Demystifying the AMT:

Regular Income Tax Calculation vs. Alternative Minimum Tax Calculation

The sight of IRS Form 1040 gives most taxpayers a headache. The sight of IRS Form 6251 (the form used to calculate the Alternative Minimum Tax (“AMT”) for Individuals) typically causes a migraine. The purpose of this brief summary is to highlight the differences between calculating income tax according to the regular method versus the income tax calculation often required under the rules governing the AMT.

Regular Income Tax Calculation

The equation used to calculate income tax under the regular method is fairly straightforward:

(1) Income minus above-the-line deductions = Adjusted Gross Income (“AGI”);

(2) AGI, minus the greater of the Standard Deduction or Itemized Deductions, minus allowable personal exemptions = Taxable Income (“TI”);

(3) TI multiplied by the applicable tax rate = Tax;

(4) Other taxes based on different types of income (e.g., self-employment tax, net investment income tax, the health care tax imposed for not having full-year health care coverage and AMT) are added to the Tax to yield a total tax amount.

AMT Calculation

The purpose of the AMT is to provide a different “tax base amount” for taxpayers who receive significant tax benefits from certain types of income and deductions under the regular income tax calculation method. Essentially, certain adjustments are made to the difference of AGI and allowable deductions reported on line 41 of IRS Form 1040.

In the end, the amount of AMT, if any, is added to the Tax calculated under the regular method, thus requiring taxpayers to pay the greater of income tax calculated under both methods.

a. What is added back?

The following items are the most common deductions reported by individuals under the regular tax calculation that are disallowed (or, as the Code states, “adjusted”) when calculating AMT:

Medical and dental expenses (If the taxpayer or his/her spouse was over 65, then only the smaller of the amount deducted or 2.5% of AGI is adjusted for AMT purposes),

Qualified housing interest (i.e., home mortgage interest),

Miscellaneous deductions subject to the 2% floor,

Standard deduction (if the taxpayer does not itemize),

Personal exemptions,

The difference between regular tax and AMT gain or loss on the disposition of property,

Any deductions received from K-1s issued from estates or trusts, and

Investment interest expense.[1]

The adjustments required under the AMT calculation yield an alternative minimum taxable income (“AMTI”). Taxpayers are allowed to subtract an exemption from AMTI based on their filing status.

b. Are the tax rates different for the AMT?

There are two tax rates for individuals under the AMT: 26% and 28%. The rate used is based on the difference of AMTI and the applicable exemption amount under AMT. The amount of AMT is calculated based on these rates, unless the taxpayer reports Foreign Earned Income on IRS Form 2555, capital gains or qualified dividends.

c. The bottom line.

The amount of AMT calculated on IRS Form 6251 is added to the tax calculated on IRS Form 1040.

Conclusion

Taxpayers subject to the AMT should carefully review the calculations reported on IRS Form 6251 when self-preparing returns or should consult a tax professional to assist them.

About the Author

Christopher Floss is an associate attorney at Hoogendoorn & Talbot LLP, a Chicago based law firm. Christopher concentrates his practice on estate planning and individual, fiduciary, estate and gift tax planning.

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[1] This list is not exhaustive. For a list of all income and expense items that are adjusted for AMT purposes, see IRS Form 6251.