The gnarliest, most evil tax in all the land. The alternative minimum tax is supposed to close a set of loopholes in the tax code that allowed rich people to cheat on their taxes.

I suppose that makes me rich, then. Or, at least, I was, until I had to pay the tax.

The way alternative minimum tax works is subtle. You work at a startup. You get stock options (a particular kind of stock option called an incentive stock option, in fact, is the only way this happens). Usually your strike price is very low, less than one dollar per share, but since the company is private, the stock isn't liquid. Later on, the company goes public (IPO!), or is acquired by a public company. Now your startup-stock is worth real money. You are "rich."

You decide to exercise your options and hold onto the stock, because you think the company is a good one, and will grow and grow, along with your stock. Because you have incentive stock options, you can do this. However, here comes Mr. AMT to whack you. When you next pay your taxes, you have something called an AMT preference item equal to the "gain" you realized when you exercised the option. If after the IPO, your stock is at 15 dollars, and your price was one dollar, the IRS thinks you made 14 dollars per share, even if YOU DIDN'T SELL THE STOCK so YOU DON'T HAVE THE MONEY. You owe this tax many months later (on April 15) -- and if you are trying to hold onto to your shares to get long-term capital gain treatment for them (which is supposed to be the responsible way to invest), you may have tried to do this deal in March of 2000, when your stock was even higher. Ironically enough, this was the high point for the US stock market, and most stocks have fallen by more than 70-80% in value in the last 6 months.

Now, your federal tax liability is 28% of the 14 dollars gained, which is about $3.50, but the stock is trading at $2. You did this for many tens of thousands of shares, so your tax bill is many hundreds of thousands of dollars, and the stock you own is worth much less than that now. And of course, the great state of California also has AMT, at a lower rate, that adds another 7-8% to what you owe.

Bankruptcy starts to look good. Unfortunately debts to the IRS are not cleared by personal bankruptcy.

The totally ludicrous thing is that there is no way to re-value the "gains" you never realized, based on current market conditions (i.e. tax me based on the share price I actually have today -- which I by definition could afford to, and would willingly pay). If the tax code did this, no one would have a problem.

But, it doesn't, and now I know more about option collars, derivative-based hedge structures, and tax attorneys than I care to. And I have a lot of bankrupt friends. Sigh.

Apparently dubyah is talking about repealing AMT, but not retroactively.

Postscript: I am not a proponent of the flat tax, as some have accused me. I'm perfectly willing to pay my share -- but my marginal tax rate of nearly 200% of W-2 income, well that doesn't quite seem right. See also The Parable of the Tenth Man.

Thanks to _Yup for pointing out a typo.
Stock Options are not the only thing that can get an honest guy snagged for the AMT. Taxpayers must fill out form 6251 if they make over $22,500 and claim credits for:

Driving an Electric Vehicle
Using a solar panel (or any "alterniative fuel") to generate energy for their home
Large medical deductions
You own a business (even Avon or Tupperware)
Inheriting money or assets
Claim intrest on a second mortgage

So there must be some ajustment to make the AMT fair right? Riiiiiiiiiight!

Oil drilling costs (and Mr. Bush doesn't want to make the update of the AMT retroactive?)
Mining exploration and testing
Circulation expendatures (have any of those lately?)
The spouse but not the kids

The law was written in 1969, and modified in 1978, 1982, 1987, 1990 and 1993 - no wonder it's a little complicated. A good rule of thumb is to meet with an accountant (yes get an accountant) BEFORE the end of the calander year if you make over $75,000 per year. There are a few things you can do to your regular taxes that may lessen your total tab.

There is no official IRS publication for taxpayers on the AMT, you can read the IRS auditor's instructions at
Information from:

and me, who got hit with AMT along with 3 million other Americans this year, and 8.4 million will by 2007.

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