Tax Information Center

Alternative Minimum Tax

In recent months (and years) there has been much concern over the Alternative Minimum Tax (AMT). The AMT was originally intended to subject high income taxpayers to at least a minimum amount of tax. This has been accomplished over the years by the process of making a number of adjustments to the already calculated regular taxable income to arrive at Alternative Minimum Taxable Income which is then subject (after an allowed exclusion) to a minimum tax rate. Essentially, disallowing certain deductions, exemptions, alternative calculations for ISO (Incentive Stock Options) and various other adjustments. This has resulted in what appears on the tax returns as an ad on tax.

The concern has been lately, that more taxpayers are being subjected to AMT.

Some of the standard year-end planning ideas will not reduce tax liability if you are subject to the alternative minimum tax (AMT) because different rules apply. Because of the complexity of the AMT, it would be wise for us to analyze your AMT exposure.

If you have any questions, please do not hesitate to call. We would be happy to meet with you at your convenience to discuss the strategies outlined above. There is still time to implement these strategies to minimize your tax liability.

Business Credits

Small Employer Pension Plan Startup Cost Credit:

Certain small business employers that did not have a pension plan for the preceding three years may claim a nonrefundable income tax credit for expenses of establishing and administering a new retirement plan for employees. The credit applies to 50% of the first $1,000 in qualified administrative and retirement-education expenses for each of the first three plan years.

Employer-Provided Child Care Credit:

Employers may claim a credit of up to $150,000 for supporting employee childcare or childcare resource and referral services. The credit is allowed for a percentage of "qualified child care expenditures" including for property to be used as part of a qualified child care facility, for operating costs of a qualified child care facility and for resource and referral expenditures.

Education and Child Tax Benefits

Child Tax Credit:

A tax credit of $1,000 per qualifying child under the age of 17 is available on this year's return. The credit is phased out at a rate of $50 for each $1,000 (or fraction of $1,000) of modified AGI exceeding the following amounts: $110,000 for married filing jointly; $55,000 for married filing separately; and $75,000 for all other taxpayers. A portion of the credit may be refundable.

Credit for Adoption Expenses:

For 2007, the adoption credit limitation is $11,390 of aggregate expenditures for each child, except that the credit for an adoption of a child with special needs is deemed to be $10,960 regardless of the amount of expenses. The credit ratably phases out for taxpayers whose income is between $174,730 and $214,730.

HOPE Credit and Lifetime Learning Credit:

The maximum HOPE credit is $1,650 (100% on the first $1,100, plus 50% of the next $1,100) for qualified tuition and fees paid on behalf of a student (i.e., the taxpayer, the taxpayer's spouse, or a dependent) who is enrolled on at least a half-time basis. The credit is available for only the first two years of the student's post-secondary education. In addition, the $1,100 amounts for 2006 are doubled.

The Lifetime Learning credit maximum in 2006 is $2,000 (20% of qualified tuition and fees up to $10,000). A student need not be enrolled on at least a half-time basis so long as he or she is taking post-secondary classes to acquire or improve job skills. As with the HOPE credit, eligible students include the taxpayer, the taxpayer's spouse, or a dependent. Hurricane Relief: The Lifetime Learning credit percentage is increased to 40% for individuals attending qualified education institutions in the Gulf Opportunity Zone in a taxable year beginning in 2006.

For 2007, both the HOPE credit and the Lifetime Learning credit are phased out at modified AGI levels between $94,000 and $114,000 for joint filers, and between $55,000 and $70,000 for single taxpayers.

Coverdell Education Savings Account:

The aggregate annual contribution limit to a Coverdell education savings account is $2,000 per designated beneficiary of the account. This limit is phased out for individual contributors with modified AGI between $95,000 and $110,000 and joint filers with modified AGI between $190,000 and $220,000. The contributions to the account are nondeductible but the earnings grow tax-free.

Student Loan Interest:

You may be eligible for an above-the-line deduction for student loan interest paid on any "qualified education loan." The maximum deduction is $2,500. The deduction for 2007 is phased out at a modified AGI level between $110,000 and $140,000 for joint filers, and between $55,000 and $70,000 for individual taxpayers.

Rules are in effect to coordinate education provisions, such as the qualified higher education expense deduction, the Hope and Lifetime Learning credits, Coverdell education savings accounts, and qualified tuition plans, to prevent double benefits.

Energy Incentives

Residential Energy Efficient Property Credit:

Tax incentives are available to taxpayers who install certain energy efficient property, such as photovoltaic, solar water heating or fuel cell property. In 2007, a credit is available for the expenditures incurred for such property up to a specific dollar limitation. The property purchased cannot be used to heat swimming pools or hot tubs. The credit is set to expire for property placed in service after 2007.

Nonbusiness Energy Property Credit:

Tax incentives are available to taxpayers who remodel their home and/or incorporate specific energy efficient property. For 2007, a credit is allowed for the purchase of qualified energy efficiency improvements. Such property includes advanced main air circulating fans, natural gas, propane, oil furnace or hot water boiler, windows, insulation material, exterior doors, etc. that meet certain energy efficiency standards. The credit is capped in dollar amounts per item of property. The credit is set to expire for property placed in service after 2007.

Investment Planning

The following rules apply for most capital assets in 2007:

  • Capital gains on property held one year or less are taxed at an individual's ordinary income tax rate.
  • Capital gains on property held for more than one year are taxed at a maximum rate of 15% (5% if an individual is in the 10% or 15% marginal tax bracket).

Timing of Sales:

You may want to time the sale of assets so as to have offsetting capital losses and gains. Capital losses may be fully deducted against capital gains and also may offset up to $3,000 of ordinary income ($1,500 for married filing separately). In general, when you take losses, you must first match your long-term losses against your long-term gains, and short-term losses against short-term gains. If there are any remaining losses, you may use them to offset any remaining long-term or short-term gains, or up to $3,000 (or $1,500) of ordinary income. When and whether to recognize such losses should be analyzed in light of the changes in the capital gains rates applicable to your specific investments.

Dividends:

Qualifying dividends received in 2007 are subject to rates similar to the capital gains rates. Therefore, qualifying dividends are taxed at a maximum rate of 15%. Qualifying dividends includes dividends received from domestic and certain foreign corporations.

Other Tax Planning Opportunities

We also can discuss the potential benefits to you or your family members of other planning options, including §529 qualified tuition programs.

IRA, Retirement Savings Rules

More tax-saving opportunities continue for retirement planning due to the availability of Roth IRAs, changes that make regular IRAs more attractive, and other retirement savings incentives. As discussed herein, even more changes will begin in 2007.

Traditional IRAs:

Individuals who are not active participants in an employer pension plan may make deductible contributions to an IRA. The annual deductible contribution limit for an IRA for 2006 is $4,000. Individuals who are active participants in a plan may also make deductible contributions to an IRA, but limited in amount depending on their AGI. For 2007, the AGI phase-out range for deductibility of IRA contributions is between $52,000 and $62,000 of modified AGI for single persons (including heads of households), and between $83,000 and $103,000 of modified AGI for married filing jointly. Above these ranges, no deduction is allowed.

For 2007, a $1,000 "catch-up" contribution deduction is allowed for taxpayers age 50 or older by the close of the taxable year who meet the other qualifications for IRA deductions. Thus, the total deductible limit for these individuals may be as high as $5,000. In addition, an individual will not be considered an "active participant" in an employer plan simply because the individual's spouse is an active participant for part of a plan year. Thus, you may be able to take the full deduction for an IRA contribution regardless of whether your spouse is covered by a plan at work, subject to a phase-out if your joint modified AGI is $156,000 to $166,000. Above this range, no deduction is allowed.

Roth IRA:

This type of IRA permits nondeductible contributions of up to $4,000 a year. Earnings grow tax-free, and distributions are tax-free provided no distributions are made until more than five years after the first contribution and the individual has reached age 591/2. Distributions may be made earlier on account of the individual's disability or death. The phase out ranges and "CATCH UP" contributions that apply for traditional IRA's apply to Roth IRA's also.

Roth IRA Conversion Rule:

Funds in a traditional IRA may be rolled over into a Roth IRA. Such a rollover, however, is treated as a taxable event, and you will pay tax on the amount converted. No penalties will apply if all the requirements for such a transfer are satisfied.

A taxpayer's AGI (whether married filing jointly or single) is limited to $100,000 to make such a conversion and the taxpayer must not be a married individual filing a separate return.

For tax years beginning after 2009, the adjusted gross income limit will be eliminated, allowing higher income taxpayers to convert traditional IRA’s to Roth accounts.

401(k) Contribution:

The 401(k) elective deferral limit is $15,000 for 2006, up from $14,000 in 2005. If your 401(k) plan has been amended to allow for catch-up contributions for 2006 and you will be 50 years old by December 31, 2006, you may contribute an additional $5,000 to your 401(k) account, for a total maximum contribution of $20,000 ($15,000 in regular contributions plus $5,000 in catch-up contributions).

SIMPLE Plan Contribution:

The SIMPLE plan deferral limit is $10,500 for 2007 and 2008. If your SIMPLE plan has been amended to allow for catch-up contributions and you will be 50 years old by December 31, 2006, you may contribute an additional $2,500.

Catch-Up Contributions for Other Plans:

If you will be 50 years old by December 31, 2007, you may also contribute an additional $5,000 to your 403(b) plan or SEP.

Saver's Credit:

A nonrefundable tax credit is available based on the qualified retirement savings contributions to an employer plan made by an eligible individual. Only taxpayers filing joint returns with AGI of $50,000 or less, head of household returns with AGI of $37,500 or less, or single returns (or separate returns filed by married taxpayers) with AGI of $25,000 or less, are eligible for the credit. The amount of the credit is equal to the applicable percentage (10% to 50%, based on filing status and AGI) of qualified retirement savings contributions up to $2,000. The maximum credit amount is $1,000.

Maximize Retirement Savings:

In many cases, employers will require you to set your 2007 retirement contribution levels before January 2007. You may want to increase your contribution to lower your AGI in order to take advantage of some of the tax breaks described above. In addition, maximizing your contribution is generally a good tax-saving move.

Pension Act Relief:

Effective for distributions made after 2006, nonspouse beneficiaries may roll over to an IRA or other plan structured for that purpose amounts inherited as a designated beneficiary. The inherited amounts are subject to the annual minimum distribution rules requiring distributions over the person's life expectancy (recalculated annually).

Also, for taxable years beginning after 2006, the IRS must make available a form for a taxpayer to file with the IRS directing the IRS to send a refund directly to the taxpayer's IRA. In addition, indexing the adjusted gross income levels for the saver's credit (also made permanent) and IRAs will begin in taxable years after 2006.

Effective for distributions made after September 11, 2001, a reservist (called up between September 11, 2001, and before December 31, 2007, for more than 179 days) is excepted from the 10% premature distribution tax for distributions before age 59 1/2 to a reservist, and allows the money to be repaid within two years after the end of active service.

Effective for distributions made after August 17, 2006, public safety officers can avoid the early 10% distribution penalty for distributions based on separation from service if the officer is at least 50.

Individuals who worked for a bankrupt employer whose officers were indicted and whose employer had at least a 50% match in the form of employer stock in its §401(k) plan can make an additional IRA catch-up contribution (three times the otherwise applicable catch-up amount). The contributions can be made for 2007, 2008, and 2009.

For tax years beginning after 2006, after-tax contributions from qualified plans may be rolled over into defined benefit plans and §403(b) tax-sheltered annuities. Prior to the 2006 Pension Act, after-tax contributions only could be rolled over into defined contribution plans and IRAs.

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