Subject: ISO AMT Comment: Phillip Thompson March 18, 2005 philthompson@gmail.com Individuals Dear Panel, My name is Phil Thompson, and I am 43 years old. In 1997 I accepted a position as a software engineer with a software company located in Roseville, Minnesota. In addition to salary, I was given a one-time grant of 3,000 incentive stock options (ISOs) when I started. This was the first time I had ever received stock options in my life. Between 1997 and 2000, the company grew rapidly, and the stock split a few times, and the increasing stock price ended up making those options very valuable. Before the year 2000, I had exercised and sold some of the options that had vested, mainly to get a down-payment for my first house. But in the year 2000, because more than half of my options had vested, I decided to accelerate exercising many of these options. Because I knew so little about the tax ramifications of exercising and holding ISOs, I hired a professional tax advisor that had been recommended to me by several co-workers (who were in situations similar to mine). My tax advisor recommended an on-going, well-timed exercise-and-hold strategy, which would allow me to best benefit from the tax laws over the next several years. At no time did he warn me of the risks involved with exercising and holding ISOs, should the stock price decline dramatically. Up until that point, I had only done same-day sales of my options, and therefore was not familiar with the different tax treatments. During the year 2000, I exercised and held approximately 4500 options, worth approximately $470,000 on the purchase date. And for most of the year 2000, the stock price continued to trade considerably higher than my purchase price. My trading window for the year closed in mid-December of 2000, and even in early December the stock price was still above my purchase price. Of course, the stock price declined dramatically thereafter. I didn’t realize there was a problem until my tax advisor told me in March of 2001 that I owed approximately $165,000 in combined federal and state tax. I was shocked and amazed, because my gross annual salary at that time was only about $85,000. After my tax advisor explained that I would not be able to discharge the AMT tax by selling the shares (because the AMT is an immediate tax on potential earnings, not on real money), I was forced to exercise and sell even more options in order to cover my tax liability. I was luckier than most, in that my company’s stock price decline was less rapid than most tech stocks at that time. As of this writing in March, 2005, the federal and state governments still hold over $108,000 of my money in so-called “AMT credits.” As a law-abiding, tax-paying citizen that was burned badly by the AMT treatment of incentive stock options, I have the following comments and suggestions: 1. The AMT treatment of incentive stock options is extremely unfair. In what country in the world are people taxed immediately on money they MIGHT make in the future? How was this allowed to ever become law? The reality is that law-abiding, tax-paying citizens are being forced to give the government long-term, interest free loans. And that is wrong no matter how you look at it. 2. The AMT is very difficult to understand. Even with the assistance of a professional tax advisor, I encountered a situation that could have easily bankrupted me. And I have done a lot of reading on the AMT since 2001, and I still don’t feel I understand the rules much better. Complexity seems to have been designed in to the AMT, as each rule seems to have multiple exception clauses. In my opinion, any tax rule that requires that you hire an accountant is a bad tax rule. 3. Current tax laws allow no solution to easily recovering the AMT taxes paid on phantom profits. Even if a citizen like me is able to meet the tremendous burden of the AMT, the rules for returning the AMT “credits” are designed to make it a very long and arduous process, in some cases requiring many decades. Recovery of credit is hastened only by dramatically increasing your earnings and/or by creating capital gains. And both of those solutions are not generally easy to do! In my personal opinion, speeding up the return of the AMT “credits” is the most important part of AMT reform. I could be using that money to pay off my house, and to invest in my future. 4. The AMT is wrong. So why is the IRS trying to bankrupt citizens with it? When the IRS’ National Taxpayer advocate Nina Olson calls for repeal of the AMT on an annual basis, why is the IRS still so hell-bent to prosecute and bankrupt people who have been caught in the AMT trap? Trying to force people to pay taxes on money they never earned is akin to trying to get blood from a rock. The IRS needs to step back and realize that zealous enforcement of bad laws benefits nobody. Please fix the AMT and return the credits! Thank you for your attention. Phil Thompson St. Paul, MN |