By Bruce J. Rogers, CPA, JD
If your clients are subject to the Alternative Minimum Tax (AMT), there is now a refundable AMT credit that may be available to minimize their tax hit. Individuals who have unused AMT credits that are more than three years old may be entitled to a reduction in their 2007 income tax, and possibly a greater refund.
Exposure to the AMT affects many taxpayers. It is a separately computed federal income tax that eliminates many deductions and credits otherwise available. Individuals are required to pay the higher of either their regular tax or their AMT. The AMT affects more people each year, and is expected to increase from 24 million in 2007 to more than 30 million in 2010.
Those most likely affected by the AMT include taxpayers with children; taxpayers with annual incomes between $100,000 and $500,000; and taxpayers who exercise incentive stock options, incur significant unreimbursed employee business expenses or investment fees, pay high amounts of state and local taxes, pay large amounts of home-equity loan interest, or recognize large capital gains.
AMT attributable to deferral adjustments generates an AMT credit. This credit can be used to reduce regular income tax in a later year; it cannot be used to reduce AMT liability in the year to which it is carried. In other words, if an individual is already paying AMT in a particular year, no AMT credit is allowed. Previously, the AMT credit was nonrefundable.
Congress provided for the refundable AMT credit, effective for tax years beginning after Dec. 20, 2006, in response to the burden resulting from unfavorable treatment of incentive stock options (ISO) under the AMT. Under the new rule, individuals who become subject to the AMT, or whose AMT liability increases, as a result of exercising ISOs, may be entitled to a refundable credit attributable to that AMT liability. The new rule, however, does not alleviate the immediate AMT burden resulting from the ISO exercise, as discussed below.
If a client has long-term unused AMT credit and an AMT credit for the current year, the AMT refundable credit amount can only be claimed if it is higher than the AMT credit otherwise allowed. Note, the long-term unused AMT credit is for that portion of the AMT credit for tax years before the third tax year preceding the tax year. Accordingly, the long-term unused AMT credit for 2007 takes into account unused AMT credits from 2003 and prior years, and the credits are treated as allowed on a first-in, first-out basis. The AMT refundable credit will no longer apply in determining the AMT credit for tax years starting in 2013.
According to the new provision, if this higher credit amount is more than the individual’s regular tax liability, a refund for the excess can be obtained. The amount of the refund is limited to the amount of the extra credit allowed under this rule.
For example, for 2007, Danielle has an AMT refundable credit amount equal to $20,000. Her otherwise allowable AMT credit for 2007 is $13,000. Therefore, for 2007, Danielle would use the AMT credit of $20,000, the higher AMT refundable credit amount. If Danielle’s regular income tax liability for 2007, before applying the credit, is $18,000, Danielle will only need to use $18,000 of her available $20,000 AMT credit to eliminate her 2007 regular income tax liability. She will have $2,000 of the credit remaining. The new rule allows Danielle to secure a $2,000 refund now, instead of having to wait a year.
The AMT refundable credit - before income-level reductions - is computed as follows:
-- For long-term unused AMT credit of less than $5,000, 100 percent of the credit is allowed.
-- For long-term unused AMT credit between $5,000 and $25,000, the maximum allowed is $5,000.
-- For long-term unused AMT credit greater than $25,000, 20 percent of the credit is allowed.
Here is an example of how to apply the long-term unused credit on higher amounts. In 2010, Michael has a $900,000 AMT credit, of which $800,000 is a long-term unused AMT credit. Because Michael’s long-term unused AMT credit is more than $25,000, he may only use 20 percent to compute his AMT refundable credit amount. Therefore, Michael’s AMT refundable credit amount for 2010 is $160,000 (20 percent of his $800,000). This means Michael’s AMT credit for 2010, before any limitation for high-income taxpayers, cannot be less than $160,000.
If adjusted gross income for a tax year exceeds an annually adjusted threshold amount, the AMT refundable credit amount must be reduced by an applicable percentage of that excess. For 2007, the AGI thresholds are: $156,400 for unmarried individuals; $195,500 for heads of household; $117,300 for married individuals filing separately; and $234,600 for married individuals filing jointly and surviving spouses.
Bruce J. Rogers, CPA, JD, is a manager in the tax accounting group of Duane Morris LLP in Philadelphia, and is a member of PICPA’s Personal Financial Planning Committee. He can be reached at brogers@duanemorris.com.
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