In general terms, to find out if you owe alternative minimum tax (AMT), you start with regular taxable income, modify it with various adjustments and preferences, and then subtract an exemption amount (which phases out at higher levels of income). The result is subject to an AMT tax rate of 26% or 28%. You pay the AMT only if it exceeds your regular tax bill. For 2006 only, the new law provides some relief. It increases the maximum AMT exemption amount over its 2005 level by $4,550 for married taxpayers filing joint returns and by $2,250 for unmarried individuals. However, after 2006, the maximum AMT exemption amount will drop precipitously to where it was in the year 2000 unless Congress provides another fix.

Another provision in the new law provides AMT relief for those individuals claiming certain “nonrefundable” personal tax credits (such as the credit for dependent care and the Scholarship and Lifetime Learning credits). For 2006, these credits may offset an individual's regular tax and AMT. After 2006, unless Congress acts, these credits will be allowed only to the extent that an individual has regular income tax liability in excess of the tentative minimum tax, which has the effect of disallowing these credits against AMT.

Investor Tax Breaks Extended

An individual's long-term capital gain generally isn't taxed at a rate higher than 15%. It may be taxed at just 5% (0% for tax years beginning after 2007) if the gain would have been taxed at 10% or 15% if it were ordinary income instead of long-term capital gain. Most dividends from domestic corporations (and certain qualifying foreign corporations) also qualify for the same favorable tax treatment as long-term capital gain. These favorable tax rates were set to expire at the end of 2008, but the new law extends the favorable rates through 2010.

Income Limit on Roth IRA Conversions Eliminated, Beginning in 2010

Under current law, only individuals with $100,000 or less in modified adjusted gross income can convert a regular IRA into a Roth IRA. A taxpayer making the conversion generally must pay tax on money he takes out of his regular IRA, but once it's in his Roth IRA, he won't pay tax on the withdrawal of that money or the money it earns (assuming a few relatively simple requirements are met).

Under the new law, beginning in 2010, taxpayers will be able to convert a regular IRA into a Roth IRA regardless of the level of their modified adjusted gross income. What's more, the new law permits taxpayers who convert in 2010 to spread the income and resulting tax payments on the converted funds over two years—2011 and 2012.

Kiddie Tax Age Limit Raised From Under 14 to Under 18

The “kiddie tax” rules, which provides that children under 14 who had more than a small amount of unearned (investment) income had to pay tax at their parents' marginal tax rate (the rate of tax on the last dollar earned). The threshold amount at which the kiddie tax kicks in is two times the amount allowed as a standard deduction for a dependent who has only investment income. For 2006, that amount is $850, so the kiddie tax begins to apply when the child has more than $1,700 in unearned income.

Under the new law, the age limit below which a child's income from investments is taxed at the parents' rates is raised from 14 to 18. The new law specifies, however, that the kiddie tax does not apply to a child who is married and files a joint return for the tax year. It also adds an exception to the kiddie tax for distributions from certain qualified disability trusts. The new provisions apply to tax years beginning after Dec. 31, 2005.

Capital Gain Treatment for Self-Created Musical Works

Before the new law came along, literary, musical, or artistic compositions, letters or memoranda, or similar property held by a taxpayer whose personal efforts created the property weren't treated as capital assets. As a result, when a taxpayer sold copyrights he owned in songs he created, gain from the sale was treated as high-taxed ordinary income rather than low-taxed capital gain.

Under the new law, at the election of a taxpayer, the sale or exchange of musical compositions or copyrights in musical works created by the taxpayer's personal efforts is treated as the sale or exchange of a capital asset. This applies to sales in exchanges after the date the Tax Increase Prevention and Reconciliation Act is signed into law by the President, and before 2011.

Changes to the Foreign Earned Income Exclusion and Housing Allowance for U.S. Citizens Working Abroad

The new law makes three changes to the foreign earned income exclusion and housing allowance:

• First, the income exclusion is indexed for inflation starting in 2006 (rather than 2008 under current law).
• Second, the base housing amount used in calculating the foreign housing cost exclusion in a taxable year is modified (the new base amount is 16% of the amount of the foreign earned income exclusion limitation). Reasonable foreign housing expenses in excess of the base housing amount remain excluded from gross income, but the amount of the housing exclusion in excess of the base housing amount is limited to 30% of the taxpayer's foreign earned income exclusion.
• Third, income excluded as either foreign earned income or as a housing allowance is included for purposes of determining the marginal tax rates applicable to non-excluded income.