliminating many deductions and credits allowed in the regular tax laws. For example, state income taxes are deductible for regular tax purposes but not deductible for AMT purposes. This means that people who live in states with a high income tax are more likely to be in AMT because while they get this higher state income tax deduction for regular purposes, they do not get it for AMT purposes.
The result of AMT is an increasing tax liability for an individual who would otherwise pay less tax.
Why are More People Getting Caught in AMT? When calculating your AMT liability, you are allowed to take an AMT exemption which shields a certain amount of your income from AMT. However, if your income is above a certain level, your AMT exemption phases out, exposing more of your income to AMT.
Increasing income is one reason more people are getting caught in AMT, but on top of that is the inflation factor.
The regular income tax is adjusted for inflation. The AMT is not. This means that if your income just keeps pace with inflation each year, then your regular income tax would remain constant (in real terms) while your AMT liability would rise.
This is why AMT is affecting more and more people! Although the AMT may have originally been intended to prevent high income individuals from sheltering all of their income and not paying tax, it now affects more tax filers in lower income classes than it does at the very top of the income scale.
