There’s no hard and fast test to determine if you will have to pay the AMT. You must first calculate your taxes using the standard IRS rules, and then do a second calculation using the AMT rules. If your AMT total is higher, you must pay that amount.
In general, you may be affected by the AMT if you:
- Are in a relatively high income tax bracket.
- Live in a high-tax state.
- Take a large number of exemptions for dependents.
- Have substantial miscellaneous and medical expense deductions.
- Exercised incentive stock options and did not sell the stock in the same year.
- Deducted interest paid on a second mortgage not used for residential purposes.
If you’re unsure whether you must pay the AMT, speak with your tax advisor. You also can determine your status by completing the AMT calculation the IRS provides on Form 6251 or by using tax software.
Avoiding the AMT should not be your primary investment goal. However, if you are concerned about the effects of the tax, here are a few simple steps you can take to minimize your exposure:
Choose municipal bonds carefully. Not all municipal bonds offer AMT-free interest. For example, the interest on some private-activity municipal bonds is subject to the tax. Check your fund’s prospectus to see if a portion of its income comes from these bonds.
Spread out your gains. If possible, spread out your capital gains from securities sales or the exercise of incentive stock options over several years.
Plan your income and deductions. Develop a multiyear tax plan that carefully times your income and use of deductions. For example, you can take steps to accelerate your investment income to concentrate your AMT liability into one year, while deferring deductions. This lets you apply your deductions in a year when you can take full advantage of them.
Use a donor-advised fund to coordinate your charitable contributions with the rest of your investment plan. You may make your tax-deductible donations in the years when the deductions will provide maximum benefits and then can request distributions to your favorite charities in future years without worrying about the AMT.
If you want a simple, effective way to organize charitable donations, consider opening a donor-advised fund with The T. Rowe Price Program for Charitable GivingSM.2
While you should consider the impact of the AMT, don’t make it the primary factor in your investment decisions.
When you plan your portfolio, your top priority should be sticking to fundamental investment principles such as proper asset allocation and diversification. Look closely at your individual goals and time horizon to create a portfolio that contains a mix of stocks, bonds, and money market securities that’s right for you. Only then should you consider ways to fine-tune this strategy to deal with the AMT.
While you may think that avoiding the AMT always will be beneficial, it actually could cost you money. By investing solely to limit your AMT liability, you may lose out on higher potential income or growth opportunities.
Don’t let the AMT take control of your investment decisions. If you have any questions, call us at
Although the costs and complexities of the AMT have caused growing concern among taxpayers and legislators, it appears that it might stay on the books for a while. Any revenue lost from eliminating the AMT would likely have to be replaced. Current estimates place the cost of repeal at between $800 billion and $1.5 trillion over 10 years.
Some legislators have proposed reforming the AMT by indexing for inflation and adding more deductions and exemptions. Even these measures would cause significant revenue loss that may require new taxes from other sources.
1An investment in the T. Rowe Price Tax-Exempt Money Fund is not insured or guaranteed by the FDIC or any other government agency. Although the fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the fund.
2The T. Rowe Price Program for Charitable Giving is an independent, nonprofit corporation and donor-advised fund founded by T. Rowe Price to assist individuals with planning and managing their charitable giving.