As taxpayers, we are accustomed to navigating the complex web of tax laws and regulations. One aspect that often takes individuals and businesses by surprise is the Alternative Minimum Tax (AMT). The AMT was originally designed to ensure that high-income individuals paid their fair share of taxes. However, it has evolved over the years, ensnaring an increasing number of middle-class taxpayers. In this article, we’ll delve into the intricacies of the AMT, its history, and how it impacts your financial picture.
What Is the Alternative Minimum Tax?
The Alternative Minimum Tax (AMT) is a parallel federal income tax system that ensures high‑income taxpayers pay a minimum amount of tax. You calculate your liability under both the regular tax rules and AMT rules, then pay the higher amount. Under AMT, certain deductions and credits are disallowed or limited, increasing taxable income.
WHO PAYS AMT?
High earners (typically $500K+ single, $1M+ married) who have specific tax preference items like ISO exercises, large SALT deductions, depreciation adjustments, or private activity bond interest—basically people who reduce their regular tax bill significantly through deductions and exclusions that AMT doesn’t allow.
How AMT Works
Calculate your regular tax on Form 1040.
Compute Alternative Minimum Taxable Income (AMTI) on Form 6251 by adding back preference items (e.g., SALT, miscellaneous itemized deductions, ISO spread).
Subtract the AMT exemption to get taxable AMT base.
Apply AMT rates: 26% up to the statutory breakpoint and 28% above it.
Subtract allowable AMT foreign tax credit (Form 1116).
Pay the higher of regular tax or tentative minimum tax.
Key Features of the AMT
Separate Calculation: Taxpayers must compute their tax liability under both the regular tax system and the AMT system.
Disallowed Deductions: Certain deductions, such as state and local tax deductions, are not permitted under the AMT.
Exemption Amounts: The AMT provides exemption amounts that reduce the amount of income subject to the tax.
Flat Tax Rates: The AMT applies flat tax rates of 26% and 28%, depending on the level of income.
Historical Context of the AMT
Enacted in 1969, the AMT was designed to prevent high‑income taxpayers from using exclusions, deductions, and credits to pay little or no federal income tax. It acts as a floor to ensure a basic level of tax is paid. Over time, because the AMT was not initially indexed for inflation, more middle-income taxpayers became subject to it. The Tax Cuts and Jobs Act (TCJA) of 2017 dramatically raised exemptions and phaseout thresholds, reducing taxpayers affected from about 5 million to under 200,000. With the passing of the One Big Beautiful Bill Act (OBBBA) the TCJA’s higher exemptions were made permanent, but changes were made to the 2026 phaseouts.
2025 and 2026 AMT Exemption Amounts and Thresholds
The Alternative Minimum Tax (AMT) exemption amounts are designed to shield a portion of a taxpayer’s income from the AMT. These amounts are adjusted annually for inflation to help prevent bracket creep and ensure the tax continues to target high-income earners. For example, the 2024 exemption was $85,700 for single filers and $133,600 for married couples filing jointly. However, as income rises above certain thresholds, the value of the exemption begins to phase out, reducing its protective benefit.
You might owe AMT in 2025 if your income is above the thresholds shown below, but going over the threshold doesn’t automatically mean you’ll be hit with the AMT.
The exemption is reduced by $0.25 for every $1 of AMTI above the threshold, increasing effective AMT rates within the phase‑out range until the exemption is fully eliminated.
2026 Changes to AMT
In 2026, the exemption amounts above will remain the same. However, phaseout thresholds will drop significantly.
Single Filers: Resets to $500,000 (indexed for inflation)
Married Filing Jointly: Resets to $1,000,000 (indexed for inflation)
In addition, the phaseout rate doubles from 25% to 50%. In other words, the exemption disappears twice as fast. This means more taxpayers may owe AMT starting in 2026 because the exemption phases out faster once income exceeds the threshold.
Additional Notes on Calculation
The AMT exemption does not eliminate tax liability, but rather reduces the amount of income subject to AMT. The phase-out mechanism is designed to target those with substantial economic income who might otherwise avoid taxation under the regular tax system.
If a taxpayer’s AMTI is high enough that the exemption is fully phased out, their entire AMTI becomes subject to the flat AMT rates of 26% or 28%, depending on the income level. Understanding where your income falls relative to these thresholds is critical in AMT planning, especially for individuals who claim significant deductions or exercise incentive stock options—both of which can trigger AMT liability.
How to Calculate Alternative Minimum Tax (AMT)
Calculating the Alternative Minimum Tax (AMT) involves a series of steps, and it’s typically more complex than calculating regular income tax. Here’s a simplified overview of the process.
Step 1: Calculate Regular Taxable Income
Begin by calculating your regular taxable income using the standard IRS rules. Include income from all sources, such as wages, business income, interest, dividends, and capital gains.
Step 2: Add Back Disallowed Items
State and local tax (SALT) deductions (or standard deduction if you used it)
ISO exercise spread (FMV – strike price)
Certain depreciation differences
Private activity bond interest
Miscellaneous itemized deductions
Step 3: Calculate Alternative Minimum Taxable Income
Your AMTI is the sum of Step 1 and Step 2. You can also use IRS Form 6251, Alternative Minimum Tax for Individuals, to calculate your AMTI.
Step 4: Subtract AMT Exemption
Be sure to reduce it by 25 cents (50 cents in 2026) for every dollar your AMTI exceeds the phaseout threshold. The result is your net AMTI.
Step 5: Apply AMT Tax Rates to Net AMTI
Form 6251 will help you determine your AMT rate: 26% or 28%. The result is your Tentative Minimum Tax.
Step 6: Subtract the AMT Foreign Tax Credit (If Applicable)
Use Form 1116, Alternative Minimum Tax Foreign Tax Credit to help calculate the amount of the Foreign Tax Credit for AMT you qualify for. Then subtract this credit from your Tentative Minimum Tax.
Step 7: Calculate Regular Tax Liability
Calculate your regular income tax.
Step 8: Pay the Higher Amount
If your Tentative Minimum Tax calculated in Step 5 exceeds your regular tax liability, you must pay the higher amount. If your AMT is greater than your regular tax, you owe the difference as AMT.
Common Triggers for the AMT
While the AMT is primarily intended to ensure that high-income individuals pay a baseline level of tax, it can affect a broader range of taxpayers based on specific financial decisions or tax scenarios. Below are some of the most common triggers that can cause a taxpayer to become subject to the Alternative Minimum Tax:
High State and Local Tax (SALT) Deductions
Under the regular tax system, taxpayers can deduct state and local income or sales taxes, as well as property taxes. However, these deductions are disallowed under the AMT. This can be particularly problematic for taxpayers in high-tax states such as California, New York, or New Jersey. Individuals who pay significant amounts in SALT may find their AMT income substantially higher than their regular taxable income.
Exercise of Incentive Stock Options (ISOs)
When employees exercise ISOs, the spread between the exercise price and the fair market value of the stock is treated as an adjustment for AMT purposes—even if the stock isn’t sold in the same year. This can create a large phantom income liability under the AMT, often catching employees by surprise, especially in years of major equity activity.
Large Miscellaneous Itemized Deductions
Miscellaneous deductions—such as unreimbursed employee expenses, tax preparation fees, or investment advisory fees—are not allowed under the AMT. Taxpayers who claim large amounts of these deductions under the regular tax system may find themselves with a much higher AMT income, increasing the likelihood of owing additional AMT.
Depreciation Adjustments for Businesses
Taxpayers who own businesses or rental properties and take accelerated depreciation deductions may be affected by AMT rules, which often require slower, straight-line depreciation for AMT purposes. This results in higher AMT income during the early years of asset depreciation, increasing AMT exposure for business owners and real estate investors.
Strategies to Minimize AMT Liability
Although the Alternative Minimum Tax (AMT) is designed to ensure that high-income individuals pay a minimum level of tax, there are several planning strategies that can help reduce exposure to the AMT or lessen its financial impact.
Timing of Income and Deductions
If you anticipate being subject to the AMT in the current year but not in future years—or vice versa—you may benefit from shifting income or deductions to the year with the more favorable tax treatment. This could include adjusting year-end bonuses, capital gains realizations, or self-employment income. Under the AMT, deductions for state and local taxes, unreimbursed business expenses, and miscellaneous itemized deductions are disallowed. Taxpayers may benefit from deferring payment of these expenses to years when they will not be subject to the AMT.
Investment Choices
Invest in AMT-exempt municipal bonds, which generate tax-free income that is not included in Alternative Minimum Taxable Income (AMTI). Be aware, however, that some municipal bonds are classified as “private activity bonds,” and the interest they generate may be taxable under the AMT. In addition, accelerated depreciation on rental property can trigger AMT liability. Electing straight-line depreciation instead may mitigate this risk.
Careful Planning with Incentive Stock Options (ISOs)
The exercise of ISOs is a common AMT trigger because the “spread” between the grant price and market price counts as AMTI. The tax impact also depends on whether you meet the ISO holding period rules. Planning ahead—such as spreading exercises over multiple years or using a disqualifying disposition by selling in the same year you exercise—can help manage AMT exposure. AMT can also influence broader investment decisions, including the timing of capital gains or whether to hold private-activity municipal bonds, which may raise AMT liability even if they lower regular tax. Understanding how your overall investment strategy interacts with AMT rules is key to staying tax-efficient.
Use of AMT Credit
Claiming the AMT Credit: If you paid AMT in a prior year due to timing differences (e.g., ISO exercises), you may be eligible to claim a minimum tax credit in subsequent years. This nonrefundable credit can offset regular tax liability and recover prior AMT paid over time.
Professional Tax Planning Is Key
Because the AMT calculation is complex and depends on individual financial circumstances, working with a CPA or tax advisor is highly recommended. Sophisticated tax software and professional guidance can help forecast AMT liability, model tax scenarios, and implement appropriate strategies to reduce exposure.
Frequently Asked Questions
The AMT is a complex topic and as expected, there are often many questions surrounding the topic. Here are some of the most common ones.
Do capital gains influence AMT exposure even though they’re taxed the same under both systems?
Yes, capital gains increase your AMT risk even though they’re taxed at the same rate under both systems, because they count toward your total income. Basically, they can push you over the threshold where your AMT exemption starts disappearing. So, if you’re in the phaseout range, your 15% capital gains rate can effectively become 21.5-22% due to losing exemption dollars.
How long can you carry forward an unused AMT credit, and what form is required?
For individuals, any unused minimum tax credit can be carried forward indefinitely until fully used. You claim and track this credit each year by filing Form 8801.
How does the new 15% corporate minimum tax interact with foreign tax credit rules for large corporations?
Under the Inflation Reduction Act of 2022, large C corporations compute a tentative minimum tax equal to 15% of Adjusted Financial Statement Income (AFSI). They then subtract any allowable corporate AMT foreign tax credit, computed under special CAMT rules (Notice 2023?7). If general business credits remain, up to 75% of the sum of regular tax and CAMT may be offset. Corporations report this on their corporate returns, coordinating Forms 1120, 8991 (CAMT computation), and 1118 (FTC).
Which types of municipal bond interest are subject to AMT?
Only interest from “private activity bonds” (bonds financing private projects like airports, stadiums, or student loans) is subject to AMT. Regular municipal bonds from states/cities for government purposes remain tax-free under both systems.
Tax Help for Those Who Need to Pay the AMT
Most taxpayers today don’t trigger the AMT thanks to higher exemption amounts. However, certain situations, like exercising ISOs, realizing large capital gains in a single year, or carrying high SALT deductions, can still create exposure. If any of these apply to you, getting personalized guidance can help you avoid unexpected tax bills. The Alternative Minimum Tax adds a layer of complexity to an already intricate tax system. Understanding its history, operation, and potential impact is crucial for taxpayers seeking to minimize their tax liability. As tax laws continue to evolve, staying informed and seeking professional advice can help individuals and businesses navigate the ever-changing landscape of the tax code. Optima Tax Relief is the nation’s leading tax resolution firm with over $3 billion in resolved tax liabilities.
If You Need Tax Help, Contact Us Today for a Free Consultation
