Expect to be hit by alternative miniumum tax? Some tips | VailDaily.com

Expect to be hit by alternative miniumum tax? Some tips

NEW YORK – The alternative minimum tax is becoming even stickier – and could entangle even more taxpayers next year.Congress is expected to recess for the holidays without an agreement on how to limit the effect of the AMT for 2006. While the AMT is expected to affect about 4 million taxpayers for 2005, that number will swell to about 21.6 million for 2006 unless Congress acts to lessen the impact.Congress has said it will do so next year, making it retroactive to Jan. 1, but it’s still unclear exactly how that will play out, since other initiatives, like extending cuts on capital gains and dividends, loom in the background.”Congress can address that dilemma, or growing probability of AMT exposure, by passing legislation that retroactively reduces that bite, and it would probably be as simple as maintaining or increasing the exemption amount,” says John Nersesian, wealth-management strategist at Nuveen Investments.”The exemption is used to ensure that moderate-income taxpayers do not fall victim to the tax.”In the current tax year, married couples filing jointly with income above $58,000 may be subject to AMT, though that figure, or exemption, is dropping to $45,000 next year unless new legislation is passed. The exemption is phased out for those with higher incomes, or $150,000 for married couples filing jointly.The AMT was never intended for the masses: It’s a parallel tax system that was installed in the late 1960s to ensure the wealthiest Americans were paying their fair share of taxes by reducing the amount of deductions they can take.However, it was never indexed for inflation and has increasingly trapped more middle-class taxpayers. Indeed, both proposals to revamp the tax code announced last month by the Federal Tax Reform advisery panel recommended eliminating the AMT.To determine AMT tax liability, two calculations are necessary: one under the traditional tax system and another under the AMT system, where various deductions – such as state and local income taxes, property taxes, miscellaneous deductions and personal exemptions and others – are added back. You must pay the greater of the two.Though the AMT rate is either 26 percent or 28 percent – a lower rate than the highest marginal tax bracket of 35 percent – it’s applied to a wider base of income, making that tax bill more costly. Also, unlike the traditional tax code, the AMT isn’t a progressive tax, but rather a flat tax.Those most likely to be hit are individuals in high-tax states like New York and California with many deductions, such as small-business owners whose companies are structured as passthrough entities (meaning income flows through to the individual returns).For taxpayers concerned they might be subject to the AMT in 2006 – even if Congress does limit its reach next year – there are certain strategies to consider.”You should be talking to your accountants and getting a projection for AMT taxes, and to the extent that you can, accelerate some deductions (that you couldn’t take under AMT) into this year,” says Holly Isdale, head of the wealth advisery group at Lehman Brothers Holding Inc.Here’s a list of simple strategies if you expect to become ensnared next year:- Prepay your state income taxes: Paying your first-quarter estimated state income tax between now and the end of the year provides a deduction in 2005, or during a “regular” tax year. Taxpayers wouldn’t be able to claim the deduction if subject to the AMT.- Prepay your property taxes: Same logic goes here. You want to deduct property taxes in the year you are not subject to AMT, Isdale advises.- Review your municipal bond portfolio. While municipal bonds issued to fund public activities such as roads and airports are not subject to AMT, munis issued to fund private activities, such as a sports stadium, are. Individuals should consider selling municipals subject to AMT and reinvest in non-AMT munis, even though they typically yield about 20 basis points less than AMT municipals.- Accelerate charitable contributions: It’s best to make large donations during years when your tax bracket is the highest. So, if an individual is in the 35 percent tax bracket this year but expects to be in a 28 percent bracket because he or she is subject to AMT next year, it’s advantageous to take it this year.- Accelerate capital gains: While capital gains are subject to the 15 percent tax rate under both traditional and AMT tax codes, recognizing a large capital gain raises adjusted gross income. And as one’s AGI moves higher, the AMT exemption amount is phased out. For every dollar earned above $150,000 (for married people filing jointly), individuals lose 25 cents of the AMT exemption amount. For example, a couple with $160,000 in income is $10,000 over the threshold. That means they will lose $2,500 of the exemption amount ($58,000 in 2005 and $45,000 next year, barring any changes).- Manage distributions from retirement accounts wisely. If an individual in the 35 percent tax bracket believes she will be subject to AMT next year, she might wait to take certain income distributions until ’06 since it will be taxed at 28 percent.

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