What doctors and dentist didn’t learn in school: Alternative Minimum Tax (AMT)

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The alternative minimum tax (AMT) was originally included in the Tax Reform Act of 1969 as a mandate to ensure that high-income individuals paid their fair share of federal income taxes.

Prior to its passage, there was a public outcry over a group of about 155 high-income who were able to escape paying most, if not all, federal income tax by taking advantage of key deductions and loopholes in the tax code.

Unfortunately, what was meant to penalize 155 high income tax payers in 1970, now impacts over 5 million filers in the United States, including over 400,000 physicians and dentists. Because it is likely to affect your financial future as healthcare professional, it is important to understand the basics of AMT. And it’s always best to consult a tax planner or financial adviser.

How is AMT calculated?

To understand AMT, you first have to understand the tax code. Doctors and dentist generate income. Some healthcare professionals generate income by working for a hospital or dental corporation (receiving a W2 form at the end of the tax year), while others may have a successful private practice (self-reporting income on Schedule C, Form 1040). The total income that you generate in a year is your gross income.

From that gross income, the IRS allows filers to deduct (or remove) the amount of income that is taxable—a deduction. The income after that deduction that is subject to tax is referred to as adjustable gross income (AGI).

Here’s an example:

Dr. Taxpayer runs a successful dental practice. He reports $200,000 gross income per year from his practice. He has $50,000 in business expenses per year (deductions). His tax bracket is 20%. His total taxable income (AGI) would be $150,000 ($200,000-$50,000). His total tax would be $30,000 ($150,000 x 20%). Without the deductions, his tax would be $40,000. So he saved $10,000.

What can and cannot be deducted from gross income is outside the scope of this article, but here are some general principles.

Charity donations, state and local income taxes, real-estate property taxes, interest on home equity loans, retirement saving, and medical savings account contributions are generally considered deductible from your gross income (up to a limitation). You can deduct the dollar amount you pay for these items from your gross income to calculate your adjustable gross income and federal income tax.

Here’s another example:

Dr. Income Tax works for a hospital. He earns $175,000 per year. He owns a home and pays $5,000 in mortgage interest and $10,000 in real-estate taxes per year. His state income tax this year is $8,000. He contributes $15,000 to his 401K. His taxable income (adjustable gross income) would be $137,000 per year. ($175,000 – $5,000 – $10,000 – $8,000 – $15,000). He would only pay tax on $137,000.

If you’re interested in learning what other deductions you may and may not be eligible for, consider speaking to one our tax partners. Click here to learn more.

Now that you understand the basics of income tax, here’s a brief overview of how AMT works. AMT is not for everyone. It only comes into play at different income levels depending on one’s filing status (single versus married versus head of household).

But its safe to say, if you’re a doctor or a dentist, you’ll need to consider AMT.

AMT takes your adjustable gross income and adds back certain deductions that you would normally be able to deduct, thereby increasing the amount of tax you would have to pay.

The most valuable of these deductions for doctors and dentists who are NOT self-employed would be the state and local income taxes and real-estate property taxes. In other words, these are the taxes you pay your state

In the second example above, Dr. Income Tax would NOT be able to remove (or deduct) the $10,000 in real-estate taxes per-year or the state income tax of $8,000. His taxable income would be $155,000, instead of the $137,000.

No one ever said taxes were simple, so let’s make this a little more complicated.

AMT tax rates are different and higher than individual rates.

The AMT tax rates are 26% for the first $186,300 of AMT taxable income, and 28% for any amount of AMT taxable income above $186,300. These rates are different than the regular tax rates.

For our more tax-savvy readers, here’s a link to an article that flushes the adjustments to AGI for AMT. Alternative Minimum Tax: Common Questions.

I am a going to paying AMT this year. Any suggestions on how to reduce my taxes?

Although the number of deductions are limited for tax payers subject to AMT, there are ways to minimize your tax burden by taking advantage of key deductions that are still allowed. For instance, do you contribute the maximum amount to your retirement plan? Have you ever considered opening a health savings account or maybe donating to charity on yearly basis?

These are things you should think about if you’re subject to AMT. Remember, when in doubt, its always best to consult a tax advisor.

Click here to connect with one of Clineeds accounting partners that specialize in AMT.

Questions? Comments? Post below!

Tax tip from the experts.

Many healthcare professionals who receive a W2 are fooled into believing that purchasing a home or a condo can be an effective way to save on their federal taxes. This may be true, but the savings can be mitigated by AMT. AMT forces tax payers to add back the state and local property taxes to their adjustable gross income, essentially wiping out this deduction and potential tax savings. Also, now with the recent passage of the Tax Cuts and Jobs Act (2017), state and local taxes (SALT) is capped at $10,000 per year. This may, unfortunately, further negatively impact many high-income healthcare professionals.

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