Defanging The Ugly Ol' Alternative Minimum TaxAmey Stone
The very rich used to be different from you and me: They were the only ones who worried about the alternative minimum tax. But changes in 1993 rates are giving more taxpayers who are not in the top brackets what accountants call "an AMT problem." In fact, the dreaded tax is now more likely to snare taxpayers in the 31% bracket if they qualify for lots of deductions and exemptions. It's too late to avoid the AMT for '93, but you can take steps to change your '94 outlook. First, you must understand the basics.
nWhat is the AMT? The AMT is a separate set of tax rules from the ones most people know and hate. It was created in 1986 to prevent taxpayers with a lot of "real" income--and tax breaks--from deducting their way out of paying their fair share. The AMT allows very few deductions, gives a standard exemption based on filing status, and then applies a 26% or 28% rate. You are taxed at a lower rate--but on a much broader base of income. You pay the AMT only if it adds up to more than your regular taxes.
-- How is it figured? Start with your regular taxable income and add back any "adjustments" and "preferences." These are deductions allowed under regular tax rules but disallowed or in need of adjustment for the AMT. A full list is available on the AMT form (No.6251). Examples of things you need to add back include deductions for state and local taxes, and the amount by which the market value of a stock exceeds your purchase price when you exercise incentive stock options. (ISOs).
After you've added back all the preference items to your taxable income, subtract your AMT exemption to get your AMT income. Couples filing jointly can deduct up to $45,000, and single filers can deduct $33,750. But these deductions are graduated: Married people with AMT income over $150,000 (above $122,500 for singles) must reduce their exemption by 25% of the sum by which AMT income exceeds those amounts. Next, apply the AMT rate to your AMT income. The rate is 26% for income up to $175,000 and 28% for the rest. Finally, compare your AMT with your regular tax, and pay whichever is higher.
-- How did 1993 tax-law changes affect the AMT?
Before the rules changed last August, the AMT rate was a flat 24%. The new law increased the rates, making the system two-tiered. amt exemptions were also increased. Before, couples could subtract $40,000, and single filers could subtract $30,000.
Since the top regular marginal rates (which went from 31% to 36% and 39.6%) rose by more than the AMT rates, high-income taxpayers are less likely to fall under the AMT this year. But people still in the 31% bracket, now that there is only a 5% difference between the AMT rate and the top regular rate, may find themselves in the AMT. Also, taxpayers with a lot of capital gains--taxed at 28% under the regular rules--are much more likely to be hit with the AMT.
-- How can I avoid the AMT in 1994? AMT planning is complex and varies depending on the mix of items that triggered the AMT. In general, you want to accelerate income and defer deductions--the opposite of regular taxes. A professional can run the numbers for a few years with help from sophisticated software, says Mark Kersting of New York accounting firm Urbach Kahn & Werlin.
If you can defer deductions, you may avoid the AMT. If you can't avoid it, you may want to accelerate marginal income into the current year so it will be taxed at lower AMT rates, rather than the highest regular rates.
-- How can I make sure I qualify for an AMT credit? There is one silver lining to the AMT: You can claim a tax credit against your regular tax liability in future years for amt attributable to "deferral" preferences, such as isos or accelerated depreciation. The idea is that, by paying the AMT, you are essentially prepaying taxes for income you have not yet realized. AMT taxpayers who can use these minimum tax credits are really losing only the time value of money. If you can look at it that way, an AMT problem should not seem so grave.
YOU MAY HAVE AN AMT PROBLEM IF...
-- You live in a high-tax state, such as New York or California.
-- You exercised incentive stock options.
-- You own certain tax-advantaged investments, such as tax-exempt
private-issue bonds or oil-and-gas limited partnerships.
-- You claimed interest on a refinanced mortgage and the amount you
refinanced was greater than your original mortgage, or you claimed
home-equity interest and the loan wasn't used to improve your home.