Paying AMT one year can lead to a large tax credit the next year. But not all cases apply - read more to find out where you stand
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- Paying the AMT today means you might be able to apply that amount as credit to future tax filing years
- The alternative minimum tax credit is only eligible to be used in future years where you don’t also have to pay AMT
- You must fill out a Form 8801 to claim this credit, and include it in your tax return. This guide makes it easy to include the AMT credit on your tax return
- Items on Form 8801 fall into one of two categories: deferral and exclusion items. Exercising ISOs luckily fall into the former:
- Deferral items (such as exercising ISOs) allow you to claim AMT credit in future years
- Exclusion items do not allow you to claim the AMT paid as credit in future years
- The AMT credit is something that carries over year to year. So if you don’t use all the credit it in one year, the remaining still applies for the following year after
What is the Alternative Minimum Tax Credit?
No one likes paying taxes. And typically the AMT is one of those ‘extra surprise taxes’ that you don’t know you have to pay until Uncle Sam comes knocking. Although it may be initially painful, the AMT is actually built in with a ‘rebate’ of sorts - the AMT credit.
The Alternative Minimum Tax can trigger when a multitude of things happen, most commonly being the exercising of Incentive Stock Options. The full list of AMT triggers is actually quite long, with many of which being obscure and rarely used. You can find this list on the IRS website, or just looking through all the subitems Q2 of IRS Form 6251
All these triggers, however, can be split into two main categories: Deferral Items or Exclusion Items.
Deferral vs Exclusion Items
Deferral Items are classified as items that don’t cause a ‘permanent difference in taxable income over time’, per the IRS. Basically, these are typically ‘one time lump sums’ that caused a spike in your tax in a given year but should not be the norm for you moving forward. For example, you may owe AMT this year due to exercising a lot of ISOs, but you probably won’t be exercising ISOs every year for the rest of your life. As such, the IRS recognizes that it is an anomaly so is providing you some credit to use in future years.
Examples of deferral items are: - Exercising Incentive Stock Options in previous years - Parts of an estate or trust - Mining, drilling, research, and experimental costs
Like the name suggests, Exclusion Items are those that do cause a permanent difference in taxable income over time. One example of an exclusion item is simply your standard deduction or parts of your itemized deduction. These are things that you likely will input into your tax returns year over year and so it doesn’t make sense for you to get a credit for them, even though some of them were factored into the AMT you paid in a prior year.
Examples (non-exhaustive) of exclusion items from form 8801 are: - Your itemized or standard deduction taken from the previous year - Tax exempt interest that you made previously - Qualified small business stock (this is completely different than ISOs)
If you had to pay AMT due to any trigger besides exercising ISOs, I would suggest consulting with a CFA or tax advisor on which things you can take as credit in future years
How to Use the AMT Credit
First and foremost, to use the AMT credit you must have paid AMT in a previous year
‘Paying AMT’ means that your alternative minimum tax owed was more than your regular income tax, which resulted in you paying an additional amount of tax. In addition, the maximum credit you can claim is only that additional amount. Thus, when you see phrases like ‘AMT paid’ online or on other websites, they are specifically referring to that difference only.
Let’s take this example to help clarify things: - When filing your 2019 taxes you used our handy dandy AMT Calculator AMT Calculator to determine that your regular income tax owed was $30,000 and your alternative mininum tax owed was $40,000. - That means you paid $40,000 in total taxes for 2019, since you pay the higher of the two - But specifically, the ‘AMT paid’, or difference between the two, was $10,000 - That means the maximum future AMT credit you can carryover is $10,000
Secondly, you can only use the AMT credit in a year where you don’t have to pay AMT again
Adding onto our previous example: - You are now filing your 2020 taxes. It just so happened that you exercised ISOs again in 2020 which resulted in a regular income tax of $35,000 and an alternative minimum tax of $47,500 - Because your AMT is higher than your regular income tax, you will have to ‘pay AMT’ again in 2020 (a difference of $12,500) - As such, you will not be able to use any of your $10,000 credit from 2019 in 2020. But you can still carry the $10,000 from 2019, add it to the additional $12,500 you will pay in 2020, resulting in $22,500 total, to future years
Fill out IRS Form 8801 in any year you want to claim the AMT credit
Not to be confused with IRS Form 6251, which is the form you submit in the year you actually pay the AMT, Form 8801 is specifically called “Credit for Prior Year Minimum Tax”.
There is no maximum credit you can use in a year, and the AMT credit carries over in perpetuity until you run out. Obviously, this is subject to change if the laws change in the tax code like they did in 2017 but as it stands for now, there is no cap for how much of your credit you can use in a year.
The credit functions just like a credit - it reduces your tax bill dollar for dollar.
Adding onto the example we’ve been working with: - You are now filing your 2021 taxes, with that $22,500 AMT credit from prior years saved up - You did not exercise any ISOs in 2021, and ended up with a regular income tax owed of $31,000 and no AMT owed. - After filling out Form 8801, it turns out you can use all $22,500 of your credit (in reality it will probably be a bit less due to some complex calculations that your tax software should do for you) - As such, the actual tax you owe for this year is only $8,500 (31,000 - 22,500)
Keep track of how much AMT Credit you have year over year
The AMT credit actually isn’t something the IRS tracks all too closely, so it is up to you to have the corresponding paper trail of AMT paid, AMT credit claimed, and AMT credit remaining in the event you get audited. Honestly, just having your tax returns saved and some original paperwork from the exercising of your ISOs should be enough.
Going back to the previous example: - Let’s say the regular income tax you owed was only $15,000 for the year 2021 - By applying the AMT credit you had saved up ($22,500) you could essentially reduce your tax bill to 0 for the year! - Because you didn’t use all of your AMT credit, you will still have $7,500 (22,500 - 15,000) to carry forward into 2022 and beyond
And you’re set!
All that’s left is to actually claim your credit, and you can do so by following our easy 3 step guide