- Your regular personal exemption;
- Dependent exemptions;
- Deductions for state and local taxes paid;
- Deductions for home equity loans unless used to improve your primary residence; and
- Miscellaneous itemized deductions.
In 1969, it came to the attention of the federal government and the public that there were 155 tax return filers with incomes of $200,000 — equivalent to an annual income of more than $1.3 million in today’s dollars — who paid no federal income tax. While their $0 tax liability was legal within the tax code at the time — they were using federally allowed income deductions and tax breaks appropriately — the government was embarrassed and moved quickly to legislate a solution. From this the AMT, or Alternative Minimum Tax, was created, with the aim of making the tax system fairer. It exists in parallel with the current income tax system and mandates that many taxpayers must calculate their taxes owed by using an “alternative method” as well as the traditional method — and pay the higher of the two tax amounts calculated. While the tax cuts of the Reagan era eliminated most of the original deductions that led to its creation, the AMT has remained intact to this day. Because the level of income that triggers the AMT has not been adjusted to today’s income levels, the AMT now affects an increasing number of middle-income households more than those with the very highest incomes most similar to the original 155 tax filers it was created to catch. Rather, people who benefit most from ordinary tax deductions — married couples, those with large families and those who live in high tax states (because state income tax deductions are not allowed in the AMT) — are more likely to get hit with the AMT. It’s not unusual for single taxpayers with ordinary income over $500,000 in a low-tax state to escape the brunt of the alterative minimum tax while a couple with children making a combined salary of $200,000 gets hit. In 2001, slightly more than 53% of households with annual incomes of over $200,000 paid the AMT. Only 33.5% of those making an annual income of $1 million did. How Does the AMT Work? The name describes how the tax works. It’s an alternative set of rules for calculating your federal income tax. The rules determine the minimum amount of tax your income requires you to pay. If you’re already paying at least that much because of the regular income tax, you don’t have to pay AMT. But if your regular tax falls below the minimum, you have to pay the higher AMT amount. The AMT takes away certain breaks allowed by the regular income tax system. Under AMT, these tax deductions are eliminated: