So you thought you'd get a nice little write-off from that new home you just bought? Not if the AMT has you in its grasp!
We live on Long Island and just bought our first house!
Aside from the feeling of having a "home of your own" (and each of our three children finally having their own rooms), it's great to no longer be pouring rent down the drain every month. We also thought a home would also give us a tax break.
But when we had our income taxes done in April, our accountant said we might end up paying even more in taxes because of the Alternative Minimum Tax. What's up?
Debbie and Brian
Dear Debbie and Brian —
I'm afraid your accountant is probably correct. Regular readers of this column know that I have been railing against the Alternative Minimum Tax (AMT) for years.
In a nutshell, it is a completely separate income tax system and requires those who are close to falling into its grasp to calculate their taxes both ways. If your income tax bill under the AMT comes out to be higher than under the regular system, you pay the higher amount.
Congress passed the AMT back in 1969 after it found out that 155 wealthy taxpayers had managed to pay no income tax at all through the use of tax shelters and other clever write-offs. The problem is, the AMT is not adjusted for inflation, so it ensnares more "middle-income" Americans each year. In her report to Congress earlier this year, National Taxpayer Advocate Pamela Olsen said that by 2005, "65 percent of married couples with an adjusted gross income between $75,000 and $100,000 with two or more children will be affected by the AMT."
By 2010, according to Olsen, it's estimated that 32 million Americans will be affected by the Alternative Minimum Tax. Most will have income under $100,000. In fact, (are you sitting down?) "more than 36 percent of taxpayers with incomes between $50,000 and $75,000 will owe AMT."
How's this for some sand in your face: Those nice income tax cuts we've gotten in recent years have actually thrown MORE people into AMT headache-land because, by lowering your regular tax bill, they makes it more likely that your AMT tax bill IS higher and, thus, that's the amount you have to pay! The net effect is that politicians get to pontificate about the great tax breaks they've given us, knowing that growing numbers of people have not actually enjoyed any benefit from them.
While Congress has occasionally tinkered with the AMT (most recently in last year's Jobs and Growth Tax Relief Reconciliation Act"), it is apparently reluctant to make any significant adjustments for the simple reason that the AMT is generating so much additional tax revenue. One study estimates that by 2008, it would cost less to repeal the regular income tax system, than to abolish the AMT. In early May the House of Representatives extended partial AMT relief through 2005, but so far the Senate has not yet followed suit.
The problem is that when you calculate your taxable income under the AMT system, you have to add back a number of the deductions you're allowed to take under the regular income tax system. These come under the heading of
"Adjustments and Preferences. " And here's where a lot of people are getting trapped.
Among the things you have to ADD BACK to your income under the AMT are:
— Personal exemptions (it was $3,050 per person in your family for 2003, and goes up to $3,100 for 2004)
— Property taxes
— State and local income taxes
— Incentive Stock Options (that you exercise).
Bill Cafero, a Senior Manager at the accounting firm Ernst & Young, says all it takes for someone to end up in AMT territory is to live in a state with a high income tax ( like New York, California, Massachusetts, etc.), pay significant property taxes and have a few kids.
To see where you stand for this year, take a look at this chart prepared by Martin Nissenbaum, National Director of Personal Income Tax Planning for Ernst and Young. It's a quick way to determine whether you are likely to be affected by the AMT. If your "Adjustments and Preferences" (those deductions you have to add back in) total MORE than the indicated number for your Regular Taxable Income level, it's likely you will have to deal with AMT for 2004. (Your "Regular Taxable Income" is your Adjusted Gross Income minus your itemized deductions and personal exemptions. It's the "bottom line" number one which your regular income tax is based.)
ADJUSTMENTS AND PREFERENCES THAT WILL CAUSE AMT TO APPLY IN 2004
(ANALYSIS ASSUMES ORDINARY INCOME, NO CAPITAL GAIN OR QUALIFYING DIVIDENDS) Source: Martin Nissenbaum, Ernst & Young
In your case, Debbie and Brian, you live in New York State and, as Long Island residents, pay very steep real estate taxes. In addition, you have 5 personal exemptions (the two of you, plus your three children). Let's assume your "regular taxable income" is $150,000. As you can see on the chart, all it takes is for your "adjustments and preferences" to exceed $24,734 and — WHAM! — you're in AMT territory.
First, let's just start with the 5 personal exemptions that you lose under the AMT. This alone adds up to $15,000 (5 x $3,100). To this, add your state and local income taxes and the property taxes on your home. If this comes out to more than $24,734 (and I bet it does), you are unfortunately new members of the not-so-exclusive AMT club.
Here's a small consolation: you're still allowed to deduct your mortgage interest under the AMT .
Lest there be any confusion: I HATE this stupid tax! It's sneaky and misleading and no longer serves its original purpose. The Taxpayer Advocate has recommended (for the second time) that it be repealed. (Who am I to argue?)
I strongly urge you to contact your representatives in Congress and let them know what you think of the Alternative Minimum Tax.
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