November is a good time to meet with clients for tax planning because most income and deductions can be estimated by then, yet there is still some time to change the result for the better. This year you will have to bring up the dark side of the tax cut--the AMT--at your year-end meeting.

Even if you have never mentioned it before, it may pay to address AMT regularly to avoid unhappiness at tax time. The tax cut has exacerbated the AMT effect, a trend that will increase as more tax cuts phase in each year. So explain possible problems to your clients now, before telling them they will only pay a 15% tax on long-term capital gains and certain dividends.

The 2003 Tax Act lowered income tax rates, which throws more of your clients into AMT. The AMT tax rates are 26% for AMT taxable income of up to $175,000 and 28% for AMT income above that. For married couples filing separately, the cut-off is half of the $175,000, or $87,500. Notice that I used the term "AMT taxable income" or AMTI. That is because that amount can differ radically from taxable income calculated under the regular method.

Once you find a client's AMTI, you can reduce that by his or her AMT exemption. Under the AMT, some of your client's biggest tax deductions are disallowed and replaced with an overall AMT exemption. The long list of lost deductions includes state income taxes, real estate taxes, certain home equity interest, all work-related miscellaneous itemized deductions, and personal family exemptions. For 2003, those exemptions are $3,050 per dependent.

The new tax law increased the AMT exemption for this year and next year to $58,000 for married-joint filers and $40,250 for singles. After 2004, however, the AMT exemption reverts to pre-2003 amounts, $45,000 and $33,750.

The exemption is subject to income limits and can be phased out for many taxpayers. The phase-out begins when AMTI exceeds certain levels$150,000 for married-joint filers, $112,500 for singles, and $75,000 for married-separate filers. The exemption phases out at the rate of $0.25 for each dollar over the phase-out limit. For example, if your client is filing married-joint and her AMTI is $250,000, her $58,000 AMT exemption will be chopped down to $33,000. She has exceeded the AMT phase-out limit of $150,000 by $100,000 and will lose $25,000 of her exemption. So, $58,000 less $25,000 leaves her with an AMT exemption of only $33,000.

When AMTI is $382,000, married-joint filers totally lose their $58,000 exemption. This $382,000 exceeds the $150,000 phase-out range by $232,000, and 25% of $232,000 is $58,000, thus reducing the exemption to zero. Singles lose their exemption at $273,500 and married-separates at $191,000.

Once clients lose all of their AMT exemptions, they still lose all the other deductions not allowed under AMT, even though the AMT exemption was supposed to replace those deductions. If their incomes are too high, they will lose both their tax deductions and their AMT exemptions, and they will usually end up paying more tax, especially after the new tax cuts.

Remember how your clients were cheering when the new tax law cut the rates on long-term capital gains and certain dividends to 15%? They've even started loading up on dividend-paying stocks. But guess what? The AMT increases that, too. The tax rate is still 15%, but capital gains and dividend income increase your clients' AMTI. If they are high enough, clients can lose their AMT exemptions and pay a tax increase on their capital gain.

If your clients live in a high tax state, the extra state tax paid on the capital gain is not deductible under AMT. The loss of a deduction is the same as a tax increase. Think of it this way--if clients are in the AMT phase-out range, every dollar of capital gain increases their AMTI by $1.25. Although the AMT tax rate is lower than the regular tax rate, it's still expensive because it is based on a higher income base.

Let's look at how a $40,000 long-term capital gain (supposedly taxed at 15%) really costs a client more under the AMT. Remember, the tax rate is still 15%, but the extra capital gain income causes him to lose part of his AMT exemption. His $40,000 capital gain will reduce his AMT exemption by $10,000 (25% of the $40,000). If he loses $10,000 of his AMT exemption, and he is at the 28% AMT rate, he will owe an additional $2,800 in AMT. Add that $2,800 to the $6,000 capital gains tax ($40,000x15% = $6,000), and his real tax on the $40,000 is $8,800, raising his capital gains tax rate from 15% to 22% ($8,800/$40,000 = 22%). That rate will be even higher in a state that taxes capital gains. At 22%, the AMT actually causes a 46.67% increase in the "lower" 15% capital gains rate.

While the AMT system is tough to beat, there are some planning moves that can lessen the pain somewhat. If it looks like your clients may get hit with the AMT, you can go into reverse planning mode. That is, clients forced into AMT will likely have lower tax rates. And at lower tax rates, you'll want to reverse traditional planning strategies by bringing income into this year and deferring expenses until next year. Deductions are worth less at lower tax rates and are completely worthless if they are lost under the AMT system.

For example, most year-end tax tips tell taxpayers to make their final 2003 state estimated tax payment (which is not due until Jan. 15, 2004) by year-end so they can receive an extra tax deduction in 2003. But if your client loses the deduction anyway under AMT, pay it next year. (Of course, the client could lose it next year too if he or she is still subject to the AMT.)

On the income side, clients could withdraw more from their IRAs, take lump-sum distributions, or convert IRAs to Roth IRAs. If they add enough income, it might throw them out of the AMT and then reduce their overall tax on the additional income. The general idea is to have deductions included in tax years when clients are under the regular tax system and move income into years when the AMT applies. (Clients cannot convert to a Roth IRA if their incomes exceed $100,000, likely for AMT candidates. The conversion income itself does not count against the $100,000 income limit, however.)

If you are able to arrange income and deductions to keep your clients out of the AMT at least every other year, that leaves you some planning flexibility to accelerate and defer their income and deductions. This way you lessen the impact of the AMT in the years that it applies. Self-employed individuals and investors have the greatest flexibility in shifting their income.

There is also an AMT credit, which can reduce the impact of AMT somewhat. The AMT credit does not apply to items like state tax deductions and exemptions for childrenthose are lost. But it does apply to deferral items, such as depreciation or incentive stock options, where the tax breaks are lost because of timing. They do not cause a permanent difference in income like state tax deductions would, though. For example, depreciation deductions are recaptured when the asset is sold, so the deduction is only temporary.

The AMT credit clearly has minor appeal. Clients cannot claim it in any year when they are subject to the AMT. In addition, the credit is limited in many cases. Clients can only use the credit to the extent that their regular tax liability exceeds what would have been their AMT. If a client has a $20,000 AMT credit and her regular tax is $50,000, but her AMT for that year would have been $48,000, she can only use $2,000 of the $20,000 AMT credit. The AMT credit is claimed on Form 8801.

The best you can do with the AMT is to let your clients know about it before they see their tax returns and wonder what the heck hit them. The AMT is one of the all-time greatest stealth tax increases ever enacted. The tax revenue it generates keeps growing, so don't expect Congress to end that cash cow any time soon.

Ed Slott, a CPA in Rockville Centre, N.Y., is a nationally recognized IRA distribution and tax expert and author of The Retirement Savings Time Bomb...and How to Defuse It (Viking; 2003) and Ed Slott's IRA Advisor, a monthly IRA newsletter. Visit his website at www.irahelp.com.