Best tools to understand the AMT?

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nerdinvestor
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Best tools to understand the AMT?

Post by nerdinvestor »

I'm trying to do my taxes and am running up against the AMT and all of its interactions with long-term capital gains tax rates, disallowed deductions, tax rates that effectively go down as you earn more money, and other complex things. I've read a bunch of articles on the AMT but am still confused.

Can someone recommend any graphical, easy-to-use tools that could help me better get my head around how it works? In particular, I'm trying to decide 1) whether I should do a recharacterization of a 2014 Roth conversion and 2) what I should be doing to minimize either my overall taxes or the amount of AMT I pay in the future (not sure which is better to optimize for).
kaneohe
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Re: Best tools to understand the AMT?

Post by kaneohe »

Good luck with your wish! Here's a reading list to start http://www.fairmark.com/search/index.ht ... &sa=Search

This thing to me seems to be a mysterious phenomenon that pops up even when you think you understand it. Since it seems to be
tuned to your individual circumstances, perhaps a good way is to input your situation into tax software or a tax calculator and then make
incremental changes in the likely variables to map out the terrain in your neighborhood. You should be able to get a good feel for how
AMT varies with the variables you have chosen after some time.
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nerdinvestor
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Re: Best tools to understand the AMT?

Post by nerdinvestor »

kaneohe wrote:Good luck with your wish! Here's a reading list to start http://www.fairmark.com/search/index.ht ... &sa=Search

This thing to me seems to be a mysterious phenomenon that pops up even when you think you understand it. Since it seems to be
tuned to your individual circumstances, perhaps a good way is to input your situation into tax software or a tax calculator and then make
incremental changes in the likely variables to map out the terrain in your neighborhood. You should be able to get a good feel for how
AMT varies with the variables you have chosen after some time.
Yeah, that's a good idea. I've tried doing this a little bit as I've worked through my taxes in TurboTax, but it's pretty apparent to me that TurboTax isn't really the ideal tool for tax planning as it makes it hard to adjust things (no sliders or anything, for example), and there's no way to compare results side by side or run tens or hundreds of scenarios. Ideally I'd basically like to be able to compare every combination of possibilities to see what makes the most sense. Do you know of any tools that let you do this?
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Electron
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Re: Best tools to understand the AMT?

Post by Electron »

nerdinvestor wrote:I'm trying to do my taxes and am running up against the AMT and all of its interactions with long-term capital gains tax rates, disallowed deductions, tax rates that effectively go down as you earn more money, and other complex things. I've read a bunch of articles on the AMT but am still confused.
Marginal tax rates increase during the phaseout of the AMT Exemption and will then decrease when the phaseout is complete.

Note also that additional ordinary income may take you out of AMT territory. That is because once you get above the 28% bracket for ordinary income the regular tax rate will be higher than the AMT rate.
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Spencer
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Re: Best tools to understand the AMT?

Post by Spencer »

Here is a good article regarding the subject on Michael Kitces' blog, https://www.kitces.com/blog/evaluating- ... -amt-bite/
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alvinsch
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Re: Best tools to understand the AMT?

Post by alvinsch »

nerdinvestor wrote:
... and there's no way to compare results side by side or run tens or hundreds of scenarios.
Have you tried the what-if worksheet in turbotax? Lets you do 3 side by side comparisons. I use it constantly to determine how much additional ordinary income and / or QDI/CG I can have in the next year and still avoid AMT. This year I had to make large charitiable donations to avoid the AMT since the AMT marginal tax brackets are so much higher for me than the regular tax brackets (53.8% vs 33.8%), once all the phaseouts are taken into account.
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nerdinvestor
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Re: Best tools to understand the AMT?

Post by nerdinvestor »

alvinsch wrote:
nerdinvestor wrote:
... and there's no way to compare results side by side or run tens or hundreds of scenarios.
Have you tried the what-if worksheet in turbotax? Lets you do 3 side by side comparisons. I use it constantly to determine how much additional ordinary income and / or QDI/CG I can have in the next year and still avoid AMT. This year I had to make large charitiable donations to avoid the AMT since the AMT marginal tax brackets are so much higher for me than the regular tax brackets (53.8% vs 33.8%), once all the phaseouts are taken into account.
Interesting - I'll check this out! Thanks for putting it on my radar.

Perhaps a dumb question, but it just occurred to me that I don't know even what the right goal should be in optimizing my taxes. Why are you focusing on avoiding the AMT, for example? Is it since the effective marginal rate ends up being higher than the regular tax, so you get more benefit from a charitable donation in that year than any other year?
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alvinsch
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Re: Best tools to understand the AMT?

Post by alvinsch »

nerdinvestor wrote: Interesting - I'll check this out! Thanks for putting it on my radar.

Perhaps a dumb question, but it just occurred to me that I don't know even what the right goal should be in optimizing my taxes. Why are you focusing on avoiding the AMT, for example? Is it since the effective marginal rate ends up being higher than the regular tax, so you get more benefit from a charitable donation in that year than any other year?
Yes, as I noted before, my AMT marginal tax rate would have been 53.8% in 2014. In other words, on the last/next dollars I make, I would get to keep less than half. Since the AMT marginal rate is so much higher than the regular tax marginal rate, charitable deduction are worth a lot more under the AMT. So in years I'm going to be subject to the AMT, I make charitable deductions to my donor advised fund. In essence, I'm donating 46 cents on the dollar while the government is kicking in the other 54 cents.

My goal in optimizing taxes, is to in general defer income into the future and also avoid paying confiscatory marginal rates in any given year by deferring income or making my donations in years where that will likely occur. My marginal rate for 2015 will likely be back to 34% so my donations are much more valuable when made in the 54% bracket.
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Re: Best tools to understand the AMT?

Post by kaneohe »

alvinsch wrote:..................................
Yes, as I noted before, my AMT marginal tax rate would have been 53.8% in 2014. ............................
Do you understand why it is that high? I was under the impression that it should be the basic 26/28% rates increased by 25% (for the exemption phaseout) so
32.5/35%. These days you might also have to add 3.8% for the NIIT but that still would be less than 40%. Must be something else going on..........
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alvinsch
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Re: Best tools to understand the AMT?

Post by alvinsch »

kaneohe wrote:
alvinsch wrote:..................................
Yes, as I noted before, my AMT marginal tax rate would have been 53.8% in 2014. ............................
Do you understand why it is that high? I was under the impression that it should be the basic 26/28% rates increased by 25% (for the exemption phaseout) so
32.5/35%. These days you might also have to add 3.8% for the NIIT but that still would be less than 40%. Must be something else going on..........
Yes, it's because of the following. Above $150K the AMT personal exemption phases out at 25% of income so this effectively makes the base 26% AMT rate 32.5% and 28% AMT rate 35.0%. Now I'm also in the range where the 0% QDI and CG rate phases out at the rate of 15% so this adds 15% to additional income in both the regular and AMT tax systems. Then above $250K the 3.8% Obamacare tax kicks in. Finally, above $305k itemized deductions (addl about 1%) and personal exemptions phase out (about 2%). EDIT: actually these phaseouts don't affect AMT so 53.8% should be the max for AMT.

So while my statutory regular ordinary income tax rate is supposedly 15%, my marginal rate was actually 36.8% (15+15+3.8+3.0), while the AMT rate of 28% becomes 53.8% (28.0+7.0+15.0+3.8). So by making sufficient charitable donations I was able to get out of the AMT and lower my marginal rate to 36.8% (15+15+3.8+3.0). In 2014 I was hit by a massive one time income event (doubled normal AGI), next year I should be back to 30.0% or 33.8% marginal rate.
Last edited by alvinsch on Mon Mar 23, 2015 11:50 pm, edited 1 time in total.
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Electron
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Re: Best tools to understand the AMT?

Post by Electron »

Here is a good article regarding the subject on Michael Kitces' blog, https://www.kitces.com/blog/evaluating- ... -amt-bite/
That is an excellent article and I especially like the charts showing the AMT Bump Zones. It now makes more sense why deferring income or selecting specific years for charitable contributions can make such a big difference.

Both charts show the end of AMT at approximately $588,000 with the disclaimer that it can vary quite a bit. My tax spreadsheet lets me test different scenarios very easily and I saw a case earlier today where AMT ended with an AGI of approximately $350K (Single Return). Unless my spreadsheet is off, I suspect that the threshold varies a lot depending on itemized deductions, exemptions, capital gains, qualified dividends, and other factors.

I have not seen the marginal rate of 53.8% but earlier today I saw 47.5%. The 0% bracket for CG & QD was in play. I believe the 47.5% came from 26% plus 26%/4 plus 15%. A similar case for the AMT 28% rate would calculate as 28% plus 28%/4 plus 15% which equals 50%. There are likely other factors or phaseouts that can come into play.
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kaneohe
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Re: Best tools to understand the AMT?

Post by kaneohe »

alvinsch wrote:
kaneohe wrote:
alvinsch wrote:..................................
Yes, as I noted before, my AMT marginal tax rate would have been 53.8% in 2014. ............................
Do you understand why it is that high? I was under the impression that it should be the basic 26/28% rates increased by 25% (for the exemption phaseout) so
32.5/35%. These days you might also have to add 3.8% for the NIIT but that still would be less than 40%. Must be something else going on..........

Yes, it's because of the following. Above $150K the AMT personal exemption phases out at 25% of income so this effectively makes the base 26% AMT rate 32.5% and 28% AMT rate 35.0%. Now I'm also in the range where the 0% QDI and CG rate phases out at the rate of 15% so this adds 15% to additional income in both the regular and AMT tax systems. Then above $250K the 3.8% Obamacare tax kicks in. Finally, above $305k itemized deductions (addl about 1%) and personal exemptions phase out (about 2%). EDIT: actually these phaseouts don't affect AMT so 53.8% should be the max for AMT.

So while my statutory regular ordinary income tax rate is supposedly 15%, my marginal rate was actually 36.8% (15+15+3.8+3.0), while the AMT rate of 28% becomes 53.8% (28.0+7.0+15.0+3.8). So by making sufficient charitable donations I was able to get out of the AMT and lower my marginal rate to 36.8% (15+15+3.8+3.0). In 2014 I was hit by a massive one time income event (doubled normal AGI), next year I should be back to 30.0% or 33.8% marginal rate.
Thanks for the explanation.......I didn't think of the 0-->15% QDIV/CG transition because I thought that would have happened long before you got to AMT. Guess I'll have to take another look at that.
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Re: Best tools to understand the AMT?

Post by MarkNYC »

alvinsch wrote:
kaneohe wrote:
alvinsch wrote:..................................
Yes, as I noted before, my AMT marginal tax rate would have been 53.8% in 2014. ............................
Do you understand why it is that high? I was under the impression that it should be the basic 26/28% rates increased by 25% (for the exemption phaseout) so
32.5/35%. These days you might also have to add 3.8% for the NIIT but that still would be less than 40%. Must be something else going on..........
Yes, it's because of the following. Above $150K the AMT personal exemption phases out at 25% of income so this effectively makes the base 26% AMT rate 32.5% and 28% AMT rate 35.0%. Now I'm also in the range where the 0% QDI and CG rate phases out at the rate of 15% so this adds 15% to additional income in both the regular and AMT tax systems. Then above $250K the 3.8% Obamacare tax kicks in. Finally, above $305k itemized deductions (addl about 1%) and personal exemptions phase out (about 2%). EDIT: actually these phaseouts don't affect AMT so 53.8% should be the max for AMT.

So while my statutory regular ordinary income tax rate is supposedly 15%, my marginal rate was actually 36.8% (15+15+3.8+3.0), while the AMT rate of 28% becomes 53.8% (28.0+7.0+15.0+3.8).
So your adjusted gross income was above $305K (to be subject to the itemized deduction phase-out), but your taxable income was below $74K (to be in the 15% bracket)? This combination is possible, but very unusual.
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alvinsch
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Re: Best tools to understand the AMT?

Post by alvinsch »

MarkNYC wrote: So your adjusted gross income was above $305K (to be subject to the itemized deduction phase-out), but your taxable income was below $74K (to be in the 15% bracket)? This combination is possible, but very unusual.
It just means most of my taxable income is QDI and CG which isn't that unusual if one is retired, tho like I said, hitting $305k was due to a surprise one time event, but even without this I bump up against the AMT every year. In a 34-54% ordinary income marginal tax bracket, it behooves one to keep most bond exposure to munis if they have virtually no tax advantage vehicles, and work to minimize ordinary income.
Last edited by alvinsch on Tue Mar 24, 2015 12:56 pm, edited 1 time in total.
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Re: Best tools to understand the AMT?

Post by Electron »

Spencer wrote:Here is a good article regarding the subject on Michael Kitces' blog, https://www.kitces.com/blog/evaluating- ... -amt-bite/
As mentioned earlier, the two charts showing the AMT Bump Zone are an excellent illustration of what goes on under AMT. The end of each chart shows the point where AMT ends and the regular tax once again takes over.

Is showing 39.6% as the marginal rate correct? My belief is that the end of AMT could occur in the 33% bracket, 35% bracket, or 39.6% bracket. However, the 39.6% bracket would be the typical case for taxpayers in states with relatively high tax rates.

Regarding AMT and the 0% CG QD bracket, I have seen that case myself. It can occur if one has a lot of qualified dividends and capital gains and only a modest amount of ordinary income. One surprise is that itemized deductions of any type can still lower your tax under AMT. That is because the exact size of the 0% bracket within the 15% bracket is maintained between the regular tax and the AMT. The result is that a taxpayer in the 0% CG QD bracket can increase itemized deductions and still get a benefit under AMT.
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