taxes

Rest In Pieces, AMT

Taxpayers are getting an eight-year break for the dreaded Alternative Minimum Tax. Here's how to make the most of that time.

I would love to have written “peace,” but there is nothing peaceful about the Alternative Minimum Tax (AMT).

Who’s Likely to Be Subject to AMT Going Forward

While the AMT was technically not eliminated from the tax code, for practical purposes it was for the majority of taxpayers. If you were subject to AMT in 2017, you will most likely not be subject to it in 2018. Let’s look a bit deeper across three cases where a married taxpayer lives in a high-tax state and reports $300,000, $400,000 and $600,000 of income. Let’s also assume this taxpayer claims itemized deductions of their state income taxes plus $5,000 in real estate taxes. The results are summarized in the table below.

AMT Case Studies Summary

 Case #1Case #2Case #3
 201720182017201820172018
Ordinary Income
(wages, social security, pensions, IRA distributions, etc.)
$100,000$100,000$200,000$200,000$200,000$200,000
Dividends/Long-Term Capital Gains$200,000$200,000$200,000$200,000$400,000$400,000
Adjusted Gross Income$300,000$300,000$400,000$400,000$600,000$600,000
Deductions$26,258$24,000$33,522$24,000$47,222$24,000
Taxable Income$273,742$276,000$366,478$376,000$552,778$576,000
       
Federal Tax
(Regular + AMT)
$44,648$40,459$81,272$66,519$129,648$108,969
AMT Included Above$2,946$-$12,074$-$22,572$-
% decrease in Federal Tax 9% 18% 16%
       
Marginal Rate - Federal26%12%26%24%28%24%
Effective Rate - Federal16%15%22%18%23%19%

In all cases, the taxpayer stopped paying AMT in 2018. This contributed to a reduction in the federal tax liability by 9% to 18% across the cases, even though the taxpayer ended up claiming less deductions (standard in 2018 vs. itemized in 2017). Most importantly, however, is that marginal rates decreased, making 2018 and future years a great time to potentially reduce or eliminate taxes from your retirement.

Despite these changes, a few taxpayers will still find the AMT to be part of their financial life. The most common will be:

  • individuals who exercise Incentive Stock Options (ISOs)
  • oil and gas investors who have depletion and intangible drilling costs
  • investors owning private activity bonds
  • and business owners with assets having different depreciation lives for regular versus AMT purposes

Some Possible Investment Moves to Consider

As part of a comprehensive review of how the TCJA impacts your personal situation, the structure of your investment portfolio should not be left behind. With regard to the equity portion of your portfolio, investors will want to re-evaluate the types of securities they own. Tax-efficient investors typically want to control and minimize the amount of capital gains realized each year. For individuals previously vulnerable to AMT, this was critical. Now that this is a much less likely to occur, investors should evaluate if different security types provide economic benefits that generate better after-tax returns.

With regard to the fixed-income portion of your portfolio, investors will want to re-evaluate their ownership of tax-exempt vs. taxable bonds. Many investors subject to AMT owned tax-exempt bonds to avoid the AMT exemption phase-out that occurs when interest income from taxable bonds is earned. Since there is now more capacity for taxable interest before AMT would apply, taxpayers will want to understand their after-tax rate of return on income investments as the spread between tax-exempt and taxable bonds may have closed considerably. Additionally, many investors subject to AMT also avoided owning Private Activity Bonds (PAB) as they were an AMT add back. They still are, but given the larger AMT exemption and high income phase-outs, investors will now likely have more capacity for owning these bonds before becoming subject to AMT.

It Could be Time to Restructure Fee Arrangements with Your IRAs

Many investors purposely paid the fee of their traditional and Roth IRAs out of a non-qualified investment account in order to maximize the income tax deduction for investment management fees. To the extent this amount, plus the other miscellaneous deductions exceeded 2% of AGI, the individual would have received a financial benefit, but only up until this deduction made the individual subject to AMT. Now that this deduction is no longer allowed, investors will want to evaluate the account(s) from which their investment fees are paid to optimize the tax benefits afforded these accounts. In most cases, investors will want to pay their traditional IRA fee out of their traditional IRA instead of the non-qualified investment account.

Will AMT Become Frankenstein Again?

As was previously noted, the AMT relief provided by the new tax law is temporary, with a scheduled termination date of Dec. 31, 2025. Consequently, if Congress does nothing, the AMT will resuscitate itself and live to terrorize another day. In the meantime, let’s enjoy this eight-year vacation from AMT and make a point to take advantage of the potential opportunities that exist.

This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal adviser.

About the Author

Brian Vnak, CFP, CPA

Vice President, Integrated Advice, Integrated Advice, Wealth Enhancement Group

Brian Vnak is Vice President, Wealth Enhancement Group, advising clients on income, gift, trust and estate tax issues.

Most Popular

Dying Careers You May Want to Steer Clear Of
careers

Dying Careers You May Want to Steer Clear Of

It’s tough to change, but your job could depend on it. Be flexible in your career goals – and talk with your kids about their own aspirations, because…
September 13, 2021
5 Top Dividend Aristocrats to Beef Up Your Portfolio
dividend stocks

5 Top Dividend Aristocrats to Beef Up Your Portfolio

The 65-member Dividend Aristocrats are among the market's best sources of reliable, predictable income. But these five stand out as truly elite.
September 14, 2021
7 Best Commodity Stocks to Play the Coming Boom
commodities

7 Best Commodity Stocks to Play the Coming Boom

These seven commodity stocks are poised to take advantage of a unique confluence of events. Just mind the volatility.
September 8, 2021

Recommended

I Contributed Too Much to an IRA – What Should I Do?
IRAs

I Contributed Too Much to an IRA – What Should I Do?

The rules on excess IRA contributions can be confusing. But if you act early, you can minimize any effect on your taxes.
September 28, 2021
Family Business Survival Strategies in an Era of Sweeping Tax Reform
tax planning

Family Business Survival Strategies in an Era of Sweeping Tax Reform

Changes to our nation’s income taxes, capital gains taxes and estate taxes – whether already passed or still in the proposal stage – pose massive chal…
September 28, 2021
11 Best Things to Keep in a Safe Deposit Box
savings

11 Best Things to Keep in a Safe Deposit Box

These valuables and documents, along with some items you hold dear, should be stored securely at your bank.
September 25, 2021
Tax Relief Available for California Wildfire Victims
Tax Breaks

Tax Relief Available for California Wildfire Victims

Following FEMA's recent disaster declaration, residents and businesses impacted by the California wildfires get more time to file and pay taxes.
September 24, 2021