The existing rules of the alternative minimum tax (AMT) in Canada are designed to ensure that individuals and trusts pay a fair amount of tax by preventing them from claiming certain exemptions, deductions, and tax credits that are typically available under regular income tax rules. However, recent changes introduced in the Federal Budget of 2023 aim to make certain high-income taxpayers pay more taxes while reducing the number of middle-income taxpayers who fall under the AMT regime.
With these upcoming changes, individuals who may be subject to the AMT should prepare themselves for the new rules and consult with their advisors to explore potential strategies for reducing their AMT or utilizing expiring AMT credits. If enacted, these changes will be effective for taxation years starting after 2023.
Who exactly pays the AMT and how does it work?
The AMT rules generally apply to specific individuals, estates, and trusts that earn a significant portion of their income from dividends, capital gains, or utilize deductions and tax credits to substantially reduce their regular tax liability. These taxpayers are required to calculate their federal tax payable using both the regular method and the AMT method and then pay the higher of the two amounts. The AMT method involves determining the taxpayer’s “AMT base,” which is their adjusted taxable income minus the basic exemption amount, and then applying the AMT tax rate. For instance, a taxpayer may become subject to the AMT if they claim the capital gains exemption on the sale or transfer of their small business shares or if they claim substantial deductions from investments like flow-through shares.
However, if a taxpayer pays the AMT in a particular year, they can carry forward the difference between the AMT paid and their regular tax as a credit for up to seven years. This allows the AMT paid to offset future tax liabilities under the regular tax system. Any unused amount remaining after the seven-year period expires will be permanently lost.
Additionally, provincial AMT may also apply, typically calculated as a percentage of the federal AMT amount.
How will the AMT change under the proposed amendments?
The AMT rate will increase from 15% to 20.5%, leading to higher tax payments for individuals subject to the AMT. Furthermore, the exemption amount will increase to $173,000 from $40,000, ensuring that middle-income taxpayers are no longer subject to the AMT. This new exemption amount is based on the beginning of the fourth federal tax bracket in the 2024 tax year.
The proposed AMT rules also broaden the scope of the AMT to:
- include 100% (from 80%) of capital gains in the AMT base
- reduce deductions for capital losses and allowable business investment losses to 50% deductible (from 80%)
- include 100% (from 80%) employee stock option benefits in the AMT base
- include 30% (from 0%) of capital gains on donations of shares or employee stock options of publicly listed securities
- reduce certain deductions to 50% deductible (from 100%) (e.g., interest or carrying charges to earn property income, certain employment expenses, non-capital loss carryovers)
- reduce deductions for most non-refundable tax credits to 50% deductible (from 100%) (e.g., basic personal amount, medical expense credit, disability credit, tuition credit)
The proposed rules are complex, and there may be steps you can take to reduce AMT or utilize expiring AMT credits. Contact your Tax advisor or accountants or reach out to us here to learn more about the proposed changes to AMT and how you can plan accordingly.