income taxes

Beware the costly, complicated AMT, or alternative minimum tax

Westchester NY accountant Paul Herman of Herman & Company CPA’s is here for all your financial needs. Please contact us if you have questions, and to receive your free personal finance consultation!

By Bankrate

dad-browsing-tablet-computer-kids-bed-getty_573x300

The alternative minimum tax, or AMT, is widely unpopular and has been a perennial punching bag whenever tax reform is discussed. President Donald Trump has vowed to kill the AMT, which cost him $31 million on his 2005 tax return.

This parallel tax calculation method has been around since 1969 to ensure that wealthy taxpayers didn’t use loopholes to escape paying their fair share of taxes. The original target was 155 filers with the then-exorbitant income of $200,000 who avoided paying any federal taxes.

For many decades the AMT wasn’t indexed for inflation, so more and more middle-income taxpayers were subject to the tax. A 2013 law fixed that, so the AMT is now adjusted each year to reflect inflation.

What exactly is the alternative minimum tax?

The alternative minimum tax, commonly referred to as the AMT, has its own set of rates (26 percent and 28 percent) and requires a separate computation that could substantially boost your tax bill.

Basically, it’s the difference between your regular tax bill, figured using ordinary income tax rates, and your AMT bill, figured by filling out more IRS paperwork. When there’s a difference, you must pay that amount, the AMT, in addition to your regular tax.

Common tax breaks disallowed

The AMT rejects or reduces many common tax breaks used every year by individual taxpayers to lower their IRS bills.

For example, under the AMT:

  • You cannot deduct state and local taxes.
  • If you are 65 or older, have lots of itemized medical deductions and fall into the AMT, you’ll lose some of those write-offs.
  • Miscellaneous itemized deductions, which must exceed 2 percent of your adjusted gross income under the regular tax system, are disallowed under the AMT.
  • Personal exemptions may be disqualified.
  • While mortgage interest on your main and second home is still AMT-deductible, home equity loan interest is restricted. It can’t be deducted unless the money is used solely to pay for home improvements.
  • Real estate property taxes also are disallowed as deductions under the AMT.
  • Some tax credits that reduce your regular tax liability do not reduce what you owe under the AMT. Once you add back these disallowed credits and run the numbers, you might be subject to a bigger IRS bill if your taxable income exceeds the annual AMT exemption amount for your filing status.

herman blog

Many of the tax breaks not allowed under the AMT system do affect predominantly wealthy individuals or businesses with complicated tax circumstances. These include:

  • Incentive stock options.
  • Intangible drilling costs.
  • Tax-exempt interest from certain private activity bonds.
  • Depletion and accelerated depreciation on certain leased personal or real property.

Considering making a real estate investment?

Do more to pay more

To help sort through the AMT mess, some taxpayers turn to computer software packages, most of which include AMT computation, or hire professional help.

For the past couple of years, the IRS has provided some free AMT calculation assistance. AMT Assistant is an online tool that helps taxpayers determine whether they owe the tax. You just answer a few questions about entries on your draft 1040 and the system does the rest. Based on your entries, the calculator will tell you that either you do not owe the AMT or that you must go further by filling out Form 6251 to find out how much you owe.

But the IRS plans to retire the tool after the close of this filing season. Fewer people need it since it’s easy to figure out whether you owe the tax by using tax preparation software, including through the IRS’ Free File, which automatically calculates any tax owed.

If you find you must pay the AMT, the extra money you owe is never welcome. But dealing with it now is better than the alternative: letting the IRS discover that you should have paid it. Then you’ll owe interest and penalties, too.

Paul S. Herman CPA, a tax expert for individuals and businesses, is the founder of Herman & Company, CPA’s PC in White Plains, New York.  He provides guidance and strategies to improve clients’ financial well-being.

Earned Income Tax Credit for Certain Workers

Westchester NY accountant Paul Herman of Herman & Company CPA’s has all the answers to your personal finance questions! http://www.flickr.com/photos/86530412@N02/8264924343/Millions of Americans forgo critical tax relief each year by failing to claim the Earned Income Tax Credit (EITC), a federal tax credit for individuals who work but do not earn high incomes. Taxpayers who qualify and claim the credit could pay less federal tax, pay no tax or even get a tax refund.

Last year, an estimated 21 million taxpayers received approximately $37.5 billion in EITC. However, the IRS estimates that 25 percent of people who qualify don’t claim the credit and at the same time, there are millions of Americans who have claimed the credit in error, many of whom simply don’t understand the criteria.

EITC is based on the amount of your earned income and the number of qualifying children in your household. If you have children, they must meet the relationship, age and residency requirements. And, you must file a tax return to claim the credit.

Are you eligible for any of these tax credits?

Taxpayers should consider claiming tax credits for which they might be eligible when completing their federal income tax returns, advises the IRS. A tax credit is a dollar-for-dollar reduction of taxes owed. Some credits are refundable – taxes could be reduced to the point that a taxpayer would receive a refund rather than owing any taxes. Below are some of the credits taxpayers could be eligible to claim:

  • Earned Income Tax Credit This is a refundable credit for low-income working individuals and families. Income and family size determine the amount of the EITC. When the EITC exceeds the amount of taxes owed, it results in a tax refund to those who claim and qualify for the credit. For more information, see IRS Publication 596, Earned Income Credit (EIC).
  • Child Tax Credit This credit is for people who have a qualifying child. The maximum amount of the credit is $1,000 for each qualifying child. This credit can be claimed in addition to the credit for child and dependent care expenses. For more information on the Child Tax Credit, see Pub. 972, Child Tax Credit.
  • Child and Dependent Care Credit This is for expenses paid for the care of children under age 13, or for a disabled spouse or dependent, to enable the taxpayer to work. There is a limit to the amount of qualifying expenses. The credit is a percentage of those qualifying expenses. For more information, see Pub. 503, Child and Dependent Care Expenses.
  • Adoption Credit Adoptive parents can take a tax credit of up to $13,170 for qualifying expenses paid to adopt an eligible child. For more information, see Pub. 968, Tax Benefits for Adoption.
  • Credit for the Elderly and Disabled This credit is available to individuals who are either age 65 or older or are under age 65 and retired on permanent and total disability, and who are citizens or residents. There are income limitations. For more information, see Pub.524, Credit for the Elderly or the Disabled.
  • Education Credits There are two credits available, the American Opportunity Credit (formerly called the Hope Credit) and the Lifetime Learning Credit, for people who pay higher education costs. The American Opportunity Credit is for the payment of the first two years of tuition and related expenses for an eligible student for whom the taxpayer claims an exemption on the tax return. The Lifetime Learning Credit is available for all post-secondary education for an unlimited number of years. A taxpayer cannot claim both credits for the same student in one year. For more information, see Publication 970, Tax Benefits for Education.
  • Retirement Savings Contribution Credit Eligible individuals may be able to claim a credit for a percentage of their qualified retirement savings contributions, such as contributions to a traditional or Roth IRA or salary reduction contributions to a SEP or SIMPLE plan. To be eligible, you must be at least age 18 at the end of the year and not a student or an individual for whom someone else claims a personal exemption. Also, your adjusted gross income (AGI) must be below a certain amount. For more information, see chapter four in Publication 590, Individual Retirement Arrangements (IRAs).

There are other credits available to eligible taxpayers. Westchester NY accountant Paul Herman of Herman & Company CPA’s is here for all your financial needs. Please contact us if you have questions, and to receive your free personal finance consultation!

Herman and Company CPA’s proudly serves Armonk NY, Bedford Hills NY, Chappaqua NY, Katonah NY, Scarsdale NY, Bronxville NY, Tarrytown NY, Greenwich CT and beyond.

Photo Credit: StockMonkeys.com via Photopin cc

Any U.S. tax advice contained in the body of this website is not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.