Your Vanguard tax-exempt investments and AMT
If you're a current or prospective Vanguard tax-exempt fund shareholder, learn about potential alternative minimum tax (AMT) implications on fund income.
What is AMT?
AMT is a federal income tax calculated separately from the regular federal income tax. It is designed to prevent taxpayers—particularly those with high incomes—from using certain deductions and credits (called tax-preference items) to pay little or no taxes. In recent years, AMT has impacted growing numbers of middle-income taxpayers because the amount of income that can be excluded from AMT has not been indexed for inflation.
You may or may not be subject to AMT. To find out, you must complete IRS Form 6251 , Alternative Minimum Tax—Individuals, in addition to your regular 1040 tax return.
AMT can impact tax-exempt fund investors
One factor in determining whether you owe AMT is investment in tax-exempt municipal bonds (either directly, through individual securities, or indirectly through a mutual fund). A tax-exempt mutual fund, for example, may hold "private-activity" bonds that are among the tax-preference items counted for AMT purposes. Under the AMT system, fund income you receive that is attributed to these bonds—sold by municipalities to finance private projects such as airports or sports stadiums—is taxable. Under the regular tax system, however, the income is tax-exempt.
Check your Form 1099-DIV
Form 1099-DIV reports any income you received from private-activity bonds, which is subject to AMT. All tax-exempt income (of $10 or more) that you receive from a fund during a given year is reported in Box 10 of the form. The portion of income in Box 10 derived from AMT tax-preference items, such as private-activity bonds, is reported in Box 11.
When completing Form 6251 to determine if you owe AMT, report the amount shown on Form 1099-DIV, Box 11, on Line 12 of Form 6251. (View your Form 1099-DIV if you've been issued one, or get more information on how to use it when preparing your tax return.)
Note: Income of less than $10 from a tax-exempt fund is reported on your Vanguard year-end account statement. Some of this income also may be attributable to private-activity bonds and thus must be included in your AMT calculation. To determine the amount, if any, that must be included, call us at 877-662-7447.
Private-activity bond percentages no longer needed
Prior to 2006, income attributed to private-activity bond interest was not reported separately. Instead, investors were required to calculate the amount of tax-exempt income subject to AMT using percentages provided by their investment company (including Vanguard). A separate calculation is no longer necessary to determine private-activity bond income (except when, as noted above, income of less than $10 has been reported on your year-end account statement). When completing Form 6251, simply report the amount provided in Box 11 of Form 1099-DIV on Line 12.
Vanguard funds have flexibility to invest in private-activity bonds
Most Vanguard tax-exempt bond funds seek to limit their investments in private-activity bonds. Although the funds' income distributions are expected to be exempt from federal income tax, a portion of these distributions may be subject to AMT. By prospectus, Vanguard municipal bond funds may invest up to 20% of their assets in private-activity bonds.