Alternative Minimum Tax (AMT) Definition and How It Works

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Alternative Minimum Tax (AMT) Definition and How It Works

What Is Alternative Minimum Tax (AMT)?

An alternative minimum tax (AMT) caps the proportion of taxes that a taxpayer must pay to the government, regardless of how many deductions or credits the taxpayer claims.

The United States now has an alternative minimum tax for taxpayers earning more than a specific amount.

After bringing certain tax preference items back into adjusted gross income, the AMT recalculates income tax. To compute taxable income after allowable deductions, AMT employs a distinct set of rules. Preferential deductions are brought back into the taxpayer’s income to create the alternative minimum taxable income (AMTI), from which the AMTexemption is removed to get the final taxable figure.

How the Alternative Minimum Tax (AMT) Works

The difference between a taxpayer’s AMTI and AMT exemption is taxed at the applicable rate schedule. This results in the proposed minimal tax (TMT).If the TMT exceeds the taxpayer’s usual tax burden for the year, the taxpayer must pay both the regular tax and the amount by which the TMT exceeds the regular tax. In other words, the taxpayer is responsible for the whole TMT.

Key Takeaways

  • AMT ensures that certain taxpayers pay their fair share or at least the minimum.
  • It doesn’t kick in until income reaches a certain level. For 2022, it’s $118,100 for couples filing jointly.
  • In 2012, Congress passed theAmerican Taxpayer Relief Act of 2012 that indexed the exemption amount to inflation to prevent middle-income taxpayers from experiencing bracket creep.

What Is the Alternative Minimum Tax Rate?

The alternative minimum tax rates are 26% and 28%. The 26% rate applies to income exceeding the exempted income for the filer’s tax status by up to $197,900. The 28% rate is applied to earnings over that threshold.

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Under the conventional standards, a taxpayer with a high income who takes advantage of several tax benefits may owe a lower proportion. If this is the case, the person must recalculate his or her taxes under the alternative minimum tax system, which removes some of the tax advantages.

The taxpayer will owe whichever amount is higher.

AMT Exemption Amounts

Individual filers have an AMT exemption of $73,600 for tax year 2021. The number for married joint filers is $114,600. The values for tax year 2022 are $75,900 for individuals and $118,100 for couples.

To determine if they owe AMT, taxpayers must complete Form 6251. They must first deduct the exemption amount. They do not have to pay AMT if their AMT is less than the exemption.

It should be noted, however, that taxpayers having AMTI beyond a particular level are not eligible for the AMT exemption. The phase-out starts at $523,600 for individuals and $1,047,200 for married couples filing jointly in tax year 2021. It starts to phase out in tax year 2022 at $539,900, or $1,079,800 for married couples filing jointly.

Purpose of AMT

AMT is intended to discourage taxpayers from avoiding their fair share of tax payment by using tax advantages. The structure, however, was not adjusted to inflation or tax decreases. This may result in bracket creep, a circumstance in which upper-middle-income taxpayers are liable to the AMT rather than only the rich taxpayers for whom it was designed. However, in 2012, Congress approved legislation adjusting the AMT exemption level to inflation.

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Calculating AMT

Individuals may utilize tax software that automatically calculates AMT or fill out IRS Form 6251 to see whether they owe AMT. This form considers medical expenditures, house mortgage interest, and various other miscellaneous deductions to assist tax filers in determining whether their deductions exceed the IRS’s total limit.

The form also requests information on certain types of income such as tax refunds, investment interest, and interest from private activity bonds, as well as numbers corresponding withcapital gains or losses related to the disposition of property. The IRS has specific formulas in place to determine which portion of this income and deductions the tax filers need to note on Form 6251, and it uses another set of formulas to determine how these numbers lead to AMTI.

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