The 2017 Tax Cuts and Jobs Act (TCJA) made the alternative minimum tax (AMT) rules much more taxpayer-friendly for 2018-2025, and significantly reduced the odds that you’ll owe the tax. And if you do still owe the dreaded AMT, you’ll probably owe quite a bit less than before. That said, if you had lots of income in 2021, from capital gains or whatever, you might be exposed.
Here’s a refresher on the how the current AMT rules could affect you:
The AMT is a separate federal income tax system with a family resemblance to the more-familiar regular federal income tax system. The difference is the AMT system taxes certain types of income that are tax-free under the regular system and disallows some breaks that you can claim under the regular system.
To calculate the AMT, you start off with taxable income calculated under the regular tax rules and then make various additions and subtractions to reflect the differing AMT rules. The result is your AMT income. If the AMT based on that income exceeds your regular tax amount, you owe the larger AMT amount.
As things currently stand, the maximum AMT rate is “only” 28% versus the 37% maximum regular tax rate.
For 2021, the maximum 28% AMT rate kicks in when AMT income exceeds $199,900 for married joint-filing couples and $99,950 for others.
For 2022, the 28% rate thresholds are $206,100 and $103,050, respectively.
Below these thresholds, the AMT rate is 26%.
Key point: Proposed legislation would increase some regular tax rates for some higher-income folks. If that happens, I don’t think the higher rates would take effect until 2022.
Under the AMT rules, you are allowed an inflation-adjusted AMT exemption (effectively a deduction), which is subtracted in calculating your AMT income. The TCJA significantly increased the exemption amounts for 2018-2025.
For 2021, the exemption amounts are $114,600 for married joint-filers, $73,600 for unmarried individuals, and $57,300 for married individuals who file separate returns.
For 2022, the exemption amounts are $118,100, $75,900, and $59,050, respectively.
Your exemption is phased out when your AMT income surpasses the applicable threshold, but the TCJA greatly increased those thresholds for 2018-2025.
At high levels of AMT income, your AMT exemption is phased out (reduced or eliminated). Specifically, your exemption is reduced by 25% of the excess of your AMT income over the applicable phase-out threshold. Thankfully, the TCJA dramatically increased the phase-out thresholds to levels where most folks are unaffected.
For 2021, the phase-out threshold is $1,047,200 for married joint-filers and $523,600 for other filing categories.
For 2022, the phase-out thresholds are $1,079,800 and $539,900, respectively.
AMT risk factors
Various interacting factors make it difficult to pinpoint exactly who will be hit by the AMT and who will escape. But here are the most common danger signs under the current version of the AMT that applies for 2018-2025.
Substantial income from capital gains or whatever
When you have high income, from whatever source, it can cause your AMT exemption to be partially or completely phased out, which increases the odds that you’ll owe the AMT. Lots of folks will be reporting big capital gains on their yet-to-be-filed 2021 tax returns, and that increases their exposure to the AMT.
As I just explained, the TCJA increased both the exemption amounts and the income levels where they begin to be phased out. That’s helpful if you have lots of income in 2021, but it doesn’t necessarily make you AMT-exempt.
Also, the fact that the TCJA lowered five out of the seven regular federal income tax rates while leaving AMT rates at 26% and 28% increases the odds of owing the AMT.
Itemized deductions for state and local taxes(SALT)
If you itemize, you could fully deduct SALT under the pre-TCJA regular tax rules. But you’ve never been able to deduct them under the AMT rules. For 2018-2025, the TCJA limits your regular tax itemized deduction for state and local income and property taxes combined to $10,000, or $5,000 if you use married filing separate status. So, for 2018-2025, this AMT risk factor is reduced, because allowable itemized deductions for state and local taxes are so limited.
Key point: Proposed legislation would allow much larger SALT deductions for itemizers. If that change becomes law, this risk factor would come back into play big time.
Personal and dependent exemption deductions
These deductions have always been completely disallowed under the AMT rules. However, for 2018-2025, personal and dependent exemption deductions are suspended by the TCJA. So, for now, this AMT risk factor is gone.
Exercise of incentive stock options (ISOs)
Incentive stock options (ISOs) are a nice employee perk, but exercising an in-the-money ISO has federal income tax consequences. The so-called bargain element (the difference between the market value of the shares on the exercise date and your ISO exercise price) does not count as income under the regular tax rules, but it does count as income under the AMT rules. This AMT risk factor still exists under the current law.
Deductions for home equity loan interest
Before the TCJA, you could deduct the interest on up to $100,000 of home equity loan balances. But under the AMT rules, you could deduct that interest only to the extent the loan proceeds were used to buy or improve your first or second home.
For 2018-2015, the new law generally disallows itemized deductions for home equity loan interest. However, in some cases, it will be possible to treat a home equity loan as generating deductible qualified residence interest if you used the loan proceeds to acquire or improve your first or second residence and your total mortgage debt, including the home equity loan, does not exceed $750,000, or $375,000 if you use married filing separate status.
In such cases, you can deduct the interest under both the regular tax and AMT rules. However, if the preceding test is not passed, the interest on the home equity loan is disallowed for regular tax purposes for 2018-2025. So, for now, this AMT risk factor has lost its teeth in many cases.
Standard deductions allowed under the regular tax rules have always been completely disallowed under the AMT rules. For 2018-2015, the TCJA greatly increased the standard deduction amounts, but they are still disallowed under the AMT rules. So, the TCJA actually increased this AMT risk factor.
Regular tax depreciation deductions from your business and/or investments in S corporations, LLCs, and partnerships can create AMT adjustments that increase your AMT income and the odds of owing the AMT. Under the TCJA, businesses can deduct the entire cost of many depreciable assets in Year 1 under both the regular tax rules and the AMT rules — for qualifying assets placed in service between 9/28/17 and 12/31/22. So, for now, this AMT risk factor is greatly reduced for newly acquired assets. However, it still exists for older assets that you are still depreciating under the pre-TCJA rules.
Private activity bond interest income
This category of interest income is tax-free for regular tax purposes but taxable under the AMT rules. So, this risk factor still exists.
The bottom line
Although the TCJA significantly reduces the odds that you’ll owe the AMT through 2025, don’t assume you’re AMT-exempt, especially if you have some of the risk factors outlined earlier. Missing the fact that you owe the AMT can result in owing back taxes, interest, and maybe penalties. Not good!
Your tax pro can tell you if you’re exposed to the AMT and maybe suggest some strategies to lower your AMT profile.
If you do owe the AMT for 2021, you may need to make an estimated tax payment to avoid an interest charge penalty. If so, make that payment by 1/17/21.
Minimum tax credit to the rescue? Maybe
A portion of your AMT liability can potentially generate the so-called minimum tax credit (MTC). If so, you can carry the MTC forward to future tax years and use it to reduce your regular tax liability to the point where it equals your AMT liability.
MTCs are generated only by AMT liabilities that are attributable to so-called deferral preferences (items that are recognized at different times for regular tax purposes and AMT purposes, such as depreciation deductions).
AMT liabilities that are attributable to so-called exclusion preferences (items that are permanently treated differently under the regular tax and AMT rules, such as standard deductions) do not generate MTCs. Exclusion preferences include:
∙ Itemized deductions that are disallowed under the AMT rules, such as state and local taxes.
∙ Home equity loan interest deductions if the loan proceeds were not spent on your first or second residence.
∙ Standard deductions.
∙ Tax-exempt interest from certain private-activity bonds.
Most other AMT adjustments and preferences are deferral preferences that will potentially generate MTCs. For instance, the bargain element from exercising an ISO is a deferral preference, and so are AMT depreciation adjustments.
Key Point: Calculate the MTC on Form 8801 (Credit for Prior Year Minimum Tax—Individuals, Estates, and Trusts). Specifically, you prepare Form 8801 for the year after the year you pay the AMT to calculate the MTC that was generated in the preceding year. You then file Form 8801 with your Form 1040 for the later year.