The Pease Limitation was enacted in 1991 and is names after Donald Pease, former Representative of Ohio. Its purpose was to limit certain itemized deductions of high income earners. Once your Adjusted Gross Income (AGI) crosses a specified dollar threshold, certain itemized deductions are phased out.

These deductions include charitable contributions, mortgage interest, state and local taxes, property taxes, and other miscellaneous itemized deductions, such as unreimbursed employee expenses and tax preparation fees. Investment interest, medical expenses, and casualty, theft, or gambling losses are itemizes deductions that are not subject to the Pease Limitation.

For 2017, individuals with AGI over $262,500 and joint filers with AGI over $313,800 would trigger the itemized deduction limitation. The income thresholds of $261,500 and $313,800 are adjusted annually for inflation. The limitation will be the lesser of the 3 percent of the AGI over the income thresholds or 80 percent of the itemized deductions allowed for the year. Below is an example of the Pease Limitation calculation:

 

  • In 2017, a single filer has AGI of $461,500 and claims $100,000 in itemized deductions. Since the filer’s AGI exceeds the threshold for single filers by $200,000, the filer’s itemized deductions would be reduced by the lesser of 3 percent of $200,000 ($6,000) or 80 percent of the itemized deductions ($80,000). Since $6,000 is less than $80,000, the filer’s itemized deduction would be reduced from $100,000 to $94,000.

It is important to note how many limitations such as these can affect a taxpayer’s overall tax liability. Tax rates are not the only driver that increase total tax liability. The Pease Limitation works in conjunction with tax rates to increase total taxes paid. With marginal tax rates for high income earners being as high as 39.6%, the Pease Limitation can negatively impact their pocket books. In the example above, assuming the taxpayer was in the 35% marginal tax bracket, the Pease Limitation could cost the taxpayer $2,100 ($6,000 x 35%).Individuals need to be aware of the Pease Limitation and the impact it could have on high income earners. Having a tax professional prepare multiple-year tax projections is a great way to identify any planning opportunities that may be available to reduce a taxpayer’s tax liability relating to the Pease Limitation.

To learn more about the Pease Limitation, call Mark Dupee’ at (318) 429-2115 or email mdupee@hmvcpa.com. For more information on the services available to you by Heard, McElroy & Vestal, LLC, call our Shreveport office at (318) 429-2059, our Monroe office at (318) 388-3108 or visit www.hmvcpa.com.

 

Author: Mark Dupee’, CPA, Tax In-Charge

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