Measuring a taxpayer's vulnerability to the AMT.

• Author: Jolly, Stephen
• Position: Alternative minimum tax

EXECUTIVE SUMMARY

* This article provides a framework for determining whether a particular transaction will result in imposition of the AMT, without resorting to detailed computations.

* AMT is calculated by allowing a taxpayer an exemption that phases out at higher income levels.

* The 26% initial AMT rate is 11% higher than the 15% initial RTR.

It is not always easy or fun to calculate whether a given taxpayer will be subject to the alternative minimum tax (AMT). This article can be used for 2000 returns to determine quickly whether the AMT will apply to a given client situation.

Taxpayers often need to determine whether a proposed transaction will trigger alternative minimum tax (AMT) liability.(1) This article provides a framework for making this determination for 2000 without resorting to detailed computations.(2) AMT preference and adjustment (AMT-P&A) limits are provided for a wide range of taxable incomes (Tis). An AMT-P&A limit is the maximum preferences and adjustments a taxpayer can have without incurring AMT, before considering tax credits. For joint returns with TI in the $40,000-$290,000 range, the AMT-P&A limit generally ranges from $27,000-$35,000.

The AMT System

Congress determined long ago that some taxpayers could reduce their tax liabilities to an unacceptably low level under the regular tax system; thus, it created the AMT in the Revenue Act of 1978. The AMT is a separate tax system; the tax is based on modified rules for income, deductions, rates and credits. Under Sec. 55(b), a tentative minimum tax (TMT) is computed. Sec. 55(a) defines AMT as the excess of TMT over the regular tax for the year.

Computation

For 2000 returns, Sec. 1 imposes income tax at a 15% rate on TI up to $43,850 on a joint return. The rate is 28% on TI from $43,850-$105,950, with higher rates applying to TI above $105,950.(3)

Sec. 55(b)(2) defines alternative minimum taxable income (AMTI) as TI (1) increased for tax preferences and (2) increased or decreased for certain adjustments.(4) Under Sec. 55(b)(1), TMT is computed by applying the AMT rates to the "taxable excess" (AMT base). The AMT base is computed by subtracting the allowable AMT exemption from AMTI. Thus, the AMT computation formula is as follows:

TI + AMT-P&A/ AMTI - AMT exemption/ AMT base x AMT rate/ TMT - Regular tax = AMT A 26% AMT rate applies to an AMT base up to $175,000 on a joint return; a 28% rate applies to the portion of the AMT base over $175,000. The 26% AMT rate is 11% higher than the 15% lowest regular tax rate (RTR); however, Sec. 55(d)(1) provides an AMT exemption of $45,000 on a joint return, $33,750 on a single or head of household (HOH) return and $22,500 on a separate return. The exemption phases out at higher AMTI levels.

AMT Exemption Phaseout Range

Sec. 55(d)(3) provides for a phaseout of the AMT based on AMTI and filing status. On a joint return, for example, the $45,000 exemption is reduced by 25% of AMTI in excess of $150,000. The phaseout range extends from $150,000-$330,000 on a joint return.

Sec. 55(d)(1) provides for a single AMT exemption of $33,750, reduced by 25% of AMTI in excess of $112,500. Separate returns have a $22,500 AMT exemption, reduced by 25% of AMTI in excess of $75,000. An HOH return has a $33,750 exemption, reduced by 25% of AMTI in excess of $112,500.

Exemptions and Deductions

Sec. 151 allows deductions for personal and dependency exemptions ($2,800 each in 2000). Sec. 63(c) provides a standard deduction of $7,350 on a 2000 joint return.

Exemptions and the standard deduction are allowed when computing TI, but Sec. 56(b)(1) disallows them in calculating AMTI. Under Sec. 56(b)(1), many itemized deductions are disallowed in computing AMTI.

As was noted, a $45,000 AMT exemption is allowed on a joint return, unless phased out. For a taxpayer with moderate income, the AMT exemption is likely to offset the negative effects of the:

1. Loss of personal and dependency exemptions.

2. Loss of the standard deduction or of a substantial part of itemized deductions.

3. Other AMT adjustments and preferences.

4. AMT rate higher than the RTR.

5. Loss of most credits when computing AMT.

   Effect of Differences in Exemptions and Rates

   If tax rates were the same for both regular tax and AMT, a taxpayer filing jointly with AMTI below the exemption phaseout threshold would not be subject to AMT, unless AMT-P&A exceeds the AMT exemption. AMTP&A includes personal exemptions and the standard deduction (or disallowed itemized deductions) claimed for regular tax purposes.

   Taxpayers with TI solely in the 15% bracket can incur AMT even if the AMT base is less than TI. See Example 1.

   Example 1: For 2000, H and W, a married...