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PAY EXTRA TAX THIS YEAR? ARE YOU CRAZY?

December 24, 2007

Tax advisors spend a lot of time looking for ways to punt income into the hereafter. It almost feels like heresy to suggest accelerating income. Yet in some narrow circumstances paying extra tax this year can save you money.

One example we see occasionally arises from the way the AMT exemption phases out. For 2007, the AMT exemption is $66,250 on joint returns, but it is reduced by 25 cents for each dollar adjusted gross income exceeds $150,000. This creates a hidden extra bracket for the AMT. While the stated top rate for AMT is 28%, the phase-out makes the real top rate 35% until the entire exemption is phased out (at AGI of $415,000 for joint filers). The phase-out also cause an extra hidden bracket on long-term capital gains, which are otherwise taxable at 15%.

If you have an item of taxable income that you can choose to take in either 2007 or 2008 (lucky you!), you might be better off taking the income this year and paying the tax sooner. It works if:

- Your 2007 income is already above the AMT exemption phase-out amount
- You will be subject to AMT in 2008, and
- Your 2008 income will be in the phase-out range.

A simplified example of an Iowa married couple illustrates this. The couple has $500,000 of 2007 income and will have $200,000 of 2008 income. They have another $100,000 of capital gain income they can choose to take in either year. They have two children, and their only itemized deduction is state income taxes.

If they take the $100,000 in 2007, their combined tax over the two years is reduced by over $6,000; if it is taxed in 2008, it is taxed in the hidden AMT phase-out bracket, while if it is taxed in 2007, it is only taxed at a the normal capital gain rate. The totals:

Be careful! If you are going to accelerate your income, and your taxes, you'd better be pretty confident you know what your income will for both 2007 and 2008. Talk to your tax advisor before you start throwing your income around among your tax years.

This is another in our daily series of 2007 year-end tax planning posts. Look for a new post daily through December 31.

Tags: year-end tax planning.

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