Background on the Alternative Minimum Tax

The Alternative Minimum Tax (AMT) is part of the federal income tax system in the United States. There are two AMTs, one for individuals and one for corporations. The AMT for individuals is discussed here.

The Alternative Minimum Tax was introduced by the Tax Reform Act of 1969, and became operative in 1970. It was intended to target 155 high-income households that had been eligible for so many tax benefits that they owed little or no income tax under the tax code of the time.

The Alternative Minimum Tax is imposed under 26 U.S.C. § 55 and disallows many deductions and exemptions allowable in computing "regular" tax liability. The AMT sets a minimum tax rate of either 26% or 28% (depending on the amount of the taxpayer's "alternative minimum taxable income," as adjusted) on some taxpayers so that they cannot use certain types of deductions to lower their tax. By contrast, the rate for a corporation is 20%. Affected taxpayers are those who have what are known as "tax preference items". These include long-term capital gains, accelerated depreciation, certain medical expenses, percentage depletion, certain tax-exempt income, certain credits, personal exemptions, and the standard deduction.

In recent years, the Alternative Minimum Tax has been under increased attention. Because the AMT is not indexed to inflation and recent tax cuts, an increasing number of middle-income taxpayers have been finding themselves subject to this tax.

In 2006, the IRS's National Taxpayer Advocate's report highlighted the Alternative Minimum Tax as the single most serious problem with the tax code. The advocate noted that the Alternative Minimum Tax punishes taxpayers for having children or living in a high-tax state, and that the complexity of the Alternative Minimum Tax leads most taxpayers who owe Alternative Minimum Tax not realizing it until preparing their returns or being notified by the IRS.

In addition to the normal tax code calculations, the Alternative Minimum Tax system uses a different set of rules for determining taxable income and allowable deductions, and uses 26/28% rate calculation to determine the "Tentative Minimum Tax" (TMT). The TMT is compared to the income-tax amount calculated for the taxpayer.

The Alternative Minimum Tax is similar to a flat tax of about 28% on adjusted gross income over $175,000 plus 26% of amounts less than $175,000 minus an exemption depending on filing status after adding back in most deductions ($58,000 if using the standard deduction and married filing jointly). However, taxpayers must also perform all of the paperwork for a regular tax return and then all of the paperwork for Form 6251. Furthermore, affected taxpayers must file Alternative Minimum Tax versions of all carryforwards since the Alternative Minimum Tax carryforwards will be different than regular tax carryforwards. Once a taxpayer qualifies for Alternative Minimum Tax, he or she must file Alternative Minimum Tax versions of carryforward losses and Alternative Minimum Tax carryforward credits until they are used up in future years. The definitions of taxable income, deductible expenses, and exemptions differ on Form 6251 from those on Form 1040.

On the positive side, Alternative Minimum Tax does allow you to apply a special Alternative Minimum Tax exemption -- $62,550 for joint filers and $42,500 for singles in 2006. This is designed to prevent the Alternative Minimum Tax from applying to taxpayers with modest incomes. This exemption is reduced by 25 cents for each dollar of Alternative Minimum Tax taxable income above $112,500 for singles ($150,000 for couples). There's also an "Alternative Minimum Tax 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 Alternative Minimum Tax. However, you can only use the Alternative Minimum Tax credit in a year when you're not paying the Alternative Minimum Tax.

Summary