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Posts tagged ‘AGI’

How Do I? Apply the Pease limitation

affluent lifestyleHigher-income individuals whose adjusted gross income (AGI) exceeds specified thresholds must reduce their itemized deductions that are otherwise allowed on their return. This reduction in itemized deductions did not apply to tax years 2010-2012, but has been reinstated, beginning in 2013. The provision does not apply to estates and trusts.

Under the Pease limitation (named for the Congressman who developed it), itemized deductions are reduced by the lesser of:

  • Three percent of the taxpayer’s AGI in excess of the applicable threshold, or
  • 80 percent of the itemized deductions otherwise allowable.

The thresholds increase for inflation every year. The thresholds for the 2014 tax year are:

  • $305,050 for married taxpayers filing joint returns and surviving spouses;
  • $279,650 for heads of household;
  • $254,200 for other single taxpayers; and
  • $152,525 for married filing separately.

The respective inflation-adjusted thresholds for 2015 are projected to be: $309,900; $284,050; $258,250; and $154,950.

In calculating the reduction, other limitations are applied first, such as the two percent floor for miscellaneous itemized deductions and the floor for medical expenses. However, the term “itemized deductions” does not include deductions for medical expenses, investment interest, casualty or theft loss, and allowable wagering losses. Thus, these latter amounts are not subject to the reduction.

Example. For 2014, married taxpayers report AGI of $355,050, or $50,000 over the applicable threshold of $300,000. They have itemized deductions of $15,000 for taxes and charitable contributions, plus $2,000 in medical expenses, for a total of $17,000. The first reduction (based on three percent of excess AGI) is ($355,050 – $305,050) x .03, or $1,500. The alternative reduction (80 percent cap) is .80 x $15,000 (medical expenses excluded), or $12,000. Since the lesser amount is $1,500, allowable itemized deductions are reduced from $17,000 to $15,500.

FAQ: What are above-the-line deductions?

An above-the-line deduction is an adjustment to income (deduction) that can be taken regardless of whether the individual taxpayer itemizes deductions. The adjustment reduces the taxpayer’s adjusted gross income (AGI). These adjustments are also sometimes called deductions from gross income, as opposed to itemized deductions that are deducted from AGI. An above-the-line deduction is taken out of income “above” the line on the tax form on which adjusted gross income is reported.

Above-the-line deductions are more desirable than itemized deductions because:

  • they are more available (for example, they are not phased out or subject to a floor like many itemized deductions);
  • they can be claimed even if the taxpayer does not itemize deductions; and
  • they lower the taxpayer’s AGI, which can allow the taxpayer to qualify for more and/or larger deductions.

The above-the-line deductions include:

  • Trade or business expenses
  • Net operating loss deduction
  • Loss from sales and exchanges
  • Depreciation and depletion
  • Deductions tied to rents and royalties
  • Teacher’s classroom expenses
  • Jury pay turned over to employer
  • Overnight travel expenses of Reserve or National Guard
  • Supplemental unemployment compensation repayments
  • Business expenses of qualifying performing artists
  • Contributions to individual retirement accounts
  • Student loan interest deduction
  • Tuition and fees deduction
  • Health savings account deduction
  • Moving expenses
  • ½ of self-employment tax
  • Health insurance costs of the self-employed
  • Contributions to SIMPLE or SEP plans
  • Penalty for early withdrawal of funds from a savings account
  • Alimony payments
  • Legal fees and costs paid in certain actions involving civil rights violations or whistleblower awards
  • Domestic production activities deduction