No Relief for AMT Sufferers

Attention networking employees: Got problems with the Alternative Minimum Tax (AMT)? Despite the government's consideration of the problem, it doesn't look as if relief is coming any time soon.

For employees, the dangers of the AMT have been highlighted after many dotcommers and technology workers, who had received and exercised incentive stock options as part of their compensation, have been hit with extraordinarily high tax bills (see Option Tax Nightmares Teach Lessons).

So where's the problem? After the stock-market crash, there are now lots of people like 35-year-old Ron Speltz of Cedar Rapids, Iowa, who have racked up hundreds of thousands of dollars in debt and are threatened with bankruptcy after AMT troubles.

“The misconception is that the only people AMT affects are the very, very rich,” says Speltz.”But I’m just very, very screwed and very, very broke.”

The topic has recently come to the forefront again as top executives from Sprint Corp. (NYSE: FON) face possible bankruptcy after participating in tax shelters designed to minimize their tax liability from the AMT (see Sprint's Fun With the IRS).

The AMT was introduced in 1969, designed to prevent wealthy Americans from using deductions and credits to avoid paying any tax. But it has evolved into a stealthy and poorly understood tax that has financially ruined many middle-class taxpayers. In 2001, about 1.5 million tax payers were subject to AMT, and by 2010 that figure is expected to swell to 35.5 million, according to the U.S. Congress, Joint Committee on Taxation.

People are subject to AMT when they exercise incentive stock options and don’t sell them right away. The tax is calculated based on the difference between the exercise price and the value of those options on the open market the day the options are exercised. If the stock continues to increase in value, AMT is generally not a problem, because shares can be sold to pay the tax. But if the stock price falls drastically, the holder of the stock may not have enough value left in the stock to pay the bills.

Speltz, who has worked in the operations and maintenance division of carrier McLeodUSA Inc. (Nasdaq: MCLD) for over 10 years, had 35,000 shares of incentive stock options. In 1999, he began exercising his options, and had hoped to eventually sell his shares to build a new house for his wife and three small children.

He was advised by his accountant and his stockbroker to hold his shares for at least a year, so that he would be subject to a much more favorable long-term capital gains tax rate. In the end, Speltz’s tax bill totaled over $250,000, nearly three times his yearly salary, and McLeod stock fell so far that he didn't have any money left to pay the tax. (McLeod filed for Chapter 11 bankruptcy protection in January 2002 and succesfully completed its reorganization in April of that year.)

“I knew I would likely pay some amount for AMT,” he says. “But no one expected the shares to lose that much value so quickly. And I couldn’t believe how much I owed when I got the tax bill.”

His McLeod stock has plummeted from about $26 a share on the day he exercised his options to about $0.85 today. Speltz and his wife took out cash loans from a bank to begin paying off the tax bill. Today, he still owes $130,000 to the Internal Revenue Service, about $140,000 in loans to the bank, and thousands more on credit cards. He has spent over $5,000 so far on attorneys. Recently, he sold his remaining shares of his McLeod stock for roughly $1,600 to pay an outstanding attorney fee of $1,450. The IRS is about to file a lien on his house. He is currently applying for an Offer in Compromise (OIC) with the IRS to settle his tax bill, but he is not optimistic about the outcome.

”I was actually told by someone at the IRS that my OIC would probably get rejected, because I’ve always paid my taxes, held a steady job my whole working life and have increasingly moved up the pay scale,” he says “I guess they figure they can get a lot more out of me.”

While many government officials, including Congressional leaders, have spoken out about AMT reform, not much has happened in the past two years to relieve those affected by the tax, says Jeff Chou, founder of the grass-roots group called ReformAMT.

The Tax Payer Advocate, Nina Olson, who works within an independent arm of the Internal Revenue Service, has publicly stated in a formal report to Congress in December of 2001, that she recommends repealing all provisions that pertain to AMT for individuals.

Earlier this month at a luncheon in Washington, D.C., Andrew Lyon, Treasury deputy assistant secretary for tax analysis, said more simplification proposals are underway in the tax code, including an overhaul for the individual AMT, which he said is a "growing concern." He suggested there are no easy or inexpensive fixes for the individual AMT and implied that AMT would have to be repealed. These treasury and IRS officials say that little can be done without some action from Congress.

But Congressional solutions have been slow-moving. Over 25 bills have been introduced in Congress over the past six years to reform AMT, according to Olson’s 2001 report. Eight are currently still alive, lingering in committees. One bill, HR-2794, suggests exempting people who exercised options in 2000. Others, like HR-433, are calling for more sweeping change. This bill suggests establishing minimum tax credits that can be applied to the AMT to cap the tax liability at a reasonable level for people who have experienced a loss after exercising their options. And still others, like HR-1487, are calling for the entire AMT to be abolished.

So far, none of these bills has made it out of committee. President Bush’s latest tax reform proposal also offered no relief for AMT sufferers, which angered those affected.

Light Reading is conducting a reader poll on this topic. Take it yourself and check out the results so far by clicking on this link.

— Marguerite Reardon, Senior Editor, Light Reading
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rtfm 12/5/2012 | 12:38:14 AM
re: No Relief for AMT Sufferers Isn't it always hard to undo things that were obviously flawed or needed revamping. Not including inflation in AMT hurts many middle-class people (but AMT is still a good idea to prevent over-deductions).

What do people think about "fixing" another issue: retirement/social security.

The age, 65, was chosen some 100 years ago (?Bismark's time), and since then, several factors have changed or will change:
1) Demographics (people putting in vs. taking out)2) Lifespans have gone up by many years, if not a decade or two. "Miracles" of modern medicine - at great expense - will likely increase the length of life immensely. But, for many, this isn't matched with quality of life improvements.
3) People are now saving for retirement, and such savings must be encouraged.

I don't advocate getting rid of it, it just needs help/fixing. Would it make sense to disallow SS withdrawals above a certain income? SS would then provide a minimum threshold for people. In return for not using it (withdrawing, that is), users who save more themselves could perhaps avail of better tax exemptions (another incentive to save). Then, this becomes more like a ?tax in case one saves enough to not qualify for withdrawals (tax used in the sense of doing wealth redistribution, not disincentivizing "bad" behavior).

But, I digress. For AMT, would it make sense to mandate payment of taxes when exercised? But then, for many, they'd have to pay off the bill by selling some shares. They would then need to borrow money to buy back the shares in case they thought that prices would be going up. But, isn't that a choice we all have today (margin stocks)? So, would the AMT tax bill just be a margin-like borrowing the user is doing, hoping the stock goes up?
Perhaps we could come up with mechanisms to help people hold on to stock they think is valuable, without their having to sell some of it off to pay their taxes immediately.

God 12/5/2012 | 12:38:14 AM
re: No Relief for AMT Sufferers "People are subject to AMT when they exercise incentive stock options and don’t sell them right away. "

This is not worded correctly. Obviously you are also subject to AMT when you sell all your stock immediately. As you correctly point out, the risk is that any shares you decide to hold may lose value and not be enough to cover the AMT which is calculated when you exercise, not when you sell.

And to be really correct. You can also be subject to AMT if you do not participate in a stock option plan at all - As I experienced myself, unfortunately :)! Due to the recent misfortune of a lot of stock option plan participants, AMT is kind of associated with stock options, but that is just a side effect.
rjmcmahon 12/5/2012 | 12:38:13 AM
re: No Relief for AMT Sufferers What do people think about "fixing" another issue: retirement/social security.

Well, if I had my choices of the three problems to addresss in our country, I'd put other things such as social security and AMT low on the list.

How about

Problem 1: Wars. (fought effectively by mercenaries) Suggested solution: Reinstate the draft and prioritize middle aged baby boomers who drive Hummers.

Problem 2: Foreign oil addiction. Suggested solution: Charge cars by weight at every fueling station.

Problem 3: Lack of public participation in their society. Suggested solution: Educate everyone so we all come to understand that the progressive path requires us to develop a commitment to serve others.

PS. The economic analysis I have seen says suggests the Social Security issue is overblown.

rainbowarrior 12/5/2012 | 12:38:11 AM
re: No Relief for AMT Sufferers
Bush has proposed a whopping tax cut with historical defiticts. Why hasn't he proposed the repeal of the AMT tax for individuals which even the IRS thinks is unfair?
bud1tig2 12/5/2012 | 12:38:11 AM
re: No Relief for AMT Sufferers If these people who exercised options and held without selling any to cover taxes with the hopes of making even more money is just stupid and greedy.
You took a gamble to make a lot money by not selling to cover taxes, but you lost the bet. Playing the stock market is the same as gambling and your local bookie will not forgive your lost bet, so why should the government.

rainbowarrior 12/5/2012 | 12:38:10 AM
re: No Relief for AMT Sufferers
Bush has proposed a whopping tax cut with historical defiticts. Why hasn't he proposed the repeal of the AMT tax for individuals which even the IRS thinks is unfair?
lightmaster 12/5/2012 | 12:38:10 AM
re: No Relief for AMT Sufferers bud1tig,

Greed is one possible reason that people don't sell. Most don't sell right away because they don't want to pay half of it in combined Federal/state taxes (short term verus long term gains). Almost any financial advisor would have told them to hold it for a year to get the long term rate.

In other cases, they may be restricted as to how much they can sell by their companies (such as insider trading rules). In that case, they are simply screwed by the IRS as they have absolutely no choice in the matter.

IMO, it is immoral to make people pay taxes on money they have not recieved and in fact may never recieve.

rjmcmahon 12/5/2012 | 12:38:09 AM
re: No Relief for AMT Sufferers Bush has proposed a whopping tax cut with historical defiticts. Why hasn't he proposed the repeal of the AMT tax for individuals which even the IRS thinks is unfair?

He is playing to short sighted seniors in his goal to win the 2004 election. He has nothing else to run on (other than our collective fear).
rjmcmahon 12/5/2012 | 12:38:08 AM
re: No Relief for AMT Sufferers Almost any financial advisor would have told them to hold it for a year to get the long term rate.

Any competent financial adviser would have put collars around their gains and protected them from tax ruin.

If anything, the problem is in our financial industry. Most are nothing but a bunch of snake oil salesmen.

PS. Reminds me of my first auto ticket for a silly infraction. The judge's responese to my so-called defense, "Ignorance of the law is no excuse."
bud1tig2 12/5/2012 | 12:38:07 AM
re: No Relief for AMT Sufferers Your points are valid, but before exercising options, you need to understand all the risks associated with it, such as if you cannot sell due to insider matters, what is the worst case scenario that can happen. As the saying goes, buyer beware.

As for paying taxes for money never received. Well that goes back to the gambling aspect. You make a bet with a bookie and if you lose you have to pay up, you received no money but you still have to pay up.

None of these people would be complaining had their stock continued to climb and they all became millionaires.

Just for the record, I bought options while at Lucent, payed the taxes, held them and watched them go down the drain.
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