The alternative minimum tax (AMT) system is complicated. It requires you first to compute your tax liability as you normally would by completing your IRS Form 1040 tax return. Then you separately recompute your taxes under the AMT system by following its special rules. (See IRS Form 6251, Alternative Minimum Tax (Individuals), and its line-by-line instructions.) For each year, you are required to pay either your regular-tax liability or your AMT liability (whichever is greater).
Alert: The Tax Cuts & Jobs Act (TCJA), which took effect in 2018, makes it less likely that you will trigger the AMT after exercising ISOs and holding the shares (see the FAQ on tax reform), at least until the current tax law expires after 2025.
Broadly, to your regular taxable income the AMT system makes certain negative and positive adjustments and applies tax items called AMT preferences. These are tax items that usually receive special treatment under the regular, non-AMT income tax rules. The resulting amount is your "alternative minimum taxable income" (AMTI). The standard deduction on Form 1040, if taken in lieu of itemizing, is not part of the AMTI calculation (you get a different AMTI exemption instead, as explained below).
Alert: In addition to their federal tax consequences, ISO exercises in California are part of that state's AMT calculation (see Schedule P of Form 540).
Until the TCJA limited or disallowed these deductions under the regular tax system, examples of positive adjustments that increased AMTI included itemized deductions for state and local income taxes, real and personal property taxes, personal exemptions, and miscellaneous itemized deductions. This is why people living where state and local taxes are high (e.g. California, New York, Massachusetts) were more likely to trigger the AMT. The spread at exercise of an ISO remains a positive adjustment when you continue to hold the ISO stock through the calendar year of exercise. As explained in a MarketWatch article, ISO exercises are still AMT risk factors.
Example: You have 1,000 ISOs with an exercise price of $10. You exercise and hold them when the market price is $50. You have an AMT adjustment of $40,000 ($40 spread x 1,000 options) that is part of your AMTI on Line 14 of Form 6251.
AMT Exemption Amounts
After AMTI is determined, it is reduced by an exemption amount. This AMT income exemption replaces the personal exemption and standard deduction from the regular-tax system.
- The AMT income exemption amounts for the 2018 tax year are $70,300 for single filers and $109,400 for married joint filers.
- The AMT income exemption amounts for the 2017 tax year were $54,300 for single filers and $84,500 for married joint filers.
This AMTI exemption amount is phased out for high-income individuals by 25 cents for every dollar of AMTI over specified thresholds. The TCJA substantially increased these thresholds.
2018 tax year: For single filers, the phaseout range starts at $500,000 of AMT income. For married joint filers, the phaseout range starts at $1,000,000 of AMT income. The exemption is fully phased out when AMTI equals or exceeds $781,200 for single filers and $1,437,600 for joint filers.
2017 tax year: For single filers, the phaseout range started at $120,700 of AMT income. For married joint filers, the phaseout range started at $160,900 of AMT income. The exemption was fully phased out when AMTI equaled or exceeded $337,900 for single filers and $498,900 for joint filers.
The net amount of AMTI is multiplied by the AMT rate (26% or 28%) to obtain the amount of AMT you owe.
- 2018 tax year: For unmarried single filers and married joint filers alike, the AMT rate is 26% up to $191,500 and 28% for greater amounts of AMTI. For married people filing separate returns, the threshold is $95,750.
- 2017 tax year: For unmarried single filers and married joint filers alike, the AMT rate was 26% up to $187,800 and 28% for greater amounts of AMTI. For married people filing separate returns, the threshold was $93,900.
Alert: Don't be fooled if the AMT rates (26% and 28%) are lower than the rates of your regular tax bracket. Your AMT taxable income is often much higher because of the differences in how AMT income and regular taxable income are calculated. More of your income is taxable under the AMT, and compared to the current progressive tax rates under the regular tax system, the income starts getting taxed at a higher rate. In general, a rise in ordinary income rates but not AMT rates would reduce the likelihood of triggering the AMT, while a drop in ordinary income tax rates but not AMT rates would make triggering the AMT more probable.
Your effective AMT rate is higher if your exemption amount is phased out. The calculations are further complicated if you had any capital gains during the year, because capital gains are taxed at 15% under AMT, not 26% or 28%. Your AMT liability can be offset by any nonrefundable personal credits, such as the HOPE and Lifetime learning education credits and the adoption, child, and saver's credits.
2018 AMT Income Exemption Amounts, Phaseout Ranges, And Threshold For The Higher 28% Rate
The table below summarizes the AMT income exemption amounts, phaseouts, and rate thresholds for 2018 that are detailed above.
|Filer status in 2018
||AMT income exemption amount
||Exemption amount phaseout starts
||Exemption amount phaseout ends
||Point where rate
26% to 28%
(married filing separately: $95,750)
Compare AMT With Regular Tax
Finally, you compare your AMT liability with your regular-tax liability. Your regular-tax liability is the amount of taxes that you tentatively owed when you computed your federal income taxes on IRS Form 1040 without regard to AMT, reduced for any taxes that you owe for premature-retirement-plan distributions under IRS Form 4972 and by the amount of any foreign tax credit that you took on your Form 1040.
It is commonly said that you pay either your AMT amount or your regular-tax liability, whichever is larger. Technically, after you have completed Form 6251, the amount by which your AMT exceeds your regular tax is then added on Line 45 of your Form 1040 (Form 6251 becomes an attachment to it).
Example: Regular income tax is $55,000. Your AMT is $75,000. You pay $20,000 of AMT, along with $55,000 of regular income tax.
In many cases, the extra AMT beyond your regular-tax liability for your ISO exercise/hold may be recovered in later years through a tax credit. Don't forget that the sale of your ISO stock affects AMT liability in the year of the sale (see a related FAQ). These AMT and ISO topics are discussed in the section on ISOs.
Alert: Do not expect your employer to give you a form with AMT income (AMTI) on it. You must calculate it and any taxes owed. The IRS has a basic AMT tool that can help you determine whether you may owe AMT.
IRS Occasionally Makes Mistakes
Lastly, be aware that (like taxpayers) the IRS sometimes makes mistakes. The US Treasury has reported that some IRS examiners have made procedural errors when reviewing AMT returns that the IRS computers flagged for discrepancies. Some of these mistakes resulted in an incorrect computation of AMT. The Treasury reports that it will focus on AMT procedures in annual training of IRS staff. However, if the IRS reports a discrepancy in your return and produces a different computation of AMT, you may still want your tax advisor to run the numbers again to double-check the IRS result.
Further Resources On The AMT
For guidelines on the likelihood of being hit with AMT, see a related FAQ. See another FAQ on methods for limiting and managing AMT. Other FAQs in the section ISOs: AMT Advanced explain various planning strategies.