Every year, nearly five million taxpayers are subject to the alternative minimum tax (AMT), but there are planning strategies that may help mitigate its impact.
The AMT was designed by Congress to ensure that wealthy individuals could not avoid income tax by exploiting weaknesses in the tax code. When the AMT was introduced in 1969, it only affected taxpayers with very high incomes. Because it was not originally indexed for inflation, the number of taxpayers subject to AMT has grown substantially.
Will you owe AMT?
Source: Tax Policy Center, 2012.
The AMT is a parallel tax system with different rules than those governing regular income tax. Certain deductions are not allowed under the AMT.
With limited deductions, taxable income varies
Planning considerations for the AMT
If you know you will be subject to the AMT:
- Consider deferring certain deductions that are not allowed when subject to AMT. For example, pay your fourth-quarter real estate tax bill early in January instead of late December. This pushes the deduction into the following tax year when you may not be subject to AMT.
- For taxpayers who typically find themselves in the highest tax brackets, consider adding income before year-end. For example, you could accomplish this by converting some pretax IRA funds to a Roth IRA. If you remain subject to the AMT, the maximum marginal tax rate is 28% which is lower than the highest tax rate for the "regular" income tax calculation of 39.6%.
- Avoid private activity bonds. The interest from these bonds is taxable income for AMT.
To potentially avoid AMT:
- Be careful when exercising certain stock options, specifically incentive stock options (ISOs), which can create taxable income for AMT.
- Large capital gains may increase exposure to AMT.
For more detailed information on AMT including planning considerations, refer to "The alternative minimum tax: Tax-saving strategies." Planning for the AMT can be complicated, and it is critical to consult with a qualified tax professional.
For informational purposes only. Not an investment recommendation.
This information is not meant as tax or legal advice. Please consult with the appropriate tax or legal professional regarding your particular circumstances before making any investment decisions. Putnam does not provide tax or legal advice.