Alternative Minimum Tax

Alternative Minimum Tax is nothing new; in fact it first appeared on tax forms dating back to 1978. The problem is that more and more individuals are falling victim to the alternative minimum tax and don't completely understand its purpose. There are even some ways to create a tax shelter and avoid paying a minimum tax, and we will discuss some strategies later in this article.

Alternative Minimum Tax Rules

The IRS's tax code gives special treatment to certain kinds of income and allows taxpayers to take tax deductions or credits for other special expenses. Unfortunately, if you are qualified to take too many of these exemptions or tax credits, your tax liability may fall below a threshold and the alternative minimum tax kicks in. This tax ensures that people that benefit too much from these special provisions are paying their fair share, or a minimum tax.

When that happens, the taxpayer is directed to a special form that figures your tax liability using a different formula than the normal tax calculation. Essentially, you wind up adding back certain tax deductions you may have taken to your income. Once you've gone through the alternative minimum tax calculation, you will pay the higher of your "normal" tax liability or the minimum tax.

The intention of the alternative minimum tax, or AMT, is to set a minimum tax rate of around 27% for some of the highest earning taxpayers in the United States. The AMT prevents these individuals from taking advantage of tax loopholes which allow them to shelter a substantial amount of income from federal income taxes. The AMT eliminates some of the benefits of what are called tax preference items including:

* Accelerated depreciation rates
* Long-term capital gains
* Percentage depletion
* Tax exempt income
* Tax credits

Unless changed by Congress, by 2010, an estimated one in five taxpayers will have an AMT liability. This problem stems from a lack of indexing for inflation and is widely viewed as a flaw in the alternative minimum tax rule's initial design. In 2006, an estimated 3.8 million taxpayers are expected to be affected by the Alternative Minimum Tax. And by 2007, that number is expected to grow to 23 million taxpayers.