Tax planning and compliance for investors
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Kaye A. Thomas
Posted December 31, 2007
Updated January 28, 2009
Special rules for old unused AMT credit, first available in 2007, are drastically revised for 2008.
This is the first in a group of articles offering complete coverage of the refundable AMT credit, which provides a way for many people to use more AMT credit than under the regular rules.
Some people who pay AMT are allowed to claim a credit in later years. This credit is allowed only if you previously paid AMT based on certain items, such as the exercise of incentive stock options. It doesn't apply to AMT paid on many other items that are encountered more often, such as the itemized deduction for state and local taxes. The part of your AMT payment that's eligible to be treated as a credit in later years is your available AMT credit.
Merely having available AMT credit isn't enough to provide you with a tax benefit. You need to meet the requirements to actually use the credit. Prior to 2007 there was only one way to do that, using what we now call the regular AMT credit. Under these rules you can claim AMT credit only in a year your regular income tax is higher than the tax calculated under the AMT rules, and only to the extent of the difference between the two taxes.
Example: Last year you paid $100,000 of AMT because you exercised an incentive stock option. This year your regular income tax is $80,000 and your tax under the AMT rules is $50,000. You have $100,000 of available AMT credit, but you can claim only $30,000 this year (the amount your regular tax is higher than the tax under the AMT rules). You have $70,000 of unused AMT credit, which carries over to the next year.
People who pay large amounts of AMT in connection with the exercise of incentive stock options often find they aren't able to use all their AMT credit even after several years have passed. That's especially true (but not exclusively true) when the stock loses value between the time the option is exercised and the time the shares are sold. The unused credit continues to carry forward indefinitely, but may be providing little or no benefit on each year's tax return.
Beginning with the 2007 tax year (returns filed in 2008), you have another possible way to claim AMT credit if some or all of your available AMT credit is at least four years old (we'll call it long-term unused AMT credit). This rule doesn't limit the amount of credit you can claim to the amount your regular tax exceeds the tax under the AMT rules. You can claim credit under this rule even in a year you pay AMT. What's more, the amount of credit allowed under this rule can be greater than the total amount of tax on your income. In other words, your refund can be larger than the amount you paid in the form of withholding or estimated tax. This is why we call it the refundable AMT credit.
Rules in effect for 2007 allowed people with long-term unused AMT credit to claim up to 20% of that amount (or, if larger, $5,000, but no more than 100% of long-term unused AMT credit), subject to a rule that phased out the credit at higher income levels. A subsequent change in the law, effective for 2008 (tax returns filed in 2009), increases the recovery percentage to 50%, so the typical recovery period will now be two years instead of five. More importantly for many people, Congress eliminated the income phase-out. If you have long-term unused AMT credit, you can recover half on your 2008 income tax return and the other half on your 2009 return. Some people will be getting sizeable checks from the IRS.
Example: Your income tax withholding is roughly equal to the amount of tax you would otherwise owe. You have $1,000,000 in long-term AMT credit from a stock option you exercised in 2000. You've been recovering about $1,500 each year using the regular AMT credit. That's better than nothing but doesn't put much of a dent in the $1,000,000. In 2007 you would have been able to claim 20% of that credit, or $200,000, but your income was too high for you to use this rule. When you file your return for 2008, the Treasury is going to send you a refund check of about $500,000.
Most people will receive much smaller refunds, of course, but for a number of people the refunds will be even larger.
Some people exercising incentive stock options incurred AMT liability that was beyond their ability to pay. In addition to allowing the credit for people who paid the tax, Congress abated the tax for people who were never able to pay it. Congress also abated interest and penalties, and for people who have paid interest and penalties, allowed an increase in the credit for these items.
Current law allows the refundable AMT credit only for the years 2007 through 2012, a total of six years. Congress sometimes imposes time limits on tax benefits as a way to meet budgetary constraints, with the intention of extending the benefit or making it permanent at a later time. It isn't clear that this is the case here, however. The main justification for the refundable AMT credit (and the only one that holds water, in my opinion) is to provide relief to people who suffered extraordinary disasters when the bubble in tech stocks collapsed beginning in 2000. By 2012 those people will have fully recovered any credit they have relating to the tech stock collapse, and the tax benefit of this provision will flow primarily to other taxpayers for whom relief is harder to justify. An extension beyond that year is possible, but we can't include the refundable AMT credit in the list of items Congress is more or less certain to extend.
The refundable AMT credit is a complicated provision, and we have complete details on how it works.
details: Refundable AMT Credit Calculation
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