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Alternative Minimum Tax (AMT)

Alternative Minimum Tax (AMT) refers to the the Tax Reform Act of 1986 that overhauled federal tax with the goal of requiring high-income people, trusts, estates, and companies to pay at least some taxes.

AMT Calculation

Tax breaks enjoyed under the standard framework are rendered null and void by the AMT. To calculate their Alternative Minimum Taxable Income, taxpayers must add back in certain deductions (AMTI).

Next, the AMT provides an exemption from taxation of $72,900 for single filers and $113,400 for joint filers (for tax year 2020). When adjusted gross income (AGI) reaches $518,400 in 2020 for single filers and $1,036,800 in 2020 for married filers filing jointly, exemptions begin to phase out at a rate of 25 cents per dollar.

After adjusted gross income (AMTI) is calculated and the exemption is subtracted, the tax rate for taxpayers (single and married filing status) is 26% on AMTI up to $197,900 and 28% on AMTI above $197,700. (tax brackets for tax year 2020). Taxpayers determine their AMT estimate after taking care of any pending issues related to overseas taxes. At that point, taxpayers must settle either their AMT obligations or their regular income tax obligations.

A total of about 5 million filers were subject to the AMT in Tax Year 2017, the final year it was in existence before the Tax Cuts and Jobs Act (TCJA) took effect. An estimated 200,000 fewer taxpayers will be liable to the AMT as a result of the TCJA's expansion of the AMT exemption and phaseout of the exemption until 2025.

How AMT originated

In 1969, lawmakers responded to concerns that the wealthiest were abusing tax breaks by creating the alternative minimum tax (AMT). In 1969, then-Treasury Secretary Joseph Barr testified that 155 high-earners had paid no federal income taxes the previous year. Congress established a minimum tax rather than abolishing the tax benefits that allowed these people to lower their taxable income.

Because of the income tax's progressive nature, those with higher incomes feel its effects more strongly. Since each dollar shielded by an exclusion reduces the likelihood of being liable to a higher marginal tax rate, its value increases in direct proportion to one's income. By planning their finances in a way that takes advantage of the many exemptions available, individuals may be able to completely sidestep income taxation, or at least significantly lower their tax liability. The AMT applies a different rate structure and limits the number of exemptions that can be claimed in order to increase the amount of taxable income.

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