The Problem With the Alternative Minimum Tax (AMT)

The AMT is currently thought to be the biggest problem with the U.S. tax code.  Today it impacts an estimated 11% of all taxpayers.  However its reach is growing each year and by the year 2010 it is estimated to impact up to 34% of all taxpayers if it remains unchanged.

What is it?

It is a parallel or dual tax system that forces certain taxpayers to pay their “fair share” of taxes. The AMT is essentially a flat tax that is assessed at a rate of 26% to 28% depending upon ones income.  It looks at a taxpayer’s adjusted gross income (AGI) and subtracts their itemized deductions.  The AMT restricts certain taxpayers from claiming some deductions, exemptions and exclusions and requires these taxpayers to add back into their return some income that is normally considered tax free.  The standard deduction does not exist within the AMT and neither do the exemptions that can shave off a significant amount per dependent from ones taxable income. 

Why Does It Exist?

It was created as a result of the Tax Reform Act of 1969.  It was intended to target the approximately 155 high income households that took so many deductions under the system at that time that they paid little to nothing in taxes.   Today the AMT insures that taxpayers with high deductions, exemptions or exclusions pay a guaranteed percentage of their income in taxes.

Who Does It Affect?

Unfortunately the definition of “high income” in 1969 hardly applies today.  Because the AMT was not indexed to inflation or by geographic region an increasing number of middle-income taxpayers are being subjected to this tax, it is not a tax only for the wealthy any more as many taxpayers with incomes as low as $42,500 are being victimized by the AMT today.  If you are a taxpayer with a lot of deductions, exclusions or exemptions from state income taxes, real estate taxes, mortgage interest and passive investments, you may be subject to the AMT.  It has also been noted to significantly impact taxpayers who have exercised certain types of stock options.

Why is it a Problem?

In 2005, the median household income in the entire U.S. was $44,400 and the AMT is thought to impact only those households earning over $75,000.  Thus the argument is that the AMT only affects the wealthy and the upper middle class.  Unfortunately in many areas of the country, most notably metropolitan areas of the east and west coast, the median income is close to or exceeds $75,000.  In these areas the cost of living is much higher and those earning incomes within this AMT targeted range are not upper middle class but are solidly middle class according to the standard of living within their area.  The problem results because the AMT is not indexed to either inflation or to the median income of various geographic regions.

Why Doesn’t Congress Fix It?

The loss of revenue to the government would amount to somewhere between $800 billion to an estimated $1.5 trillion over a 10 year period.  The AMT translates into a flat tax on adjusted gross incomes over $175,000 at a rate of 27%.  Because government statistics show that households earning in excess of $200,000 contribute more than half the AMT revenue, changing the current system would, in their view, disproportionately benefit high income taxpayers.  Currently households with incomes below $75,000 are very rarely subject to the AMT but this could change in the coming years if the system is left unchecked. 

How Can I Avoid the AMT?

The best way to minimize the impact of the AMT is to claim fewer tax preference items (this includes exemptions, exclusions and deductions) on schedule A of your federal return.  The most significant tax preferences on schedule A relate to state income and real estate taxes.  If within a given tax year, your AMT income is greater than your standard taxable income, you may want to push your last real estate tax payment and state estimated taxes into the subsequent tax year.

Fannie Mae & Jumbo Mortgage Rates     Just One Click! = Current Rate Chart