New AMT Rules Raise Questions

OCEAN CITY – As a result of significant legislative changes in the laws governing the Alternative Minimum Tax (AMT), fewer Americans will be subject to this tax this year, and some will pay less than they would have otherwise. To help you understand what the changes to the AMT rules might mean to you, we spoke with Vinay Navani, CPA, principal at Wilkin & Guttenplan, P.C., a certified public accounting and consulting firm in East Brunswick, N.J.

Q. Why has the AMT become such a concern over the years to so many taxpayers?

Navani: When the AMT first came into existence in 1969, it was aimed at a handful of the wealthiest people — only about 20,000 households were affected. However, because it is a flat tax that was never indexed for inflation, it began to touch an increasing number of Americans.

That’s why Congress has gotten into the habit in recent years of amending the tax code to “patch” the AMT by giving taxpayers inflation-indexed exemption increases. However, last year, in an attempt to help taxpayers and stimulate the economy, the government made some additional changes to the AMT — first, through the Emergency Economic Stabilization Act (EESA) last October, and then in last month’s American Recovery and Reinvestment Act (ARRA), popularly known as the stimulus package.

Q. How has the AMT changed specifically through these two pieces of legislation?

Navani: There have been several anticipated changes. Usually, near the end of the year, we always expect to see a “patch” that addresses how much income taxpayers can exclude when calculating the amount of their earnings that will be subject to AMT. For 2008, the exclusions are $69,950 for married couples filing jointly (up from 2007’s $66,250) and $46,200 for single filers (up from 2007’s $44,350). For 2009, ARRA boosted those exclusions to $70,950 for joint-filing married couples and $46,700 for singles.

Q. Speaking of credits, there have been some significant changes that involve credits for exercise of incentive stock options (ISO). What’s different?

Navani: Yes, there were two welcome surprises around ISOs when EESA passed in October. The first is a ratcheting up of the rate at which you can use certain tax credits against an AMT bill. Simply put, the way AMT calculations treat some forms of income — most commonly from the exercise of ISOs — can generate a “minimum tax credit.” Taxpayers can use these credits against a regular tax bill in later years, but many people who continued to qualify for the AMT year after year just kept building up these credits and never got to use them.

To remedy the situation, a few years ago the IRS started allowing taxpayers to offset AMT with these long-term unused tax credits, but only up to 20% a year. For 2008 filings (2009 filings as well) you can use up to 50% of the credits — and the phase-out rule is completely eliminated.

The second change regarding ISOs is really unprecedented: Any taxpayers who owed AMT on income from ISOs from tax years through 2007 and who hadn’t paid that tax by Oct. 3, 2008, now simply don’t have to make those payments, or pay any related interest or penalties — even if the IRS had started collections procedures.

Given the complexities of the American tax system and the amount of rapid change, it’s wise to talk about the specifics of your situation with your financial advisor and tax professional.

(A Merrill Lynch Senior Financial Advisor. She can be reached at 410-213-8520.)