Understanding the Impact of AMT on Real Estate Investments

by Stephen Morris CPA, MBT, CCIM

The Alternative Minimum Tax (AMT) is a separate tax calculation that runs parallel to the regular income tax system. Although an in-depth discussion of AMT is beyond our scope today, it’s important for real estate practitioners to be aware of how certain real estate transactions and deductions can trigger AMT adjustments and preferences. Here’s an overview of the basics and the most relevant issues for real estate:

What Is the AMT?

• Separate Calculation:
  The AMT requires a separate calculation from the regular income tax. It is imposed on the excess of a taxpayer’s tentative minimum tax over their regular tax liability.
• Key Components:
  • Alternative Minimum Taxable Income (AMTI): Begins with the taxable income computed under regular tax rules but then adds back various adjustments and tax preference items.
  • Exemption Amount: A statutory exemption is applied to the AMTI.
  • Tentative Minimum Tax: The AMT rate is applied to the AMTI (above the exemption), resulting in the tentative minimum tax.
  • Excess Tax: If the tentative minimum tax exceeds the regular tax, the difference is paid as AMT.

Real Estate-Related AMT Adjustments and Preferences

Several adjustments and preferences in the AMT calculation are particularly relevant for real estate transactions:

• Depreciation Adjustments

• Nonresidential and Residential Rental Property (1987–1998):
  For real property placed in service after 1986 and before 1999, depreciation must be recalculated for AMT purposes using a 40-year recovery period. This differs from the accelerated methods often used for regular tax.
• Real Property Placed in Service After 1998:
  Both AMT and regular tax depreciation use the same straight-line method over the property’s MACRS recovery period.

• Amortization and Cost Recovery

• Mining Exploration and Development:
  Costs must be amortized over 10 years, though some losses may be recognized in the year incurred.
• Pollution Control Facilities:
  • Before 1999: Cost recovery deductions are taken using the alternative depreciation system (ADS).
  • After 1999: Deductions follow the regular tax rules under the straight-line method over the MACRS period.
• Shorter Amortization Periods:
  The 5- and 7-year amortizations allowed for regular tax purposes are not permitted under AMT rules.

• Long-Term Contracts and Other Adjustments

• Long-Term Contracts:
  For contracts (other than home construction), taxable income is determined under a modified percentage-of-completion method.
• Non-Deductible Expenses:
  For noncorporate taxpayers, deductions such as interest on boats and mobile homes used transiently—and, for certain years, home equity loans not used for home improvement—are disallowed under AMT.
• Net Operating Losses (NOLs):
  NOLs are computed under specific AMT rules, which generally limit the NOL deduction to 90% of AMTI (with some exceptions for certain carryback elections).

• Corporate Adjustments and Other Preferences

• For Corporations:
  Adjustments may be needed for depreciation, intangible drilling costs, and depletion when computing adjusted current earnings.
• Tax Preference Items:
  • Certain depletion and intangible drilling costs,
  • Interest on specified tax-exempt private activity bonds,
  • Accelerated depreciation on some real property placed in service before 1987,
  • And even certain farm losses—are all treated as tax preference items that can increase AMTI.
• Passive Activity Losses:
  These must be determined under AMT rules in a manner similar to regular tax rules, with the appropriate adjustments applied.

Final Thoughts: Real Estate and AMT

While the AMT system is complex, real estate practitioners should be particularly mindful of how depreciation methods, amortization of costs, and various deductions can differ between regular tax and AMT calculations. Understanding these differences is essential in planning your real estate investments and ensuring that potential AMT liabilities are anticipated and managed effectively.

Advise RE are available to help if you have questions or need further clarification on how AMT might affect your real estate activities?

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