Cries about the rich not paying their fair share may have been answered by the federal government in its March 28 budget, with an adjustment to the alternative minimum tax (AMT) rules.
The AMT system has remained largely intact during its nearly four decades of existence. The 2023 budget has changed that, as several proposals will significantly increase the amount of income tax paid by very wealthy individuals, beginning in the 2024 taxation year. The changes will broaden the tax base on which AMT is calculated through fewer or less generous tax credits, deductions, and exemptions. Equally significant, the flat AMT rate will jump to 20.5% from 15%.
The basic principle of AMT remains the same: a taxpayer must calculate his or her income taxes using two methods: the traditional T1 individual taxpayer return, and the AMT T691 form. The amount of tax payable is the greater of the two results.
Mid-High Income Now Off the Hook
On the flip side, the budget also proposes to free many taxpayers with lesser incomes from the AMT burden, by increasing the exemption from the current $40,000 to approximately $173,000 in 2024. The new exemption level is set at the threshold of the fourth federal tax bracket and will be indexed annually to inflation. This means more than half of the approximately 70,000 Canadians who have been paying AMT will now escape the AMT net and pay tax according to the individual income brackets.
The federal government estimates that virtually all AMT will be paid by individuals with taxable income of $300,000 or more, 80% of it paid by those with incomes of $1 million or more.
“The government is promoting a sense of equity and perhaps overcoming a bit of aggressive tax planning to impose higher rates and make the higher income group pay at least a minimum amount of tax,” says Brian Ernewein, senior tax advisor with KPMG’s national tax practice.
While some observers have complained that the proposed increase in the AMT exemption threshold might be inadequate, Ernewein believes this is a value judgment. “Different people will have different views on this point,” he said. “That said, the increase in the basic exemption does seem to be meaningful. The 32,000 taxpayers who will still be subject to AMT under the new regime will clearly pay more. Finance Department officials say the AMT currently collects about $200 million annually, whereas the budget estimates that ongoing revenues under the revised AMT will exceed $700 million per year.”
AMT to Fully Tax Capital Gains
The budget proposes an increase in the AMT capital-gains inclusion rate to 100% from 80% One-half of capital-loss carry forwards and allowable business losses can be applied against capital gains, while 100% of employee stock options would be included in the AMT income base.
Currently, 80% of capital gains, other than gains qualifying for the lifetime capital gains exemption (LCGE), are included in the AMT base [taxed at 15%], Ernewein said. “However, the budget brings the top AMT rate applying to capital gains to 20.5%. This is nearly 25% higher than the maximum 16.5% federal rate of personal tax applying to capital gains under regular (non-AMT) rules. Another way of looking at this is that the 50% inclusion rate for capital gains has effectively increased – for those with very high levels of gains – from 50% to around 62%.”
The treatment of employee stock options that qualify for the equivalent of capital gains faces a similar potential increase in taxation, he says. Additionally, 30% of capital gains on donations of publicly traded securities would also be included in AMT income.
Where a capital gain arising on the donation of publicly traded, or listed, securities is exempt from capital gains tax, there is currently no difference in the treatment of that gain for regular personal income tax and AMT purposes. “This means the gain is excluded from income under both,” Ernewein said. “Under the budget, 30% of these gains are to be added back to the AMT base.” The effect of this proposed add-back will be to reduce the incentive to make large donations of listed securities, he said.
Impact Halved for Deductions and Credits
Only one-half of certain deductions will now be allowed for AMT purposes, including those for employment expenses (except commissions), CPP/QPP contributions, moving expenses, child-care expenses, interest and carrying charges (to earn income from property), and business loss carryovers. Previously, these amounts could be fully applied.
The proposed revisions also will allow only one-half of most non-refundable tax credits to be claimed for AMT purposes. Tax credits against AMT income will continue to be unavailable for political contributions and labour-sponsored venture capital corporation (LSVCC) investments.
Careful Planning is Key
While most high-income taxpayers will not be able to escape the impact of the AMT changes - in particular the allowance of only one-half of many deductions and tax credits – the higher effective capital gains tax rates will cause people to consider more carefully the timing of property dispositions, Ernewein said. “It’s also important to note that the AMT can be carried forward and applied against regular income tax for seven years,” he added, “Those that incur AMT under the new regime will want to ensure that they can recoup as much of it as possible going forward.”
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