What Is the Federal Alternative Minimum Tax (AMT)?
The Alternative Minimum Tax is a secondary way of calculating tax debt owed to the government. The law behind the AMT requires taxpayers to calculate their personal tax debts owed using two different formulas. Taxpayers are then required to pay the higher of those two calculations.
What Purpose Does the Alternative Minimum Tax Serve?
This law was passed as part of the Tax Reform Act of 1969 because some of the very richest people in America were paying lower taxes than low-income tax payers. The AMT was intended to make sure no wealthy person would be able to use as many tax loopholes, exemptions and deductions in order to avoid paying as much in taxes. At the time that the law behind the AMT was passed, the law was aimed at 155 households that had eluded taxes by using tax loopholes.
Alternative Minimum Tax Explained: How Could the AMT Affect You?
Normally, you calculate the amount of taxes you owe to the government using a standard formula that includes certain exemptions and deductions. The AMT requires that taxpayers whose income falls into a certain bracket also calculate the amount of taxes owed a second time, this time using the special AMT formula, meaning several exemptions and deductions are not allowed. If your number of exemptions is extremely high, you may have to pay the AMT instead of the amount estimated when you calculate using the standard formula. This secondary calculation of taxes is in place to ensure that taxpayers who have taken advantage of excessive exemptions still pay a minimum amount of tax.
What Are the Problems With the Alternative Minimum Tax Today?
Only the extremely wealthy objected to the AMT back in 1969. The problem the AMT today results from the fact that the amount of exemptions allowed for households has not been scaled to match the rate of inflation. The government has passed patch reforms from time to time, upping the amount of the exemptions (temporarily) with each reform, but not making any permanent changes to the AMT exemption limits. As a result, some upper-middle-class households have had to pay the AMT instead of the standard amount of taxes, which has hurt many of these families.
Even if these families are already in the upper middle class, the AMT does not factor in cost of living or location. A family making $100,000 in Los Angeles, California most likely lives a more modest lifestyle than a family making $100,000 in Charlotte, North Carolina. Both families may be subjected to the AMT, meaning they have to pay higher taxes as if they were wealthy, but the lifestyle of the Los Angeles family may not be that of a wealthy household at all because their money doesn't go as far.
Ironically, the tax cuts of 2001 and 2003, which were intended to benefit the middle class, pushed upper-middle income families into the zone where they were required to pay the AMT instead of regular taxes.
AMT Disallows Foreign Tax Credits
The AMT also has some quirks to it, such as the fact that it disallows the foreign tax credit. This causes Americans living abroad to be subject to higher taxes if the dollar has fallen in comparison to the local currency.
Are You Subject to the Alternative Minimum Tax?
Most taxpayers don't realize they are going to be affected by the AMT until Uncle Sam sends them a note saying they owe more taxes than they calculated and paid. You can find out if you will be hit by the AMT by going to www.irs.gov and clicking on the AMT Assistant, an electronic worksheet that will help you calculate Form 6251, the AMT calculation form. This AMT Assistant will help you determine if the number of exemptions and adjustments you intend on taking will put you over the limit, making you eligible for the AMT. While the IRS has tried to simplify this process, it is still challenging to determine if you will actually need to pay the AMT or not without calculating your taxes.
How Much Is Too Much?
The AMT exemption amount (the amount of money you can take through exemptions and adjustments) keeps changing, which is the core of the controversy. In 1982, the exemption amount for a married couple was $40,000. If that was adjusted to keep up with inflation, that number should be over $80,000 today, but the exemption patch passed in 2007 only raised the exemption amount to $66,250. The way the trend is going, more and more households are being made to pay the AMT.
How Do You Avoid Paying the Alternative Minimum Tax?
It's difficult to avoid this tax if you are in a vulnerable income bracket (if you currently make between $100,000 and $415,000 a year) and take a lot of exemptions. Living in a state with low state taxes can help. So can upping your charitable deductions.
 | Need answers to your tax questions? Determining whether you're subject to the alternative minimum tax (AMT) can be useful. This way, you can find out sooner rather than later if you need to pay the higher amounts required under the AMT. |
 | Filing taxes with the alternative minimum tax in effect can present a host of penalties that you wouldn't encounter under the standard tax system. You may find yourself paying taxes under the AMT that you wouldn't pay otherwise. |
The alternative minimum tax is a separate tax calculation that forms part of U.S. federal income tax law. It works in parallel with the general method for determining the tax. |
There are some things that can trigger the AMT to sneak up on you each year. Planning ahead for next year is crucial if you want to avoid this costly tax. What is the AMT anyway? It is a special tax created decades ago to prevent the super wealthy from having so many tax breaks that they don't pay taxes. |
The alternative minimum tax is important to tax payers, and is a controversial tax system because of its unexpected impact. How does the alternative minimum tax affect you? |
