For those of you who paid alternative minimum tax (AMT) more than three years ago, you may be entitled to some much-needed relief. Individuals having unused minimum tax credits (“MTCs” or “AMT Credits”) from more than three years ago may be entitled to receive an increased MTC this year; better yet, you may even qualify to receive a partial refund of these credits. A quick example using an AMT “tax preference item” may help to demonstrate the potential benefit of this tax credit.
Under current tax law, the exercise of incentive stock options (ISOs) creates a tax preference item for AMT reporting purposes. The difference between the fair market value (FMV) of the stock and the reduced price you paid (upon exercise of the option) is an item of tax preference for computing one’s alternative minimum taxable income (AMTI). While this tax preference or “deferral adjustment” is not taxable for “regular tax” purposes, it does get added back to taxable income for AMT purposes. The result? Generally, additional AMT for the taxpayer in the year the ISO is exercised. Since this adjustment will eventually “reverse” itself for AMTI purposes (upon the future sale of the stock), the current year AMT generates an “AMT credit” that can be applied against future regular tax.
The Refundable AMT Credit and How You Can Put it to Work to Your Benefit
As mentioned in the ISO example above, taxpayers who incur AMT as a result of a deferral adjustment are eligible to offset future regular tax with an AMT credit. It is important to note, in order to benefit using the refundable AMT credit provisions, the AMT credit must be old enough to qualify as a “long-term unused minimum tax credit.” This is defined as a minimum tax credit from more than three years ago that has not yet been utilized by the taxpayer; in other words, an AMT credit carryover that is more than three years old. What makes this credit so attractive is that the amount of AMT credit allowed under current rules can be greater than the total amount of your tax liability. Furthermore, as long as the unused credit is at least four years old, you can claim it even in a year you pay AMT.
How the Refundable AMT Credit is Calculated
The amount of allowable AMT refundable credit is based on the amount of the long-term unused minimum tax credit (MTC). The current rules set the amount equal to the greater of (1) 50% of the long-term unused MTC for the tax year, or (2) the amount (if any) of the AMT refundable credit amount for the preceding tax year. This essentially allows a taxpayer to recover their entire amount of MTC over no less than a two-year period. In the past, the credit was phased out for certain high income taxpayers, however, Congress eliminated the income phase-out beginning with the 2008 tax year.
Credit Set To Expire at the End of 2012
Unless the rules are extended, it is important to note that the refundable AMT credit provision will expire after 2012; therefore, taxpayers will no longer be able to receive a refund of their long-term unused AMT credits if it exceeds their regular tax liability. It is essential for anyone having a long-term AMT credit to review their situation before 2013 in order to ensure they take maximum advantage of the refundable AMT credit. This can be a somewhat sophisticated and complicated subject matter for some individuals; therefore, one should consider seeking the guidance of a skilled practitioner to assist them in navigating this time sensitive tax analysis.