The alternative minimum tax (AMT) is a parallel tax system, originally enacted to ensure that wealthy taxpayers could not completely avoid income tax. Despite its original purpose, the AMT now affects millions of taxpayers, many with moderate incomes, who are now forced to pay higher income tax.

A key feature of the AMT is the AMT exemption, which acts as a deduction and helps taxpayers avoid this tax. For 2005, the AMT exemption was $58,000 for married couples filing jointly and $40,250 for single filers. TIPRA raises these amounts, respectively, to $62,550 and $42,500 for 2006. This increase, which replaces a decrease that was scheduled to go into effect, will keep an estimated 19 million taxpayers from paying the AMT for this year.

Phasing Out

The AMT exemption phases out as income calculated for AMT purposes exceeds certain amounts. The phase-out range begins at $150,000 on joint returns and $112,500 for singes. Couples with over $400,200 in AMT income and singles with over $282,500 will have no AMT exemption in 2006.

It’s important to note that the increase in the AMT exemption is limited to 2006. For multiyear tax planning, you should consult your CPA to devise a strategy for minimizing the impact of this extremely complex form of taxation.

Where credit is due

The new law also extends the provision in the law that allows certain tax credits to be applied to both the regular and AMT tax liability. The allowable credits include nonrefundable personal credits such as education and dependent care credits. If the 2006 tax law had not been passed, the tax savings from such other personal credits could not exceed the excess of regular tax liability over “tentative minimum tax,” as it’s now calculated. Now, for 2006, the maximum amount that can be saved by these personal credits is the sum of (1) regular income tax liability minus foreign tax credits and (2) the AMT.

Suppose a hypothetical: The Jones family owes $8,000 in regular income tax and their CPA calculates their tentative minimum tax at $7,000. Suppose they have $1,500 in higher education credits.

The new tax law permits them to take the $1,500 worth of tax credits in 2006. If it had not been passed, the Jones family would have been limited to a $1,000 tax credit ($8,000 minus $7,000), even if the family doesn’t owe AMT.