Six Ways to Reduce or Eliminate AMT
The Alternative Minimum Tax or AMT was created in 1969 to ensure that wealthy taxpayers weren’t abusing loopholes and workarounds to avoid paying tax. Unfortunately, start-up tech employees have become especially prone to AMT when exercising their Incentive Stock Options or ISOs. Essentially, you own extra federal income tax (and state AMT in California) on the exercise or buying and not selling during the tax year of ISOs. You can essentially own tax on stocks that are not liquid that you cannot trade in the marketplace. AMT can be a very costly and surprising tax bill for tech employees, and they often want to know how to reduce or eliminate AMT.
What are the top six ways of reducing or eliminating AMT?
1. Reduce your Taxable Income. One of the easiest ways to reduce your income and reduce or eliminate AMT is to max out your 401(k) plan. With a 401(k) plan, you can contribute up to $20,500 in 2022 (under 50 years old), so it would make sense to max out your 401(k) to reduce your income and possibly eliminate AMT payable.
2. Make Pre-Tax Contributions: Max out contributions to Flexible Savings Accounts of FSAs, or if you have a high deductible health plan, max out contributions to Health Savings Accounts (HSA). These are easy ways to reduce your income, like the 401(k) plan. Unfortunately, many tech employees do not take advantage of these for both health care FSAs and dependent care FSAs for childcare.
3. Max out Employer-Sponsored Benefits: Increase employer-sponsored life insurance and disability insurance contributions to reduce your income as these are paid pre-tax. These cafeteria plans are a great way to get the benefits, lower your taxable income, and owe less AMT.
4. Run a Small Business. You can have a solo 401(k) plan and max out contributions to reduce taxable income if you run a small business. Alternatively, any loss from a company will reduce your taxable income. Rental real estate is a way to defer taxes and lower payments. Essentially, running a business can be a great way to reduce or eliminate AMT.
5. Have Tax-Efficient Investments: Contribute to your taxable brokerage account. Getting municipal bonds and other mutual funds or stocks that do not have dividends will reduce income. Keep investment for at least one year to get long-term capital gains on the earnings.
6. Give to Charity. One way to reduce your income is to give to charity. You will need to exceed your standard deduction to take advantage of this benefit. However, you can contribute towards a donor-advised fund and get an immediate tax deduction.
AMT is not the end of the world. After you pay AMT, there are tax credits where you can recoup some or all of the taxes paid in future income tax filings. Check with a financial planner to determine whether you will be paying AMT and how to find strategies to minimize the impact of AMT more effectively. Reach out to me below, and I can provide an estimate of your AMT and provide plans from now on how to reduce or eliminate your AMT.
*This content is developed from sources believed to be providing accurate information. The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any federal tax penalties. Individuals are encouraged to seek advice from their tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a representation of a specific investment or the purchase or sale of any securities. Asset allocation and diversification do not ensure a profit or protect against loss in declining markets.