Individual Income Taxes C12-1 Chapter 12 Alternative Minimum Tax Copyright ©2009 Cengage Learning Individual Income Taxes

C12-2 Alternative Minimum Tax (AMT) AMT is separate from, but parallel to, the regular income tax system The AMT computation reconciles taxable income, through adjustments and preferences, with Alternative Minimum Taxable Income (AMTI) AMT is separate from, but parallel to, the regular income tax system The AMT computation reconciles taxable income, through adjustments and preferences, with Alternative Minimum Taxable Income (AMTI)

Individual Income Taxes C12-3 Computation of AMT AMT formula: Taxable income ± Adjustments + Preferences AMTI – Exemption AMT base × AMT rate(s) Tentative minimum tax – Foreign tax credit – Regular tax Equals AMT AMT formula: Taxable income ± Adjustments + Preferences AMTI – Exemption AMT base × AMT rate(s) Tentative minimum tax – Foreign tax credit – Regular tax Equals AMT

Individual Income Taxes C12-4 AMT Adjustments And Preferences (slide 1 of 3) Most AMT adjustments relate to timing differences –Timing differences eventually reverse Positive adjustments will be offset by negative adjustments in the future, and vice versa Certain AMT adjustments do not relate to timing differences –These adjustments result in a permanent difference between taxable income and AMTI e.g., Itemized deductions Most AMT adjustments relate to timing differences –Timing differences eventually reverse Positive adjustments will be offset by negative adjustments in the future, and vice versa Certain AMT adjustments do not relate to timing differences –These adjustments result in a permanent difference between taxable income and AMTI e.g., Itemized deductions

Individual Income Taxes C12-5 AMT Adjustments And Preferences (slide 2 of 3) AMT Preferences –Designed to take back all or part of the tax benefits obtained by certain items in the computation of taxable income for regular income tax purposes Taxable income is increased by tax preference items effectively disallowing those tax benefits for AMT purposes AMT Preferences –Designed to take back all or part of the tax benefits obtained by certain items in the computation of taxable income for regular income tax purposes Taxable income is increased by tax preference items effectively disallowing those tax benefits for AMT purposes

Individual Income Taxes C12-6 AMT Adjustments And Preferences (slide 3 of 3) Tax preferences include: –Interest on certain private activity bonds Tax preferences include: –Interest on certain private activity bonds

Individual Income Taxes C12-7 Other Components of AMT (slide 1 of 3) Exemption amount –The exemption reduces AMTI to arrive at the base on which AMT is computed –The initial exemption amount is: $44,350 for single $66,250 for married, filing jointly $33,125 for married, filing separately Exemption amount –The exemption reduces AMTI to arrive at the base on which AMT is computed –The initial exemption amount is: $44,350 for single $66,250 for married, filing jointly $33,125 for married, filing separately

Individual Income Taxes C12-8 Other Components of AMT (slide 2 of 3) Exemption amount –Exemption amount is reduced by 25% of AMTI in excess of $112,500 for single $150,000 for married, filing jointly $75,000 for married, filing separately Exemption amount –Exemption amount is reduced by 25% of AMTI in excess of $112,500 for single $150,000 for married, filing jointly $75,000 for married, filing separately

Individual Income Taxes C12-9 Other Components of AMT (slide 3 of 3) AMT rates –A progressive rate structure is applied to the tax base (AMTI less exemption amount) 26% on first $175,000 ($87,500 for married, filing separately) of tax base 28% on remaining amount of tax base –Net capital gain and qualified dividend income included in AMT base are taxed at favorable alternative tax rates (15% or 0%) AMT rates –A progressive rate structure is applied to the tax base (AMTI less exemption amount) 26% on first $175,000 ($87,500 for married, filing separately) of tax base 28% on remaining amount of tax base –Net capital gain and qualified dividend income included in AMT base are taxed at favorable alternative tax rates (15% or 0%)

Individual Income Taxes C12-10 Personal Tax Credits For tax years after 2006 –Only certain nonrefundable personal tax credits can offset both the regular income tax (less any foreign tax credit) and the AMT in full, including Child tax credit Adoption expenses credit, and Credit for elective deferrals and IRA contributions For tax years after 2006 –Only certain nonrefundable personal tax credits can offset both the regular income tax (less any foreign tax credit) and the AMT in full, including Child tax credit Adoption expenses credit, and Credit for elective deferrals and IRA contributions

Individual Income Taxes C12-11 Adjustments (slide 1 of 5) Since adjustments tend to arise from timing differences between regular tax and AMT –Adjustments can be positive or negative, and will generally reverse in later years Since adjustments tend to arise from timing differences between regular tax and AMT –Adjustments can be positive or negative, and will generally reverse in later years

Individual Income Taxes C12-12 Adjustments (slide 2 of 5) Incentive stock options (ISOs) –The exercise of an ISO can cause income for AMT purposes that is not currently taxable for regular tax purposes Excess of FMV over exercise price is adjustment in year stock is freely transferable or not subject to substantial risk of forfeiture Incentive stock options (ISOs) –The exercise of an ISO can cause income for AMT purposes that is not currently taxable for regular tax purposes Excess of FMV over exercise price is adjustment in year stock is freely transferable or not subject to substantial risk of forfeiture

Individual Income Taxes C12-13 Adjustments (slide 3 of 5) Itemized deductions allowed for AMT purposes include: Casualty losses Gambling losses Charitable contributions Medical expenses in excess of 10% of AGI Estate tax attributable to IRD Qualified interest –May differ from regular tax allowed qualified residence and investment interest Itemized deductions allowed for AMT purposes include: Casualty losses Gambling losses Charitable contributions Medical expenses in excess of 10% of AGI Estate tax attributable to IRD Qualified interest –May differ from regular tax allowed qualified residence and investment interest

Individual Income Taxes C12-14 Adjustments (slide 4 of 5) Itemized deductions not allowed for AMT: –Taxes and miscellaneous itemized deductions subject to the 2% AGI limit Itemized deduction cutback does not apply for AMT –Regular tax cutback amount reduces AMTI Itemized deductions not allowed for AMT: –Taxes and miscellaneous itemized deductions subject to the 2% AGI limit Itemized deduction cutback does not apply for AMT –Regular tax cutback amount reduces AMTI

Individual Income Taxes C12-15 Adjustments (slide 5 of 5) Other adjustments –AMT does not allow the standard deduction and personal and dependency exemptions Other adjustments –AMT does not allow the standard deduction and personal and dependency exemptions

Individual Income Taxes C12-16 Preferences (slide 1 of 2) Preferences tend to arise because of deductions or exclusions that provide substantial tax benefits –Unlike adjustments, preferences can only be positive (i.e., increase AMTI) –Thus, preferences reduce the benefits initially received when computing regular tax Preferences tend to arise because of deductions or exclusions that provide substantial tax benefits –Unlike adjustments, preferences can only be positive (i.e., increase AMTI) –Thus, preferences reduce the benefits initially received when computing regular tax

Individual Income Taxes C12-17 Preferences (slide 2 of 2) Interest on private activity bonds –This interest is not taxable for regular tax purposes but is included in income for AMT purposes –Expenses incurred in carrying these bonds are not deductible for regular tax purposes, but offset the interest income in computing the AMT preference Interest on private activity bonds –This interest is not taxable for regular tax purposes but is included in income for AMT purposes –Expenses incurred in carrying these bonds are not deductible for regular tax purposes, but offset the interest income in computing the AMT preference

Individual Income Taxes C12-18 AMT Credit AMT attributable to timing differences is AMT Credit –Excess of AMT over AMT computed without timing differences AMT credit can be carried forward (indefinitely) to be used to offset regular income tax liability –Cannot carryback or use against AMT liability AMT attributable to timing differences is AMT Credit –Excess of AMT over AMT computed without timing differences AMT credit can be carried forward (indefinitely) to be used to offset regular income tax liability –Cannot carryback or use against AMT liability