The Tax Cuts and Jobs Act (TCJA) – Part 1

Lately I’ve received a lot of calls as well, as impromptu questions when I am moving around town, of people wanting to know what the heck is the ‘new tax law’ all about and how these changes will affect them.

So, I thought the best and most efficient way to get preliminary information out to everyone is through this blog with a “brief” (Lol) overview.

And, off to the races we go……

Soooo, there have been many claims on both sides of the political aisle about the Tax Cuts and Jobs Act which is also referred to as the TCJA (and as a side note the TCJA is over 500 pages). Will your taxes go down? By how much? For middle class taxpayers it will ultimately depend on your particular situation. There’s no doubt that some taxpayers in states with high income and/or real estate taxes could see their taxes go up. And it can also depend on what other deductions you’re losing. But higher-income taxpayers won’t feel the pinch as much. That’s because their deductions under the old law may be phased out or lost because of the Alternative Minimum Tax (AMT). Most taxpayers will see a decline in their taxes, a few will see an increase. The higher your income the bigger the benefit, both in absolute and percentage amounts. The increase in the exemption for the Alternative Minimum Tax will mean far fewer taxpayers will be caught in the trap. In fact the estimate is that only about 200,000 taxpayers will pay the tax, down from 4.4 million. For many taxpayers that can be a big saving.

Home ownership will not be as attractive as it was, particularly in high tax states. And that could depress home prices. On the other hand, new benefits for landlords will make owning a rental more profitable. That could be enhanced because more people may be renting.

Business owners should fare well under the new rules. While owners of business in certain services (medicine, accounting, legal, etc.) may not do as well as others, everyone will get a benefit. For C corporations (otherwise known as a regular corporation) tax rates will be materially lower; for owners of S corporations and other pass-through entities, the benefits are less clear, but should be significant. But there are some changes that could reduce the benefits. For example, an employee who is asked to move to another location may want more of an incentive since his moving expenses are no longer deductible.

One issue that I haven’t heard mentioned more than once is the effect on state income taxes. Most states tie their computation of taxable income to the federal rules. Some do it automatically (when the fed makes a change, the state automatically does), some have to pass a legislation to follow the change. Most states have modifications to federal taxable (or adjusted gross) income. For example, New York State excludes state and federal pensions and allows an exclusion for up to $20,000 in other pension income. It also exempts all of Social Security income. But it doesn’t follow some of the federal depreciation rules.

Some deductions were eliminated in total. For example, moving expenses are no longer deductible (with an exception for the armed forces). But unless a provision of existing law was mentioned, it’s still in effect. The 0.9% medicare tax on wages of higher income individuals as well as the 3.8% tax on net investment income. The special benefits for capital gains and dividends were largely untouched.

Most amounts in the new law are adjusted for inflation using the chained CPI approach (for your reference, a quick read primer about the chained CPI is here), a method that results in smaller annual increases in tax brackets, thresholds, etc.

Finally, keep in mind that most of the provisions take effect January 1, 2018. (Technically, they apply to tax years beginning after December 31, 2017; I’ll point out any that don’t). Most of the provisions that apply to individuals expire on December 31, 2025.

Beginning with this article you and I will take a look at all the important changes in the law and how it will affect taxpayers.

 

Individual Tax Rates

 

Tax Rates Based on Filing Status

 

There’s no question that income tax rates are lower across the board (with the exception of estates and trusts). But how much varies with your situation. Of course, you could still pay higher taxes if your taxable income is higher because you can’t deduct some of your state and local taxes, can’t claim a credit, etc. That’s why it’s important to work through your numbers. Unless you take the standard deduction and never have any unusual circumstances, trying to make them arrive at generic examples is very difficult =>(Solid Tax Solutions can work the numbers for you).

Tax Rates: Single Taxpayers–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $  9,525        $    0.00   10       $      0
   9,525       38,700           952.50   12          9,525
  38,700       82,500         4,453.50   22         38,700
  82,500      157,500        14,089.50   24         82,500
 157,500      200,000        32,089.50   32        157,500
 200,000      500,000        45,689.50   35        200,000
 500,000      .......       150,689.50   37        500,000
 

Tax Rates: Married Individuals Filing Joint and Surviving Spouses–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $ 19,050        $     0.00  10       $      0
  19,050       77,400          1,905.00  12         19,050
  77,400      165,000          8,907.00  22         77,400
 165,000      315,000         28,179.00  24        165,000
 315,000      400,000         64,179.00  32        315,000
 400,000      600,000         91,379.00  35        400,000
 600,000      .......        161,379.00  37        600,000 
 
Tax Rates–Head of Household–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $ 13,600        $     0.00  10       $      0
  13,600       51,800          1,360.00  12         13,600
  51,800       82,500          5,944.00  22         51,800
  82,500      157,500         12,698.00  24         82,500
 157,500      200,000         30,698.00  32        200,000
 200,000      500,000         44,298.00  35        200,000
 500,000      .......        149,298.00  37        500,000 
 
Tax Rates: Married Filing Separate–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $  9,525        $     0.00  10       $      0
   9,525       38,700            952.50  12          9,525
  38,700       82,500          4,453.50  22         38,700
  82,500      157,500         14,089.50  24         82,500
 157,500      200,000         32,089.50  32        157.500
 200,000      300,000         45,689.50  35        200,000
 300,000      .......         80,689.50  37        300,000 
 
Tax Rates: Estates and Trusts–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $  2,550        $     0.00  10       $      0
   2,550        9,150            255.00  24          2,550
   9,150       12,500          1,839.00  35          9,150
  12,500      .......          3,011.50  37         12,500 
 

So what are the savings? I computed the tax using several levels of taxable income. I didn’t take into account different situations such as the loss of tax deductions or the higher standard deductions or the Alternative Minimum Tax. I used 2017 rates for the “old” rates because many taxpayers want to compare last year to the new rates. If the law hadn’t been enacted, 2018 rates would be slightly lower after accounting for the annual cost-of-living adjustment.

Here’s how a married couple would fare under four different taxable income assumptions.

Taxable Income of $40,000– Jack and Jill have taxable income of $40,000. Under the new law they’ll pay tax of $4,419 versus $5,068 under the old law. That’s a savings of $649.

Taxable Income of $100,000– Assume taxable income of $100,000. They’ll pay $13,879 under the new law versus $16,478 under the old. A savings of $2,599.

Taxable Income of $375,000– With taxable income of $375,000 they’ll pay $83,379 versus $98,967 for a $15,588 savings.

Taxable Income of $600,000– Taxable income of $600,000 will result in $161,379 under the new law, down from $182,831 under the old law. A savings of $21,452.

I also computed the saving at taxable income of $75,000. That was $1,699, in between the $40,000 and $100,000 savings amounts.

For single individuals, I computed the differences at taxable income of $100,000 and $500,000. At $100,000 there’s a savings of $2,692; at $500,000 the savings rise to $3,129.

There’s no question that the tax rates are lower, and higher-income taxpayers will see the biggest savings, both in absolute and percentage amounts. But all taxpayers should benefit. The question is how will this be offset by the loss of deductions? That depends on your particular situation. Both the rates and brackets generally combine to lower taxes. For example, in 2017 the 25% rate for a married couple filing joint started at $75,901; under the new law, the rate is 22% and the bracket starts at $77,401. But there are some anomalies, such as the 35% bracket for married, filing joint starts at $416,701 under the old law and $400,001 under the new.

Capital Gain Rates and Related Taxes

The tax rate on long-term capital gains follows the old rules updated for the new rates. For example, under the old rules, you’d pay no tax on qualified dividends or long-term capital gains if you’re in the 10% or 15% bracket. There is no 15% bracket under the new law. The 12% bracket is substituted. Thus, if you’re in the 10% or 12% bracket, you pay no tax on qualified dividends or long-term capital gains. Above that, qualified dividends and long-term capital gains are taxed at 15% until you reach the top bracket. If you’re in the top bracket, they’re taxed at 20%.

The maximum tax rate on unrecaptured Section 1250 gains remains at 25%; the maximum tax on collectibles is 28%, as under prior law.

The Net Investment Income Tax (NIIT) of 3.8% remains in effect. This tax generally applies to dividends, capital gains, and passive income. The additional medicare tax of 0.9% continues to apply to Medicare wages in excess of the threshold amounts.

 

Alternative Minimum Tax

Congress did not eliminate the alternative minimum tax for individuals, but by making two strategic changes it slashed its impact.

The first change is the exemptions. Under prior law the exemption was $84,500 for a married couple filing joint. That’s increased to $109,400. For single individuals or head of household, the exemption increases from $54,300 to $70,300; for married filing separate it goes from $42,500 to $54,700. Under both prior and new law the exemption is phased out 25 cents for each $1 that the Alternative Minimum Taxable Income (AMTI) exceeds the thresholds. That was a big trap for many taxpayers. Under prior law the phaseouts began AMTI of $160,900 (married, joint), $120,700 (single, head of household), and $90,450 for a married couple filing separately. Under the new law, phaseout of the exemption begins at $1 million for a married couple filing joint and $500,000 for all other filers. That, coupled with the fact that only the first $10,000 of state and local taxes are deductible for regular tax purposes (state and local taxes are not deductible for AMT purposes) significantly reduces a major add-back.

The rates for the AMT are unchanged from prior law (after adjustment for inflation). The 26% rate applies to AMTI up to $191,500 ($95,750 if married, filing separate) for 2018; the 28% rate applies to income above those amounts.

For many taxpayers who either paid or had to consider the AMT in the past, they should discuss the tax with their advisor. There’s a good chance a few rules of thumb may provide them with relief from having to consider the tax.

 

Standard Deduction, Personal Exemption and Child Tax Credit

This is where things start to get more complicated. Under prior law, the standard deduction for a single taxpayer was $6,500 and $13,000 for a married couple filing jointly. Each individual was entitled to a personal exemption of $4,150. These were the amounts released by the IRS in November that would have taken effect for 2018. Thus, a single taxpayer, taking the standard deduction would have been entitled to deduct $10,650 from their adjusted gross income to arrive at taxable income. A married couple with no children could deduct $21,300 ($13,000 standard deduction plus two $4,150 exemptions). They could deduct another $4,150 for each dependent child. In addition, a single individual or married couple with children could take a tax credit of $1,000 for each child under the age of 17. The personal exemption and child credit were phased out for higher-income individuals.

Under the new law the standard deduction is increased to $12,000 for a single individual; $24,000 for a married couple filing jointly and $18,000 for head of households. The amounts are adjusted annually for inflation. That seems generous, but the new law also eliminates the personal exemption. That would be $4,150 per person. Thus, the standard deduction isn’t going from $13,000 to $24,000 for a married couple with no children, in effect it’s going from $21,300 to $24,000. For a single individual the deduction is going from $10,650 to $12,000. It’s an increase, but a more modest one than appears on the surface.

A bigger issue is the exemptions for dependent children. These are also eliminated. In their place is a higher child tax credit.

Under prior law taxpayers could claim a tax credit of $1,000 for each child under the age of 17 at the end of the year. The credit is phased out ($50 for every $1000) for taxpayers with Modified Adjusted Gross Income (MAGI) above $110,000 (married, joint) $75,000 (single). Part of the credit may be refundable. There are other restrictions.

Under the new law the credit is increased to $2,000 per qualifying child. Phaseout begins at $400,000 (married, joint); $200,000 for any other filing status. The phaseout is the same as under the old law. In addition, a $500 credit can be claimed for each dependent who doesn’t qualify for the child credit. The maximum refundable portion is $1,400 per qualifying child. The refundable portion is equal to 15% of a taxpayer’s earned income in excess of $2,500 to the amount the tax credit exceeds the taxpayer’s tax liability. In addition, there are new requirements for a proper taxpayer identification number. A social security number will be valid only for a person who is a U.S citizen or is authorized to work in the U.S. Without this, the refundable credit is limited to $500.

So, are you better or worse off under the new law? Here it depends on your tax rate. A credit is a direct reduction in taxes. The tax savings doesn’t depend on your tax rate. With a deduction, the value depends on your tax rate. For example, Bob and Susan can get a $1,000 tax credit or a $4,150 deduction (the amount of the personal exemption for a child). They’re in the 10% bracket. The tax credit will save them $1,000 in taxes, but a $4,150 deduction will only reduce their taxes by $415 (10% of $4,150). Jack and Jill can also choose between a $1,000 credit or a $4,150 deduction, but they’re in the 35% bracket. The $4,150 deduction will reduce their taxes by $1,452.50. They’re better off with a deduction.

Under the old law a qualifying child would give you a $1,000 credit and a $4,150 deduction. Continuing the example above, under the new law Bob and Susan now have $2,000, much better than the $1,000 credit and a personal exemption which would save $415 in taxes. Jack and Jill get a $1,000 credit (which they would not have gotten under prior law because of the phaseout of the credit). But they also get another $1,000 credit instead of a $4,150 deduction which would have been worth $1,452.

There’s another important difference here. Under prior law a qualifying child for the dependency exemption had to be either under age 19 or, if a full-time student, under age 24 at the end of the calendar year. For the $2,000 credit the child must be under the age of 17. For a dependent older than that you’re only entitled to a $500 credit. Offsetting this is the phaseout of the child credit under the new law which occurs at a much higher income level.

Stay tuned ladies and gentlemen for more TCJA fun to follow, very soon, in the next post (Part 2).

_______________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The IRS Gives Guidance on the Prepayment of State and Local Property Taxes!

To prepay or not to prepay state and local taxes? That’s been the burning question over the past week. With tax reform now law, taxpayers are anxious to take advantage of certain tax planning strategies. But will they work? The Internal Revenue Service (IRS) now has an answer as to whether it might accept prepayment as a tax strategy – and not surprisingly, it’s maybe.

An IRS Building.

Here’s what you need to know about the prepayment of state and local taxes. Typically, those taxes are deducted on a Schedule A. Beginning in 2018, deductions for state and local sales, income, and property taxes remain deductible but are limited: The amount that you can deduct for all state and local sales, income, and property taxes may not exceed $10,000 ($5,000 for married taxpayers filing separately).

One of the ways to “beat” the cap in 2018 is to prepay your taxes in 2017. With that in mind, under the new law, Congress specifically prohibited pre-payments for income tax to be used as state and local tax deductions for the current year. Amounts paid in 2017 for 2018 state or local income taxes will be treated as paid in 2018.

But Congress did not impose a similar restriction on property taxes. Many tax professionals, including yours truly, have suggested that prepaying real estate taxes should be allowed in some circumstances. The IRS, in response to “a number of questions from the tax community concerning the deductibility of prepaid real property taxes” agrees and has finally issued some official guidance.

As part of IR-2017-210: IRS Advisory: Prepaid Real Property Taxes May Be Deductible in 2017 if Assessed and Paid in 2017, the IRS declared that whether the deduction is allowed “depends on whether the taxpayer makes the payment in 2017 and the real property taxes are assessed prior to 2018.” That’s consistent with their prior treatment of prepayments. By way of additional clarification, a prepayment of “anticipated real property taxes that have not been assessed prior to 2018” would not be deductible in 2017. That is also consistent with their prior treatment of prepayments.

So, you might ask, who decides whether those taxes will be assessed prior to 2018? The respective state or local authorities.

On December 22, 2017, New York State Governor Andrew Cuomo signed an Executive Order authorizing local governments “to immediately issue warrants to levy property taxes by the end of the year.” Assuming those bills go out as intended, they should be deductible in 2017 if paid in 2017.

Also, the City of Philadelphia typically issues assessments for the new year in December of the prior year. So, 2018 bills should be in mailboxes now. Under the IRS guidance, those should also be deductible in 2017 if paid in 2017.

The IRS offers the following as an example of a deductible prepayment:

Assume County A assesses property tax on July 1, 2017, for the period July 1, 2017 – June 30, 2018.  On July 31, 2017, County A sends notices to residents notifying them of the assessment and billing the property tax in two installments with the first installment due Sept. 30, 2017 and the second installment due Jan. 31, 2018. Assuming taxpayer has paid the first installment in 2017, the taxpayer may choose to pay the second installment on Dec. 31, 2017, and may claim a deduction for this prepayment on the taxpayer’s 2017 return.

However, there are limitations. The IRS also offered the following as an example of a nondeductible prepayment:

County B also assesses and bills its residents for property taxes on July 1, 2017, for the period July 1, 2017 – June 30, 2018.  County B intends to make the usual assessment in July 2018 for the period July 1, 2018 – June 30, 2019. However, because county residents wish to prepay their 2018-2019 property taxes in 2017, County B has revised its computer systems to accept prepayment of property taxes for the 2018-2019 property tax year. Taxpayers who prepay their 2018-2019 property taxes in 2017 will not be allowed to deduct the prepayment on their federal tax returns because the county will not assess the property tax for the 2018-2019 tax year until July 1, 2018.

So, can you see the difference? A prepayment on its own isn’t enough: Taxes must be assessed in order to claim the deduction for the prepayment.

Even if you can deduct the prepayment, you may want to ask your tax professional whether it makes good tax sense to do so. But keep in mind that there may not be a clear advantage to prepayment – and if you prepay in 2017 for 2018, you can’t claim the deduction in 2018 unless you pre-pay the next year.

And don’t forget about the dreaded Alternative Minimum Tax, or AMT. The AMT was NOT repealed under tax reform for 2018 . And, more importantly, it remains “as is” for 2017.

The AMT is a secondary tax put in place in the 1960s to prevent the wealthy from artificially reducing their tax bill through the use of tax preference items. If you’re subject to the AMT, you have to calculate your taxes a second time, adding back in some of those tax-preference items. For example, normally, if you live in a high-tax state like New York, you can deduct your state and local taxes on your Schedule A if you itemize. For AMT purposes, however, you could lose the deduction. For more on the AMT, check out this prior blog post here.

In addition to the IRS guidance above, you should also make sure any required estimated state income tax payments have been made for your 2017 tax return. In most states the last estimated payment for 2017 is due January 15, 2018, but can be paid earlier. Technically, any amount overpaid is not deductible, in 2017. Therefore, if you estimate you’ll owe (in addition to withholdings) $3,000 for your state income taxes for 2017, pay them now and they’ll be deductible in 2017. However, if you pay $15,000 under the same circumstances because you know you’ll have to pay $12,000 in 2018, the additional $12,000 would not be deductible.

Remember: No two taxpayers are alike. Give Solid Tax Solutions (SolidTaxSolutions.com) a call at (845) 344-1040 if you have questions about whether prepaying your property tax or other year-end tax strategies can work for you.

____________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

Donating Your Car to Charity – What You Need to Know!

A customer of mine, whose car recently “died”, told me he wanted to donate that car to charity for a tax deduction. I know that a number of people have expressed an interest in doing the same thing with their cars but think it is as simple as dropping their car off at their favorite charity and then just taking the tax deduction.

Well it not quite that simple.

So, for my customer, all of those who have expressed an interest in donating their vehicle, and all of my valued readers, I thought I would review the rules for donating a car.

Taking a tax deduction for donating your car is not as easy as commercials make it out to be.
Taking a tax deduction for donating your car is not as easy as commercials make it out to be.

I have seen a lot of ads that entice you to donate your car to a charity and get a tax deduction – but you should be aware . . .

First, you will get no tax benefit from donating your personal automobile to charity unless you can itemize on Schedule A! This means the total of your “itemizeable” deductions exceeds your applicable Standard Deduction amount. While the donation itself can put you over the top and cause you to be able to itemize, to get the maximum tax benefit you must be able to itemize without the car donation.

A few years ago a customer expressed excitement when telling me that he donated his car to charity, and that he expected to get a big tax deduction. Unfortunately, his tax benefit from the deduction was zero, nothing, zilch. He was not able to itemize, and had not in the past, and even with the addition of the value of the car he was still not able to itemize.

FYI – you may want to itemize if your total deductions do not exceed your applicable Standard Deduction amount if you fall victim to the dreaded Alternative Minimum Tax (AMT). The Standard Deduction is not allowed in calculating AMT, but an itemized deduction for charitable contributions is.

Second, the amount you receive “in your pocket” will be only a small percentage of the car’s value. The amount of cash you will realize depends on your federal and, if your state allows a similar tax deduction (New York does not), state tax bracket.

And third, you have to wait to file your tax return to get the money. If you donate a car to charity today you will not see the cash until at least next tax season.

When you donate a vehicle (car, motorcycle, boat, or airplane) to a church or charity the amount you can deduct depends on what the organization does with the donated vehicle.

(1) If the organization sells the vehicle without significant interim use or material improvement your tax deduction is limited to the gross proceeds from the sale.

(2) If the organization intends to temporarily or permanently use the vehicle in its operations, or make “material” improvements to the vehicle before selling it, or sell the car to a “needy” individual at a price that is significantly below market value, or give the car to such an individual, you can deduct the “fair market value” of the vehicle.

You can use the “private party value” for the vehicle, adjusted for mileage and condition, as listed in the Kelly Blue Book (www.kbb.com) or a similar established used vehicle pricing guide.  If the fair market value of the vehicle is more than $5,000.00 you must obtain a formal appraisal.

To claim a deduction of more than $500.00 for donating a motor vehicle to charity you must include Copy B of the IRS Form 1098-C, provided by the charity, with the filing of your Form 1040.

The Form 1098-C will include the name and Taxpayer Identification Number of the donee organization, the vehicle identification number, the date of contribution, and information on what the charity did with the vehicle. Form 1098-C must be issued within 30 days of either the date of the contribution or the date of the disposition of the vehicle by the donee organization. The charity can give you a statement in lieu of Form 1098-C as long as it contains all the necessary information discussed above.

So, these are the basics of donating a vehicle to a charitable organization and taking a tax deduction for that donation. If you are considering donating your vehicle, don’t miss out on a very valuable tax deduction. Call Solid Tax Solutions (SolidTaxSolutions.com) before you make the donation: (845) 344-1040.

Your wallet will thank you!

__________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The Alternative Minimum Tax and You! – Part 2

In my last post (The Alternative Minimum Tax and You! – Part 1), I addressed the Alternative Minimum Tax (AMT) as it applies to individuals. A little known fact is that businesses, like individuals, can be subject to the AMT. Although the purpose is the same (i.e., assure that taxpayers with certain types of income and deduction structures pay at least a minimum amount of tax) the way in arriving at the AMT is slightly different. This post will address the AMT as it applies to tax-paying corporations (C Corporations). It does not apply to pass-through entities such as S Corporations or Partnerships, because the AMT is calculated at the individual level.

Not All Businesses Are Alike:

Unlike individuals, some corporations are exempt from the AMT. A corporation that qualifies as a “small corporation” is exempt from the AMT.
To be classified as a small corporation, the entity must:

  • Be in its first year of existence, (i.e., the current tax year is the year the entity began operations), or
  • The company was treated as a small corporation for all prior tax years beginning after 1997, and
  • The company’s gross receipts did not exceed an average of $7.5 million for the preceding 3 tax years
    ($5 million if the entity has been in existence for 3 years or less)

After determining that the corporation is subject to the AMT, the taxpayer will complete Form 4626 with the Form 1120. Form 4626 is organized similar to Form 6251 for individuals. It begins with the corporation’s taxable income, and then adds back (i.e., takes away) various  adjustments and preferences, such as:

  • Differences in depreciation
  • Differences in gains and losses
  • Depletion
  • Intangible drilling costs
  • Adjusted Current Earnings adjustments (ACE)

After the corporation accounts for these adjustments and preferences, it will arrive at it’s Alternative Minimum Taxable Income (AMTI).
Corporations are afforded an exemption if their income falls in a certain range, typically $40,000. The AMTI is then multiplied by 20% to arrive at the AMT.

Just like individuals, if the AMT exceeds the corporation’s regular tax, then they must pay the higher amount.

Because corporation’s do not receive the same preferential treatment of gains being taxed at a lower rate like individuals, the biggest factor in a corporation’s AMT calculation is depreciation. A corporation needs to be mindful when capitalizing depreciable property that a large difference between the tax and AMT depreciation methods could subject the corporation to a higher tax rate. Some assets, when capitalized using the 200% double-declining method of depreciation can only be depreciated using the 150% MACRS method for AMT purposes. This will cause the AMT depreciation expense to be lower than the tax depreciation, resulting in an addition to taxable income in arriving at AMTI.

___________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com (or just click on the icon on right sidebar of this page).

Other Social Media Outlets: Facebook.com/SolidTaxSolutions (or just click on the icon on right sidebar of this page).

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The Alternative Minimum Tax and You! – Part 1

The Alternative Minimum Tax (AMT) for individuals, enacted by Congress in 1969, is becoming less of an alternative for some taxpayers. The AMT was originally targeted at approximately 150 taxpayers that had high Adjusted Gross Income (AGI), but paid zero tax due to the types of income and structuring of deductions. In effect, under the current structure the AMT almost guarantees that once taxpayers reach a certain level of income, their effective tax rate will be at least 26% or higher.

The IRS Shaking AMT Money From a Taxpayer

The AMT is calculated by both businesses and individuals, but under different circumstances. In this post I will discuss the AMT as it applies to individuals (In the next post I will talk about how the AMT applies to businesses).

Individuals Subject to AMT

Individuals calculate their share of the AMT on Form 6251. That taxpayer begins with their AGI after itemized deductions, and then adds back the following:

  • Medical expenses
  • State and local income, real estate, and property taxes
  • Miscellaneous deductions

The taxpayer must also add back or reduce by the difference between their income tax and AMT amounts for the following:

  • Investment interest expense
  • Depletion
  • Basis in exercised incentive stock options
  • Depreciation expense

Taxpayers may also have to report AMT adjustments passed through on K-1’s from their other activities (partnerships, trusts, or S-corporations).

Once all of these adjustments have been considered, the taxpayer arrives at their Alternative Minimum Taxable Income (AMTI). Taxpayers are allowed an exemption amount, which has been indexed for inflation thanks to acts by Congress at the end of 2012. The exemption amounts for 2015 are $53,600 for Single filers ($53,900 in 2016), $83,400 ($83,800 in 2016) those taxpayers who are Married and File Jointly and $41,700 ($41,900 in 2016) for Married taxpayers who file separately ($23,800 for Estate and Trusts in case you were wondering [$23,900 in 2016]). The exemption amount is subtracted from AMTI, and the resulting amount is multiplied by either 26% or 28% depending on whether the amount is above or below $185,400 ($186,300 in 2016) for Married Filing Jointly or $92,700 ($93,150 in 2016) if Married and filing separately.
If income is above that amount, it is multiplied by 28%, and 26% if not.

Once the AMT is calculated, it is compared to the regular tax calculated on the taxpayer’s Form 1040. This is where the AMT earns the name “Alternative”. Once the taxpayer compares their AMT to their regular tax, the higher amount becomes their income tax.

Why?

Why does the AMT work? Because it attacks two types of tax situations and makes them less beneficial.

First, the AMT trues up the tax rate for taxpayers that have high incomes from sources that are not taxed at regular tax rates, such as long-term capital gains, qualified dividends, and tax-exempt interest. If a taxpayer has $10 million in AGI, but it consists completely of long-term capital gains and qualified dividends, their “regular” tax rate is only 20% (in 2015) as opposed to 39.6% (in 2015). The AMT would require this taxpayer to pay a higher rate due to their high income.

Second, the AMT penalizes taxpayers with certain higher-than-normal deductions. As I mentioned above, one deduction added back for AMT purposes is state and local taxes from Schedule A. For a taxpayer living in an income tax state (a state that has their own income tax, such as New York, New Jersey, or North Carolina but not Florida), a deduction is allowed on their Federal return for state tax payments made during the calendar year. The difference
between paying the state 4th quarter estimated tax payment on December 31 instead of January 15 of the following year is that the payment will be allowed as a deduction Schedule A in the year of payment. However, making that payment before year-end will not matter if the taxpayer will be subject to AMT, because those amounts will be added back.

A Monopoly 'Go to Jail' Card

Can It Be Avoided?

Unfortunately, the AMT is a “Do Not Pass Go, Do Not Collect $200” situation. One simple way to forego the calculation is for the
taxpayer’s income after itemized deductions to stay below the AMT exemption amounts. Also, if the majority of the taxpayer’s income is taxed at regular rates, the AMT will not be a problem because the regular tax will most likely exceed the AMT. If a taxpayer, because of their types of income, will be subject to the AMT, they should try to avoid certain deductions (if possible) in order to minimize their AMTI. Simple planning maneuvers such as paying state taxes on January 15 of the following year and staggering the exercise of incentive stock options can minimize the amount of AMT adjustments in a given year. Taxpayers with depreciable property can elect depreciation methods that do not create large tax to AMT differences.

In all, if you are (or think you are) subject to the AMT, contact us at (845) 344-1040 or visit our web site => SolidTaxSolutions.com (open year-round) and we will help you with the impact the AMT could have on your situation, and what measures can be taken in order to minimize the AMT’s impact.

For those of you who have businesses or are planning to enter the world of entrepreneurship, stay tuned for the next post.

In – The Alternative Minimum Tax and You – Part 2 – I will address the AMT as it pertains to businesses.

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Bruce – Your Host at The Tax Nook

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