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Money Talk

Inspiring Your Financial Awareness / Growing Your Vision

July 2017 Article

 

The                                                  The Alternative Minimum Tax -- Not Just for the Wealthy

 

When first introduced, the alternative minimum tax (AMT) was widely acknowledged to be a rich person's 's tax -- a fallback tax for those wily taxpayers with big incomes and numerous deductions. However, as finances evolved and incomes grew, more and more people found themselves subject to the AMT, even after the introduction of automatic inflation adjustments in 2013. That's why a general understanding of how the tax works can help you avoid it and even use it to your advantage.

 

The Other Federal Tax

The AMT truly functions as an alternative tax system. It has its own set of rates and rules for deductions, and they are more restrictive than the regular system. Taxpayers who meet certain tests essentially have to calculate their net tax liabilities under both sets of rules, and then file using whichever calculation yields the greater tax assessment.

The AMT can be triggered by a number of different variables. Although those with higher incomes are more susceptible to the tax, factors such as the amount of your exemptions or deductions can also prompt it. Even commonplace items such as a deduction for state income tax or interest on a second mortgage can set off the AMT. To find out if you are subject to the AMT, fill out the worksheets provided with the instructions to Form 1040 or complete Form 6251, Alternative Minimum Tax -- Individuals.

AMT rates start at 26%, rising to 28% at higher income levels. This compares with regular federal tax rates, which start at 10% and step up to 39.6%. Although the AMT rates may appear to cap out at a lower rate than regular taxes, the AMT calculation allows significantly fewer deductions, making for a potentially bigger bottom-line tax bite. Unlike regular taxes, you cannot claim exemptions for yourself or other dependents, nor may you claim the standard deduction. You also cannot deduct state and local tax, property tax, and a number of other itemized deductions, including your home-equity loan interest, if the loan proceeds are not used for home improvements. Accordingly, the more exemptions and deductions you normally claim, the more likely it is that you'll have an AMT liability.

There's also an AMT credit that allows you to claim a credit on your tax return in future years for some of the extra taxes you paid under the AMT. However, you can only use the AMT credit in a year when you're not paying the AMT. To apply for the credit, you'll need to fill in yet another form, Form 8801, to see if you are eligible.

 

AMT Red Flags

Certain circumstances and tax items are likely to trigger the AMT:

 

  • If your gross income is above $100,000
  • If you have large numbers of personal exemptions
  • If you have significant itemized deductions for state and local taxes, home equity loan interest, deductible medical expenses, or other miscellaneous deductions
  • If you exercised incentive stock options (ISOs) during the year
  • If you had a large capital gain
  • If you own a business, rental properties, partnership interests, or corporation stock

If any of the above apply to you, you should complete the AMT worksheet when preparing your taxes. If you don't, rest assured that the IRS will. And if they find that you owe AMT, they'll add penalties and interest. Worse yet, not paying your AMT liability may trigger an IRS audit.

 

 

Averting Triggers for the AMT

Because large one-time gains and big deductions that trigger the AMT are sometimes controllable, you may be able to avoid or minimize the impact of the AMT by planning ahead. Here are some practical suggestions.

Time your capital gains. You may be able to delay an asset sale until after the end of the year, or spread a gain over a number of years by using an installment sale. If you're looking to liquidate an investment with a long-term gain, you should review your AMT consequences and determine what impact such a sale might have.

Time your deductible expenses. When possible, time payments of state and local taxes, home-equity loan interest (if the loan proceeds are not used for home improvements), and other miscellaneous itemized deductions to fall in years when you won't face the AMT. Since they are not AMT deductible, they will go unused in a year when you pay the AMT. The same holds true for medical deductions, which face stricter deduction rules for the AMT.

Look before you exercise. Exercising ISOs is a red flag for triggering the AMT. The AMT on ISO proceeds can be significant. Because ISO tax issues are complex, you should consult with your tax advisor before exercising ISOs.

 

Up Close: Incentive Stock Options and the AMT

When you exercise an incentive stock option, you must report an adjustment for AMT purposes. The adjustment equals the difference between the exercise price and the fair market price.

EXAMPLE: You exercise an incentive stock option to purchase 1,000 shares of your company's stock at $20 per share when the stock is trading at $50 per share. For AMT purposes, you must report an adjustment of $30,000 ([$50-$20] x 1000).

 

 

Sent to you by:

Kimberly Surber, CFP® CDFA™

PO Box 893910, Temecula, CA 92589

951-926-1002 Office / 907-347-3860 Cell

kim@encorefinancialconsulting.com  email

www.encorefinancialconsulting.com

 

Let us know how we can help you live your Life’s Vision!


Securities and advisory services offered through The Strategic Financial Alliance, Inc. (SFA) Member FINRA/SIPC.  Kimberly Surber, CFP® CDFA™ is a registered representative and investment advisor representative of SFA which is unaffiliated with Encore Financial Consulting. Supervisory Branch: 202 Abbey Court, Alpharetta, GA 30004 * 678-456-4049.

This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice

Because of the possibility of human or mechanical error by DST Systems, Inc. or its sources, neither DST Systems, Inc. nor its sources guarantees the accuracy, adequacy, completeness or availability of any information and is not responsible for any errors or omissions or for the results obtained from the use of such information. In no event shall DST Systems, Inc. be liable for any indirect, special or consequential damages in connection with subscriber's or others' use of the content.

© 2016 DST Systems, Inc. Reproduction in whole or in part prohibited, except by permission. All rights reserved. Not responsible for any errors or omissions.

This column is produced by the Financial Planning Association, the membership organization for the financial planning community, and is provided by Kimberly Surber, CFP® CDFA™, a local member of the FPA.

 

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