Many people who do light research on taxes associated with stocks options may feel as if there is little to understand about it. Basically, if you have an incentive stock option and hold onto it for a minimum of one year, you're going to end up paying capital gains tax. If you sell the option before the first year, you will pay normal tax.
Although that is true, there is also another consideration for stock options that is known as the alternative minimum tax (AMT). This tax was put into place to keep wealthy investors from taking advantage of tax deductions and exclusions, which would have had them paying less for their options tax. It can also affect those of us who are in lower income brackets as well, causing us to pay more tax when we take advantage of the stock options that are available to us.
The AMT is charged on the spread between the grant price and the purchase price. It requires that an individual who has to pay taxes on their stock options to calculate the taxes in 2 different ways. First of all, they would need to figure the taxes according to normal tax rules but then they would also have to add their taxable income, along with certain deductions back in, which would result in a higher number. It is this higher number that is used to calculate the AMT. For individuals who have a taxable income of up to $175,000, the AMT rate is set at 26%. If you have a taxable income that is above that amount, you will pay 28% as the AMT rate.
Calculating the Alternative Minimum Tax
In order to calculate the AMT, you will first need to add your regular taxable income along with medical deductions, real estate tax deductions, personal exemptions, miscellaneous itemized deductions that are subject to the AMT and your spread on the ISO exercise. The resulting number is known as the preliminary AMT taxable income. You will subtract a standard exemption from the preliminary AMT taxable income, which will provide you with the actual AMT taxable income.
Using the percentages that were provided above, you will multiply your AMT taxable income by 26% if your annual income was up to $175,000. If your income was over $175,000, you will multiply your AMT taxable income by 28%. The resulting number is known as the tentative minimum tax. When you subtract to the regular tax from the tentative minimum tax, you are provided with the alternative minimum tax (AMT).
There are ways for you to deal with this tax and strategies are available to help you to minimize the amount of tax that you will pay. If you have any questions about your alternative minimum tax or your stock options and how you can use them properly, you can contact our service. We would be happy to answer any of your questions and to assist you in making the most out of your stock options.