Congress Bails Out Taxpayers Too

One-Year AMT "Patch" Has Two Parts

If Congress had not taken action, millions more individuals would have been forced to pay the alternative minimum tax (AMT) for 2008. So  another one-year patch was put in place to prevent this from happening. It has two parts:

1. Expanded Exemptions. The first part of the patch establishes expanded AMT exemption amounts for 2008. You subtract the exemptions in calculating the amount that will be taxed under the AMT rules. Bigger exemptions mean less chance of being hit with the AMT. The expanded exemption amounts for 2008 are as follows.

• $69,950 for married joint-filing couples and surviving spouses (up from $66,250 for 2007).
• $46,200 for unmarried individuals (up from $44,350).
• $34,975 for married individuals who file separately (up from $33,125).

Warning: These exemptions are phased-out for higher-income taxpayers. For married joint-filers, phase-out starts when income under the AMT rules exceeds $150,000. For unmarried individuals, the phase-out threshold is $112,500. For married individuals who file separately, the threshold is $75,000. The new law doesn't change the unfavorable phase-out rule.

2. Personal Credits Can Offset AMT. The second part of the AMT patch allows you to use some personal tax credits to reduce your 2008 AMT bill as well as your regular tax bill (the same deal applied for 2007). Being able to use these credits against the AMT reduces the odds of being hit with it for 2008. Specifically, the nine credits listed below can be used to reduce your AMT liability:

• The child credit (up to $1,000 per child);
• The Hope Scholarship education credit (up to $1,800) and Lifetime Learning education credit (up to $2,000);
• The child and dependent care credit;
• The adoption credit;
• The credit for qualified energy-saving items installed in your residence;
• The retirement saver's credit;
• The credit for elderly and disabled individuals;
• The mortgage credit; and
• First-time homebuyer credit for those in the District of Columbia.

You may not recognize some of these credits because relatively few taxpayers are eligible for them. However, the first five are pretty common. Unfortunately, the first four are all reduced or eliminated if your income exceeds certain thresholds. The new law doesn't change that.

Alternative Energy Tax Breaks

The new law reinstates many personal tax breaks -- and in some cases, makes them better. For example, the solar industry received a boost in the form of a greatly enhanced tax break for homeowners who install equipment that uses the power of the sun.

The credit for 30 percent of expenditures to install solar electricity generation equipment, solar water heating equipment, and fuel cell equipment in your residence was set to expire at the end of this year. For 2008 (and earlier years), the maximum annual credit for solar electricity generation equipment is $2,000. The same amount is available for solar water heating equipment. For fuel cell equipment, the maximum annual credit for 2008 and earlier years is $500 per half kilowatt hour of capacity. The new law extends the credit for these items through 2016 and also makes some favorable changes.

For 2008 to 2016, 30 percent of expenditures for wind energy equipment and geothermal heat pumps can also qualify for the credit (subject to annual dollar caps). For 2009 to 2016, the $2,000 annual cap on the credit for solar electricity generation equipment is removed. Since the cost of a solar roof system can run $20,000 or more, the elimination of the cap can mean more dollars in the pockets of homeowners who invest in one.

However, the annual dollar caps for solar water heating and fuel cell equipment remain in place for 2009 to 2016. Finally, the 30 percent credit can be used to offset both regular tax and AMT bills for 2008 to 2016.

The separate credit for installing energy-efficient insulation, windows, doors, roofs, and heating and cooling equipment in your residence expired at the end of 2007. The new law restores it (with some minor changes) for 2009. Oddly, it skips over 2008 entirely. The maximum credit is only $500 over your lifetime, so while it's helpful if you qualify, it doesn't amount to a great deal of money. In any case, if you want to claim it and are planning purchases, you should wait until next year.

Other personal tax breaks that have been extended or reinstated are listed in the right-hand box.

Liberalized Refundable AMT Credit Rules

The new law makes huge improvements to the refundable AMT credit rules.

The old rules: In 2007, individuals who generated AMT credits a few years back (typically from exercising lucrative incentive stock options) could potentially start benefiting from their unused credits from pre-2004 years by filing a special form with their 2007 returns. The old credits could be then used to reduce both their 2007 regular tax bills and their AMT bills. Amounts in excess of their 2007 tax bills were paid to them in cash. In other words, these old unused AMT credit amounts were refundable.

However, under the rules that applied for 2007, it could take up to five years to convert large unused AMT credits from pre-2004 years into refundable credits. It could take even longer for higher-income individuals, because the refundable AMT credit was partially or completely phased out for them.

How the new rules improve some taxpayers' situations: For 2008 and beyond, the phase-out rule for higher-income taxpayers is eliminated. In addition, the new law allows a taxpayer to immediately collect 50 percent of any unused AMT credits generated in pre-2005 years on his or her 2008 Form 1040. The taxpayer can collect the remaining 50 percent on his or her 2009 tax return. Unused AMT credits generated in 2005 and later years can also be recovered over a two-year period, but a taxpayer has to wait until the credits are three years old before starting to cash them in. For instance, an unused AMT credit generated in 2005 can't be turned into a refundable AMT credit until 2009.

Bottom Line: The new refundable AMT credit rules are great news for individuals with large unused AMT credits. Some people have them in amounts that run into six figures and more. Now they can finally collect them.

Additional Relief for Prior-Year AMT Victims

Another provision in the new law lets individuals walk away from unpaid AMT liabilities that were outstanding as of October 3, 2008 to the extent those liabilities were triggered by exercising incentive stock options before 2008. These individuals are also not liable for related interest and penalty charges assessed by the IRS. Those who have already paid interest and penalty charges can recover them over two years under the revamped refundable AMT credit rules.

How the New Refundable AMT Credit Rules Work

For 2008 to 2012, the new refundable AMT credit rules apply. (After 2012, this provision is scheduled to end.) The new rules have the same basic structure as the rules that applied for 2007. However, they eliminate the phase-out provision for higher-income taxpayers. Under the old rules, some higher-income taxpayers might have died before collecting their rightful AMT credits. The new rules fix that problem.

For 2008 to 2012, the new rules also make an extremely beneficial change to the annual limitation on refundable AMT credits. Under the new limitation, the refundable amount for the current year equals the greater of:

• 50 percent of the long-term unused AMT credit amount carried into the current year (in other words, the amount of unused credits that were generated more than three years before the current year); or
• The amount of refundable credit claimed for the preceding year (not to exceed the long-term unused credit amount carried into the current year).

This may sound confusing and your tax adviser will handle the paperwork, but the following example shows how the new rules work.

Example: Let's say you have a $100,000 long-term unused AMT credit carried into 2008. The credit was generated back in 2004 when you exercised some lucrative incentive stock options.

For 2008, your refundable AMT credit amount is $50,000 (.50 times $100,000). You can collect the entire $50,000 on your 2008 tax return. (By "collect," we mean you can use the $50,000 to reduce your 2008 federal income tax bill to zero with any leftover credit refunded in cash.)

In this example, your 2009 refundable AMT credit is also $50,000 (which equals the entire unused long-term credit amount left over from 2008). You can collect the entire $50,000 on your 2009 return.

In summary, the new rules ensure that you receive the long-term unused AMT credit over a two-year period. Under the old rules, it could have taken five years or longer (maybe much longer if you had a high-income).