Does this apply to you?
In 1966, American taxpayers exploded after learning that more than 100 high-income households paid no income tax. And many other wealthy individuals paid little tax. The AMT (Alternative Minimum Tax) was created by law in 1969 to ensure that even the very wealthy would pay taxes.
This attempt to make taxes fairer ran into the law of unintended consequences. As inflation rose, more and more Americans’ incomes rose, and they became liable for AMT even though that was not the intent of the law. Over the period from 1982 to 2017, the number of households paying the AMT increased from 200,000 to more than 5 million! In 2017, Congress tried to remedy this problem and changed the rules in depth. The new rules worked, and about 200,000 people paid AMT in 2018. But the changes expire in 2025 unless Congress takes action to make them permanent or extend them. If the amendments expire, an estimated 7 million taxpayers will be subject to the tax in 2026.
The AMT can be thought of as a minimum tax rate. Once a taxpayer’s tax rate reaches this minimum, it will not drop further.
The AMT works like this: Using Form 1040, start with ordinary taxable income. This income is then adjusted by adding back certain types of income and excluding certain deductions. Some income is exempt from tax under the regular tax system, but not under the AMT. Some tax breaks (deductions) are also in this category – ok for calculating regular tax, but not for AMT. Then subtract the AMT exemption (that’s a huge amount so only the very wealthy will pay the AMT) and calculate the AMT on what’s left. Finally, calculate the tax if you used the regular system, then pay the higher of the two taxes.
Will you be subject to tax? If you have a high income and lots of itemized deductions, you are likely subject to AMT. If you have a large capital gain, for example from the sale of a house, this could bring you under the AMT. If you exercised (sold) stock options for profit, get professional help with your taxes, because it gets very complicated.
You may be subject to the AMT one year but not the following year. You can also manipulate income and deductions to avoid AMT. (Use professional help.)
Some interesting data from Wikipedia: In 2018, AMT raised over $5 billion, or less than 0.5% of all federal tax revenue. AMT was paid by around 0.1% of all taxpayers in 2018, down from 3% in 2017. More tellingly, the dramatic reduction in the number of those paying tax in the adjusted gross income category of 200 $000 to $1 million comparing these two years.
Disclaimer — I am not a professional investment, tax or financial advisor. This article only presents material for your information. It is not financial, tax or investment advice. Seek professional advice before making investment, tax or financial decisions.