Questions to Ask Your Financial Advisor About the AMT

The alternative minimum tax, or AMT, is what its name suggests: a minimum tax floor you may be subject to as an alternative to the taxes owed through regular tax calculations. You must pay the higher of either your regular tax liability or that calculated under AMT.

“AMT was intended to create a tax floor, so that no matter how many tax deductions or credits are taken, taxpayers can still be subject to tax,” says Mark Conrad, a certified public accountant, certified financial planner and partner at the Compardo, Wienstroer, Conrad & Janes office at the Moneta Group. If you’re able to reduce your effective tax rate, or the amount of tax you pay relative to your gross income, below a certain level, you may find yourself subject to AMT.

[SUBSCRIBE: Get the weekly U.S. News newsletter for financial advisors. ]

The Tax Cuts and Jobs Act changed AMT rules by raising the amount of income exempt from AMT and the threshold for when this exemption begins to be phased out. Before the TCJA, the AMT exemption was $54,300 for single filers with a phaseout beginning at $120,700. After the TCJA was made law, the exemption climbed to $73,600 for tax year 2021, with the phaseout not beginning until $523,600 for single filers and heads of household. Married taxpayers filing jointly are exempt up to $114,600 with the phaseout starting at $1,047,200 in 2021. These rates are pegged to a measure of inflation and increase each year.

“These changes, combined with the TCJA $10,000 cap on state and local tax deductions, mean that many taxpayers who were once subject to the AMT are no longer affected by it,” says Justin Gilmartin, managing director of tax services at The Colony Group.

But there’s a big caveat to this: The AMT provisions in the TCJA sunset in 2025, meaning that barring action from Congress, these changes expire at the end of 2025. “So, while the AMT has been on the back burner for the last few years, it is poised to come roaring back to relevance in 2026,” Gilmartin says.

Even before then, it’s important to keep the AMT an ongoing topic of conversation with your financial advisor because the best way to minimize taxes, including the AMT, is to prepare for them.

Why You Should Bring Up the AMT With Your Advisor

While a tax professional is usually the best person to discuss your tax situation with, discussing your taxes with your financial advisor is also important.

Tax planning should be a part of every financial advisor’s approach to growing a client’s investable assets and retirement income,” says Rob Burnette, CEO, financial advisor and professional tax preparer at Outlook Financial Center. It goes back to the old adage, “It’s not what you make, but what you keep,” that he says is always relevant.

“Most advisors are focused on gross returns and don’t pay enough attention to net returns,” he says. Bringing up AMT and other tax concerns can be a way of refocusing on the net, rather than the gross.

It’s also important to bring up the AMT with your advisor because the planning strategies for the AMT may differ from those for typical tax minimization strategies and vary depending on the situation, says Julie Alcala, a senior wealth strategist at BNY Mellon Wealth Management. “For example, one person might avoid AMT by deferring income and one might avoid it by accelerating income.”

Questions to Ask Your Financial Advisor About the AMT

Here are some of the most important questions to ask your advisor about the AMT:

— How do I plan for the AMT?

— What income and deduction items can trigger the AMT?

— Can you run a tax projection for me?

— Are there ways to offset my capital gains?

— Would I be better off itemizing my deductions?

— How would exercising incentive stock options (ISOs) affect my exposure to AMT?

— Will I ever be able to recoup what I paid in AMT?

[Read: What to Know About Financial Advisor Fees and Costs]

How Do I Plan for the AMT?

“If it looks like you may be subject to the AMT this coming tax year, it’s important to prepare accordingly,” says Erik Gary, partner at Mazars. “Learning how to avoid the AMT could save a significant amount of money, depending on your liability.”

The AMT can be triggered by the timing of income and deductions in a given year, Alcala says. “If your tax advisor suggests that you may be subject to the AMT, you should coordinate with your financial advisor to determine if income that can be controlled, such as capital gains or Roth conversions, should be accelerated or deferred.”

The AMT has two tax rates: a 26% rate for the first $199,900 above the exemption level, which is $73,600 for 2021, and a 28% rate on income over that level. Advisors can help clients stay below these threshold levels of income in years they trigger the AMT.

What Income and Deduction Items Can Trigger the AMT?

“It is important to ask your advisor about the income and deduction items, under the new rules, that can trigger AMT,” Conrad says.

He says the most common items that can trigger the AMT for the 2022 tax year are:

— Having a large amount of itemized deductions and taxable income greater than the exemption phaseout thresholds, which are $539,900 for single filers and $118,100 for married couples filing jointly in 2022.

— Earning significant interest income, usually tax-exempt interest, from certain private activity municipal bonds. (Significant dividend income could also trigger AMT, Conrad says.)

— Realizing a significant capital gain from a property or investment, which can push your income above the AMT phaseout thresholds.

— Exercising incentive stock options (ISOs). “Typically, the difference between the strike price and the fair market value on the exercise date must be added to AMT for an ISO if the taxpayer holds onto the shares past Dec. 31 of the exercising year,” he says.

Can You Run a Tax Projection for Me?

Based on the items that can trigger AMT, you should ask your advisor to look at a multi-year tax projection, Conrad says.

As complicated as AMT is, an advisor should be able to use a projection to help you determine the impact of AMT when you’re planning for a triggering event, Gilmartin says.

You can then use these projections to determine if it would be wise to accelerate or defer income items in order to shelter you from the AMT, Conrad says.

Are There Ways to Offset My Capital Gains?

Deferring income tax items are not the only way to mitigate exposure to AMT. You can also ask your advisor about other ways of offsetting capital gains to reduce your taxable income, Burnette says.

Some strategies you might use include tax loss harvesting or using tax-advantaged investments like municipal bonds, the income from which is exempt from federal tax.

[READ: How to Find a Financial Advisor if You’re a Small Business Owner.]

Would I Be Better Off Itemizing My Deductions?

If you’re subject to AMT, you may have a lower tax liability by itemizing deductions, such as charitable contributions, even if your itemized deductions are less than the standard deduction under the regular tax calculations, Burnette says.

This is because you are not allowed to use the standard deduction when calculating AMT income. But you can itemize your deductions, which could help you stay in the lower AMT tax bracket.

“I had a client this year save more than $4,000 in tax liability by forcing the itemization of deductions even though those deduction amounts were well under the amount of the standard deduction,” he says.

How Would Exercising Incentive Stock Options (ISOs) Affect My Exposure to AMT?

“Normally, merely exercising ISOs to purchase stock at a discounted price would not be a taxable event,” Gilmartin says. But the AMT calculation requires you to add back the spread between the exercise price and the fair market value of the stock on the date you exercise your option into your income.

“This means taxpayers could owe tax on their ‘paper’ gain, even though they have not actually sold any stock,” he says.

If you are thinking of exercising ISOs, ask your advisor to do AMT planning to determine how many shares you can exercise without triggering AMT, or how many to minimize your AMT tax liability, says Gary.

“However, being in AMT from the exercise of ISOs can cause an AMT credit,” Gary adds. “This credit could be potentially used in future years to reduce your tax bill.”

Will I Ever Be Able to Recoup What I Paid in AMT?

“AMT liability can be caused by two types of adjustments and preferences,” Gilmartin says. They are deferral items, like exercising ISOs, which can generate credit to offset taxes in future years, and exclusion items, like the standard deduction, which are not deductible for the AMT.

“Deferral items are temporary while exclusion items cause a permanent difference in taxable income,” he says. “If AMT is owed because of a deferral item, taxpayers can carry forward a credit to future years.”

Then, if you aren’t subject to AMT in future years, you can claim a credit for the difference up to the amount you carried over. This is another reason to have ongoing AMT conversations with your financial advisor: You want to keep track of any AMT credit you may have accrued.

More from U.S. News

Does Current Market Volatility Mean It’s Time to Rebalance Your Portfolio?

4 Ways To Play Defense Without ‘Going To Cash’

Estates, Trusts and Gifting: How to Find an Advisor for Higher Wealth

Questions to Ask Your Financial Advisor About the AMT originally appeared on usnews.com

Related Categories:

Latest News

More from WTOP

Log in to your WTOP account for notifications and alerts customized for you.

Sign up