The Tax Cuts and Jobs Act made many changes to personal tax law in the United States, and that includes the Alternative Minimum Tax, or AMT.
The GOP hoped to reduce the impact of the AMT, or even repeal it entirely. Here’s an introduction to the AMT, why a change was needed, and what it might mean for you and other US taxpayers.
Image source: Getty Images.
What is the alternative minimum tax?
As the name suggests, Alternative Minimum Tax, or AMT, is a different way of calculating federal income tax in the United States. It was introduced in 1969 to ensure that high-income households paid their fair share of taxes, no matter how many deductions they were entitled to.
The AMT is calculated by starting with your adjusted gross income (AGI) and adding a bunch of deductions that are not allowed for AMT purposes. Prime examples include deductions for state and local income taxes, personal property taxes, and deductions for a net operating loss. Mortgage interest deduction and charitable contributions are still allowed, as are “over the line” deductions like IRA contributions.
While there are seven tax brackets in the standard method of calculating income tax, the AMT has only two: 26% and 28%. For 2018, here are the alternative minimum tax brackets:
|
Filing status |
26% AMT tax rate |
28% AMT tax rate |
|---|---|---|
|
Groom filing separately |
IMAI up to $95,750 |
IMTA greater than $95,750 |
|
All other registrants |
AMTI up to $191,500 |
IMTA greater than $191,500 |
Data source: Tax Foundation.
Taxpayers calculate their federal income tax using the Standard Method and the AMT Method; they are required to pay the higher of the two amounts.
Why did the GOP make a change?
The problem with the implementation of the AMT is that the exemptions were not initially indexed to inflation. Over time, as wages rose, the AMT began to apply to more and more taxpayers, including middle-income households that the tax was never meant to affect.
According to the Tax Policy Center, about 2% of 2017 tax returns with income between $100,000 and $200,000 will be affected by the AMT. For households with incomes between $200,000 and $500,000, many of whom might be considered middle-income households in high-cost areas of the United States, 29.4% of tax returns are expected to be affected.
The new AMT exemptions and phasing out thresholds
In order to ensure that the AMT primarily affects its intended targets (high-income households) from 2018, the Tax Cuts and Jobs Act significantly increases the AMT exemption amounts and increases the thresholds for the phasing out of these exemptions considerably. It also continuously indexes exemptions for inflation in the future.
When calculating the AMT for the 2018 tax year, here are the exemption amounts that taxpayers will use:
|
Tax return status |
2017 AMT exemption amount |
AMT 2018 exemption amount |
|---|---|---|
|
Single or head of household |
$54,300 |
$70,300 |
|
Married filing jointly |
$84,500 |
$109,400 |
|
Groom filing separately |
$42,250 |
$54,700 |
Data source: Tax Cuts and Jobs Act.
The ability to use these exemptions is being phased out for high-income households. In 2017, these were set at $160,900 for joint filers and $120,700 for individuals, and the allowable exemption was increased by $1 for every $4 of alternative minimum taxable income (AMTI ) exceeding these thresholds.
With these lower thresholds, you can see how middle-income households might have been affected.
For the 2018 tax year, these thresholds have been raised significantly to $1,000,000 for joint filers and $500,000 for individuals. In other words, the full AMT exemptions can be taken by taxpayers earning less than these thresholds, and the exemptions do not disappear entirely until the $1,437,600 AMTI for couples, $781,200 for singles and heads of families, or $718,800 for married people file separately.
It’s also worth mentioning that the AMT calculated for some people will now be closer to their standard tax calculation, thanks to the repeal of certain deductions that were previously added for AMT purposes. For example, various itemized deductions such as employee business expenses and home equity loan interest are no longer allowed as deductions, so they no longer impact the AMT.
Calculation of the AMT in 2018
Calculating AMT can get quite complicated for some people, but let’s look at a simplified example.
Let’s say you are a single taxpayer and your adjusted gross income after deductions in 2018 is $250,000. The deductions you must add back for AMT purposes are as follows:
- $6,000 in state and local taxes
- $4,000 in personal property taxes
This gives you an Alternative Minimum Taxable Income (AMTI) of $260,000. This is well below the $500,000 phase-out threshold, so you would be entitled to subtract the entire $70,300 AMT exemption, resulting in a final taxable amount of $189,700. Applying this to the AMT tax brackets reveals an alternative minimum tax of $49,322. If your federal income tax according to the standard calculation method is less than this amount, you will have to pay it instead. If you calculate higher federal income tax using the standard method, you will pay that amount.
AMT will apply to fewer people in 2018
This should result in few, if any, middle-income households being impacted by AMT in 2018 and beyond. It will always be an important part of the tax system for higher-earning households, but it’s fair to expect that the number of taxpayers it affects will drop significantly in the future.
