Surprising Strategies to Avoid Alternative Minimum Tax Under New Tax Law

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Unfortunately, the dreaded Alternative Minimum Tax (AMT) still exists after the Tax Cuts and Jobs Act (TCJA). The good news: The TCJA has made the AMT rules more taxpayer-friendly for 2018-2025, and other TCJA changes reduce the chances that you will owe the AMT for those years. Even so, you can still benefit from measures to avoid or minimize tax. Here are some ideas after first covering the basic information needed.

AMT Basics

The AMT is a separate tax system with a family resemblance to the regular federal income tax system. The difference is that the AMT system taxes certain types of income that are exempt from tax under the regular tax system and prohibits certain regular tax breaks.

AMT rate

The maximum AMT rate is “only” 28% compared to the maximum regular tax rate of 37% for 2018-2025 under the TCJA.

For 2018, the AMT rate of 28% takes effect when AMT income exceeds $191,500 for married couples filing jointly and $95,750 for others.

If your AMT bill for the year exceeds your regular tax bill, you owe the higher amount of AMT.

AMT exemptions

In calculating your AMT income, you are allowed to subtract an inflation-adjusted AMT exemption. The exemption is removed when your AMT income exceeds the applicable threshold. For 2018-2025, the TCJA is increasing the exemption amounts and sharply increasing the phase-out thresholds.

For 2018, the exemptions are $109,400 for married couples filing jointly, $70,300 for unmarried individuals, and $54,700 if using separate married filing status. The respective elimination thresholds are $1 million, $500,000 and $500,000.

Your exemption is reduced by 25% of the excess AMT income over the applicable phase-out threshold. But under the liberalized rules for 2018-2025, only really high-income earners will see their exemptions phased out, while middle-income earners will get full exemptions.

AMT Risk Factors

Various interacting factors make it difficult to determine exactly who will be hit by the AMT and who will escape. That said, here are the most common risk factors under prior law and how the TCJA amendments affect them:

• Substantial income from any source. A high income can cause your AMT exemption to be partially or completely removed, increasing the chances of owing the AMT. While this risk factor still exists, it has been significantly reduced for 2018-2025 by the TCJA’s changes to the AMT exemption rules.

• Large itemized deductions for state and local income and property taxes. Deductions for these taxes are disallowed under AMT rules. For 2018-2025, the TCJA limits regular tax itemized deductions for state and local taxes to only $10,000, or $5,000 if you use separate married filing status. Since large itemized deductions for these taxes are not possible for 2018-2025, this risk factor is significantly reduced at this time.

• Several dependent children and therefore quite a few personal and dependent exemption deductions. These deductions are disallowed under AMT rules. For 2018-2015, the TCJA is eliminating personal and dependent exemption deductions, so this risk factor is gone for now.

• Exercise of in-the-money incentive stock options (ISO). The so-called windfall element (the difference between the market value of the shares on the date of exercise and your exercise price under ISO) does not count as income under regular tax rules, but it counts as income under AMT rules. This risk factor still exists after the TCJA.

• Large miscellaneous itemized deductions (for items such as capital expenditures, tax advice and preparation fees, and unreimbursed employee business expenses) were disallowed under AMT rules. For 2018-2025, the TCJA is eliminating various itemized deductions that were previously allowed for regular tax purposes but disallowed for AMT purposes. So that risk factor is gone for now.

• Interest from private activity bonds which are tax exempt for regular tax purposes but taxable under AMT rules. This risk factor still exists after the TCJA.

• Depreciation write-offs for assets such as machinery, equipment, computers, furniture and fixtures from your own business or from investments in S corporations, LLCs or partnerships. These assets must be depreciated over longer periods under the AMT rules, which increases the likelihood that you will owe the AMT. Under the TCJA, businesses can deduct the full cost of many depreciable assets in year 1 under regular tax rules and AMT rules – for assets placed in service between 9/28/17 and 31/12/22. This risk factor is therefore greatly reduced for newly acquired assets, but it continues to exist for older assets still depreciated according to the rules of previous law.

• Standard deductions allowed under regular tax rules are disallowed under AMT rules. For 2018-2025, the TCJA nearly doubles the standard deduction amounts. The new law therefore increases this risk factor.

Here are the tax-saving strategies most Americans don’t know about

Plan to avoid or minimize AMT

The TCJA reduces the chances that you will owe the AMT for 2018-2025. And if you still owe the AMT, you’ll probably owe less (maybe a lot less). Even so, you could still benefit from measures to avoid or minimize any AMT impact under the new law. Here are some suggestions.

Think twice before prepaying state and local taxes

If you’re solidly in AMT mode, the traditional regular tax year-end strategy of prepaying state and local income and property taxes that are due early next year won’t help. These taxes are not deductible under AMT rules. So pay them next year when you have a chance of not being in AMT mode.

Another reason not to prepay is that the TCJA limits itemized deductions for state and local income and property taxes to a combined total of $10,000 ($5,000 for those using the separate statute of married deposit) for 2018-2025. So paying these taxes early could push you over the non-deductibility threshold, which won’t help your case.

Distribute ISO exercises

Consider spreading the exercises of all ISOs in the course over several years. Exercising ISOs when there is a large gap between the current market value and the strike price is one of the most common triggers for unexpected AMT bills.

Disregard obligations of private activities

While interest on municipal bonds is tax-exempt under regular tax rules, interest on so-called private activity bonds is taxable under AMT rules, increasing your exposure to tax. ‘AMT. A common example of a private activity bond is one used to fund a stadium for a professional sports team.

Counterintuitive Strategy: Accelerate Revenue in the AMT Year

If you are solidly in AMT mode for this year, remember that the maximum AMT rate is “only” 28% while the maximum regular tax rate is 37%. So you might actually benefit from accelerating some additional income this year when it’s taxed at 28% under AMT rules instead of a higher rate next year under tax rules. regular. You’ll pay more tax for the current year, but you’ll pay at a lower rate, which can result in permanent tax savings over the two-year period.

How AMT credit works

Part of your AMT liability can potentially generate an AMT credit. You can then use the credit to reduce your regular tax liability in future years – but only to the point where the regular tax liability equals the AMT liability for that year. You can carry forward an AMT credit for an unlimited number of years.

The AMT credit is generated only by AMT liabilities that are attributable to so-called deferral preferences (items that are recognized at different times for regular tax purposes and for AMT purposes). AMT liabilities that are attributable to so-called exclusion preferences (items that are treated permanently differently under regular tax and AMT rules, such as standard deductions) do not generate an AMT credit. Opt-out preferences include:

1. Itemized deductions that are allowed for regular tax purposes but disallowed under AMT rules (such as state and local taxes and various itemized deductions before the TCJA).

2. Deductions for interest on home equity loans allowed for regular tax purposes before the TCJA, if the loan proceeds were not spent on your first or second home.

3. Your standard deduction, if you claimed it instead of detailing it.

4. Personal and dependent exemptions allowed before the TCJA.

5. Tax exempt interest from private activity bonds.

Most other AMT adjustments and preferences are deferral preferences that will potentially generate AMT credits. For example, the negotiating element of an ISO’s exercise is a deferral preference, as are AMT amortization adjustments.

Because the TCJA reduces or eliminates exclusion preferences 1, 2, and 4, individuals who owe AMT after the TCJA are likely more likely to generate AMT credits than under the prior law. This is a good thing!

Key point: The year after the AMT is paid, you calculate any allowed AMT credit that was previously generated on IRS Form 8801 (Previous Year Minimum Tax Credit – Individuals, Estates, and Trusts). If you generated an AMT credit, include Form 8801 with your return for the following year and claim your legitimate credit on that return.

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