Do 401(k) Contributions Avoid AMT?

Retirement planning with tax benefits is critical to minimizing your tax liability while allowing you to save enough money to stop working at some point. 401(k) plans are just one way for taxpayers to plan their finances to minimize tax liability. While many legal ways exist to reduce your tax burden, the government recognizes that certain people with higher incomes may be able to arrange their affairs to pay less in taxes than what some would consider fair. The Alternate Minimum Tax was established to be certain that these taxpayers pay at least a certain percentage of their income in taxes, but it does not take into account many retirement plans.

Who Pays AMT?

Taxpayers subject to the AMT are people with certain deductions that are higher than normal. Examples include people who pay higher than normal state or local taxes, as well as people claiming high mortgage interest deductions. If you exercise stock options, or deduct large amounts of employee business expenses, the AMT is more likely to affect you.

Reporting 401(k) Contributions

401(k) contributions are reported on an employee's form W-2, but are not reported as income subject to federal income tax. The AMT is calculated based on your adjusted gross income. Since 401(k) contributions are not reported as part of your adjusted gross income, 401(k) contributions are exempt from the AMT calculation, and avoid the AMT altogether.

IRA Contributions

IRA contributions are treated differently than 401(k) contributions, depending on the type of IRA that you participate in. A traditional, deductible IRA will enjoy the same exemption that a 401(k) receives. Roth IRA accounts and non-deductible traditional IRAs offer no tax deduction, so contributions to these accounts would be subject to the AMT.

AMT Exemption and Calculation

A certain amount of your income is automatically exempt from the AMT. If you are married and file a joint return, income less than $74,450 is exempt for the 2011 filing year. Unmarried filers enjoy this same exemption on income below $48,450, with the exemption amount dropping to $37,225 for married people who file separate returns. Any qualifying income over the exemption amount up to $175,000 is taxed at a minimum of 26 percent, with higher amounts taxed at 28 percent. You will always pay the higher of your AMT amount or the regular income tax amount.