Does Your State Have an Individual Alternative Minimum Tax (AMT)?

August 18, 2021

This week’s map shows the five states that have an Alternative Minimum Tax (AMT) in their individual income tax codes: California, Colorado, Connecticut, Iowa, and Minnesota. Under an individual alternative minimum tax, many taxpayers are required to calculate their income tax liability under two systems and pay the higher amount.

The federal AMT was created in 1963, after Congress discovered that 155 high-income taxpayers were eligible to claim so many deductions that they ended up with no federal income tax liability at all. The federal AMT disallows the standard deduction and adds back certain itemized deductions—including the state and local tax (SALT) deduction—thus recapturing income from taxpayers who would otherwise be eligible to claim those tax expenditures.

While the federal AMT was originally intended to be a narrow fix to a narrow problem, it was not indexed for inflation. As a result, it wasn’t long before many middle-income taxpayers found themselves having to calculate and pay an AMT. Several states followed suit by implementing their own AMTs. This meant some taxpayers had to calculate their tax liability four times: twice under the federal code and twice under their state’s code. Frequently, moreover, AMTs increase tax liability more for the upper-middle class than for the highest earners.

The Tax Cuts and Jobs Act increased the federal AMT’s exemption amounts and phaseout thresholds through 2025, meaning fewer taxpayers will be required to calculate and pay the federal AMT in forthcoming years. In states that conform to the federal provision or use it as the basis for their own calculation, fewer filers will be subject to the AMT—for now. (To the extent that states use old thresholds, filers will have to go through the process of calculating a state AMT even if no longer subject to a federal AMT.) Unless Congress chooses to extend it, the higher exemption amounts will sunset after 2025, a change that will also impact state tax codes.

Iowa repealed its corporate AMT as of January 1, through a comprehensive tax reform package adopted in May 2018. While the state’s individual AMT is still in place, it is scheduled for repeal at the beginning of 2023.

The original goal of alternative minimum taxes—to prevent deductions from eliminating income tax liability altogether—can be accomplished best by simplifying the existing tax structure, not by creating an alternative tax which adds complexity and lacks transparency and neutrality.

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Tax expenditures are a departure from the “normal” tax code that lower the tax burden of individuals or businesses, through an exemption, deduction, credit, or preferential rate. Expenditures can result in significant revenue losses to the government and include provisions such as the earned income tax credit, child tax credit, deduction for employer health-care contributions, and tax-advantaged savings plans.

The state and local tax (SALT) deduction permits taxpayers who itemize when filing federal taxes to deduct certain taxes paid to state and local governments. The Tax Cuts and Jobs Act (TCJA) capped it at $10,000 per year, consisting of property taxes plus state income or sales taxes, but not both.

An individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S.

The Alternative Minimum Tax (AMT) is a separate tax system that requires some taxpayers to calculate their tax liability twice—first, under ordinary income tax rules, then under the AMT—and pay whichever amount is highest. The AMT has fewer preferences and different exemptions and rates than the ordinary system.