'Stealth' tax is back: An advisor primer on the alternative minimum tax

The tricky alternative minimum tax is coming back into play for many clients and their financial advisors under the One Big Beautiful Bill Act. 

But understanding the AMT's history can help explain its complicated rates, phaseouts and exemptions — and their impact on clients. The origin story of the AMT rings familiar in some ways. In others, it sounds like the events took place in an alternative universe.

Days before President Richard Nixon took office in January 1969, Treasury Secretary Joseph Barr of the outgoing Johnson administration warned the Joint Economic Committee of Congress that there could be "a taxpayer revolt over the income taxes in this country" from middle-class households. They "pay every nickel of taxes at the going rate" because they "do not have the loopholes and the gimmicks to resort to," Barr said. Two years earlier, 155 households with over $200,000 in income ($1.76 million in today's dollars) and 21 above $1 million ($8.8 million today) had paid "not 1 cent of income taxes," Barr told Congress.

"You look around and you see many people with huge advantages," he said. "Now, these are difficult to terminate. These special tax provisions are controversial subjects, Mr. Chairman, but I submit that if we are going to maintain this magnificent tax system with its advantages for revenues and provide the revenues that Sen. [Jacob] Javits [of New York] mentions that he wants to use in the cities and the rest of you want to use for various purposes, it must be a fair system."

In 1969, Congress received more constituent mail expressing outrage over the wealthy households that didn't pay federal income tax than it did about the Vietnam War. In response, Congress passed legislation for an "add-on" minimum tax for certain well-off households that President Nixon signed into law in 1969. The resulting policy stemming from Barr's passionate and effective call for "equity of taxation" evolved, decades later, into the subject of bipartisan criticism for being a "stealth tax" full of confusing rules that made the AMT more likely to hit middle-class households than wealthy ones. Rather than altering the income tax, policymakers created an alternative structure with its own guidelines. 

Yoichi Okamoto/LBJ Library Photos

The Tax Cuts and Jobs Act of 2017, however, drastically cut AMT liability. The One Big Beautiful Bill Act expands the AMT to more high-income taxpayers than under the TCJA, although not even close to as many additional households as would have been affected had the relevant provision of the TCJA been allowed to expire at the end of the year. No one is sure of the exact extent of looming AMT payments by the nature of its terms. Under the AMT, taxpayers send Uncle Sam the higher raw number between the alternative system of taxation with fewer itemized deductions and the traditional federal income tax. The difficulty of calculating the AMT's impact reflects only one aspect of the tax's complexity for advisors, tax professionals and their clients, as well as policymakers seeking to abolish the AMT altogether.

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Hello, old frenemy: Who the new AMT structure will affect

Planners who acquaint or reacquaint themselves with the nature and rules of the AMT can prepare clients for the ramp-up under OBBBA. Starting next year, more of them will have a so-called tentative minimum tax payment from the AMT that may turn into an actual payment, if it's larger than the client's basic income liability. 

In particular, clients who are receiving the higher deduction for state and local taxes under OBBBA, spread income from private activity bonds or compensation from incentive stock options will be the most likely to fall under the new structure of the AMT, according to Ben Henry-Moreland, a former planner who's a senior financial planning nerd with the Kitces.com blog, and Holly Swan, the head of wealth solutions in the global client strategy unit of asset management firm Allspring Global Investments.

Allspring Global Investments

The "millions of taxpayers who were subject to it who stopped being subject to it" will probably "already have some familiarity," with the AMT, Swan said. Compared to the roughly 200,000 households that were covered by the AMT under the 2017 law, the new rules are "not going to capture nearly as many people" as the 7 million that would have fallen under its purview in a lapse of the rules, she noted. But Swan predicted that several millions more will pay or at least estimate their AMT under OBBBA's rules in 2026.  

"The people who are going to need a lot of education are the people who are newer to wealth, newer to employment," she said, noting how many tech startups compensate their teams with stock options. "There are so many younger employees. That is a group of individuals who are going to need a lot of education around this, because they probably haven't dealt with this before. … Unfortunately, I am guessing a lot of those early-stage employees are doing self-service investing. So they hopefully are looking for this education on their own."

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Calculating, or trying to calculate, the new AMT

Both Swan and Henry-Moreland have distilled the numbers underlying the new guidelines. First, planners and their clients will need to find their specific AMT income by adding the "preference items" among deductions that include the three listed above (the SALT deduction, income from private activity bonds and incentive stock option compensation) — as well as any accelerated depreciation, certain miscellaneous and business deductions and, if they used it, the standard deduction — to their standard income. Then they subtract the AMT exemption from their AMT income. 

This year, the exemptions are $88,100 for individuals and $137,000 for couples — but AMT exemption amounts are subject to inflation. Before that step, though, taxpayers determine whether their AMT income is high enough to hit a phaseout point that reduces their exemption: $626,350 for individuals and $1,252,700 for joint filers in 2025. For 2026, the phaseout point will be reduced to $500,000 and $1 million, subject to annual inflation adjustments. And under OBBBA the exemption will vanish twice as quickly, at 50 cents on the dollar from 25 cents with TCJA's rules. 

Ben Henry-Moreland

Once tax planners and their clients know their exemption, they can come up with their taxable AMT income by using a 26% rate for the first $239,100 of that income for joint filers (or $119,550 for individuals) and a 28% rate for the rest. When they have that number, they will reduce the amount of any AMT foreign tax credit they have claimed from their taxable AMT income. And then they can compare the AMT liability — their tentative minimum tax — to that of their basic income. The household will pay the higher of those two numbers. 

"A lot of people like to, I think, ignore the AMT a little bit," Henry-Moreland said. It's no wonder — with TCJA, just 0.1% of households ended up with AMT liability, versus about 5% prior to the 2017 law, he noted. The new law won't push the share to that level, but a small yet meaningful subset of clients may require planners to bring the AMT to their attention for a valuable conversation on whether to accelerate some forms of income in 2025 over 2026.

"It's a complicated thing. People don't like to talk about it. People don't like to plan around it," Henry-Moreland said. "It will be more than it has been for the last eight years, but probably not as many as before then. It will become a little more relevant, but it will not be a huge planning issue for masses of taxpayers."

The number of households paying AMT fell to between roughly 150,000 and 250,000 per year between 2018 and 2022 under TCJA, but an average of 5.98 million households filed Form 6251 to show their tentative minimum tax calculation, according to a September study by the Tax Foundation, a nonprofit, nonpartisan research organization. While OBBBA's adjustments will bring "a substantial move toward simplification" from the days before TCJA, when 10.78 million households filed the form, the new rules for AMT "will mean slightly more AMT filers, more AMT calculators, and accordingly more complexity," the report said. 

That disparity between the number of taxpayers estimating their possible liability and those who end up paying represents another frustrating aspect of the AMT — and it will be more pronounced under OBBBA, noted Garrett Watson, a senior policy analyst with the foundation. The requirements for the Senate reconciliation process that Republicans used to pass OBBBA earlier this year likely made the alterations necessary for the law's writers, he said. So even though the tax won't affect a lot of households' returns, it packs a punch for those who may now have to pay AMT, and it creates more headaches for anyone with a new IRS form to fill out.

"You have to basically calculate taxes twice," Watson said. "That just adds time in the calculations. There are separate sets of rules."

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The history of a political football, and other legislative metaphors

The alternative tax system morphed over time from the relatively simple "add-on" tax, which Congress repealed in 1982, to the AMT, which began in 1978 and has seen many alterations since then. Its earlier lack of inflation indexing for the AMT exemption kept adding to the number of households that had liability. That led Congress to enact a series of "patches" that temporarily shielded some wealthy households but left the underlying policy intact. 

By 2010, it was "threatening 23 million taxpayers, including firefighters, teachers and others who were never intended to fall under its grasp," to the point that households with less than $100,000 in income comprised 52% of those covered by the AMT's rules, according to a 2008 academic study called "The Downward Creep: An Overview of the AMT and Its Expansion to the Middle Class." Both a 2005 tax reform panel and the 2010 National Commission on Fiscal Responsibility and Reform (the Simpson-Bowles Commission) called for abolishing the tax. The National Taxpayer Advocate, an independent ombudsman-style post at the IRS, frequently identified the AMT as one of the "most serious problems" with taxes.

"What we have, in essence, is one law that grants popular tax benefits (the regular tax code), another law that eliminates the benefits (the AMT), and then yet a third law that undoes the elimination of benefits (the patches), usually at the last minute — a legislative Rube Goldberg contraption of unnecessary complexity," according to a 2012 report to Congress from the Taxpayer Advocate's office. That created "a hidden tax increase" from the AMT that would accompany any "serious tax reform," the report said. And repealing the AMT would "seem unduly expensive by comparison, even if the public would not accept and Congress would not adopt the hidden AMT tax increase that exists under the current law system of patches."  

The 2012 tax law raised the AMT exemption and adjusted it for inflation, but the number of taxpayers subject to it kept climbing — 7.3 million households would have paid the AMT in 2026, had Congress allowed that part of the TCJA to expire. The TCJA boosted the AMT exemption and phaseout thresholds significantly, while paring back the preference items included in the calculation of liability. Without any changes from OBBBA, more than 20% of taxpayers with income between $200,000 and $500,000 and over 70% of those with income between $500,000 and $1 million would have paid higher taxes due to the AMT.

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Looking ahead to the 2026 tax year

The AMT picture won't look that stark next year, thanks to the new law. Nevertheless, the new rules will place some clients in what Henry-Moreland calls the "bump zone" of potentially higher marginal tax rates for certain households with incomes between $500,000 and $676,200 for individuals and from $1 million to $1,274,000 for couples. Because of the phaseout formulas for the exemptions, each dollar above $500,000 for single filers and $1 million for couples effectively counts as $1.50 of AMT income, he pointed out. So some households that fall into the bump zone might pay Uncle Sam at a 42% effective rate, which is five percentage points higher than the top tax bracket for the regular income tax.

Since it's "almost impossible" to do some sort of a back-of-the envelope calculation without tax software calculating the "many moving parts and areas that impact other areas," advisors who don't prepare returns should encourage clients to get an AMT projection from a tax professional and to consider whether rules like the expanded SALT deduction could affect their taxes, Henry-Moreland said. "For those advisors, it's more helpful to know what situations you might see with clients where they might be triggering AMT where they weren't necessarily before."

Income from the yield on private activity bonds, which are public-private versions of municipal bonds that finance certain kinds of infrastructure, constitutes another such situation, Swan noted.

"Particularly for retirees who might be heavily invested in private activity bonds as their retirement income stream, suddenly being subject in retirement to the AMT could be catastrophic," she said. "That could get really ugly." 

In general, the "big gap" between the taxpayers who must calculate potential AMT liability and the smaller number who ultimately pay it presents the opportunity for future reforms, said Watson. For now, an as yet unknown number of additional households will pay the AMT in 2026 under OBBBA.

"If you only have to calculate it if you actually owe something, that may be helpful, in terms of the underlying complexity," Watson said. "I would expect a bump upwards in the years ahead, just because they did reset that phaseout amount and they changed the phaseout rate."