How Did the Pease Limitation Work (and Why Was It Repealed?)
The Limitation Was Repealed by the New Tax Law—But Not for 2017
The Pease limitation was named for the politician who first introduced the legislation in 1991—Congressman Donald Pease from Ohio. Then, on December 22, 2017, it was repealed when President Trump signed the Tax Cuts and Jobs Act into law...at least for a while.
The Pease limitation is eliminated as of the 2018 tax year so it can still be a factor when you’re completing your 2017 tax return. It returns after 2025 if Congress doesn’t intervene when the TCJA expires at that time.
What the Pease Limitation Accomplished
The Pease limitation applied to itemized deductions, which are a somewhat tricky tax concept when you think about it—and Donald Pease did.
When you itemize, you get to deduct certain expenses you’ve paid all year, many of them quite necessary such as mortgage interest and medical expenses. Of course, the more you earn, the more you can spend on these things. And the more you spend, the greater your total itemized deductions become.
The wealthiest taxpayers were really shaving away at their taxable incomes by itemizing before Congressman Pease got involved to put a stop to it. The Pease limitation put a cap on how much they could claim in the way of itemized deductions if their incomes were over certain thresholds.
How the Pease Limitation Worked
The Pease limitation didn’t apply to all itemized deductions. Those for medical expenses, investment expenses, and some theft and casualty losses were spared—maybe because many of these deductions had their own separate built-in limitations.
But the deductions for home mortgage interest, state and local taxes, charitable contributions, and certain miscellaneous deductions were limited for wealthier taxpayers.
If your adjusted gross income was above the threshold for your filing status, you had to subtract 3 percent of the difference from the affected itemized deductions you were claiming.
For example, if you were single with an AGI of $281,500 in 2017, you would have to subtract $600 from your itemized deductions in these categories because the AGI limit for single taxpayers was $261,500 for that tax year. Three percent of the additional $20,000 in income works out to $600. If you had $30,000 in itemized deductions, you could only claim $29,400 of them.
It doesn’t sound like a lot when you're earning upward of $280,000 a year, but it still represents lost tax savings. Congress was kind in one respect. It capped the reduction at 80 percent overall, but this rule helps only the most wealthy taxpayers. Your income would have to be so significant that 3 percent of the difference between the threshold and your AGI exceeds 80 percent of the itemized deductions you could otherwise have claimed.
Adjusted Gross Income Thresholds
The Pease limitation AGI thresholds increased somewhat in 2017 from what they were in 2016 because they were indexed for inflation. Even so, they achieve what Congressman Pease intended: Higher-income individuals were affected. The limitations were based on filing status.
- The AGI limit for single taxpayers was $261,500 in 2017, up from $259,400 in 2016.
- The limit for married taxpayers filing jointly increased from $311,300 in 2016 to $313,800 in 2017.
- Heads of household were capped at $287,650 in 2017, up from $285,350 in 2016.
- Those who were married but filed separate returns encountered a limit of $155,650 in 2016, and this increased to $156,900 in 2017.
Keep in mind that these calculations are based on your adjusted gross income, not your total income. Your AGI is what remains after you take any adjustments to income on the first page of Form 1040. You can find it on line 37 of your 2017 return so you'll know what you're dealing with before you start calculating your deductions.
Why the Change?
Is the repeal of the Pease limitation a great and beneficial tax break for the wealthiest individuals? Not necessarily because the TCJA makes a great many other tax code changes as well.
Some of them make the Pease limitation redundant, if not moot.
For example, many work-related miscellaneous deductions were eliminated under the new tax law. Applying the Pease limitation to them no longer serves any purpose because they no longer exist.
The TCJA also imposes a ceiling of $10,000 on the deduction of property, state and local taxes. This limit applies to the total of all three when they’re added together. If you pay $20,000 in 2018, that extra $10,000 won’t do you any good at tax time—you can no longer claim it, at least not through 2025. This cap serves a similar purpose to that achieved by the Pease limitation—it limits this deduction for taxpayers who might find themselves paying in excess of $10,000 for these taxes.
The mortgage interest deduction has been tweaked downward as well. It's now limited to $750,000 in acquisition debt for mortgages taken on after December 14, 2017. The limit used to be $1 million. Interest on many home equity loans has been eliminated from the equation. So again, the Pease limitation would only limit a tax provision that the TCJA affected anyway.
Congress apparently felt that the Pease limitation and some terms of the TCJA overlapped, serving the same purpose. Leaving the Pease limitation in place while simultaneously enacting the new tax law could have effectively limited some taxpayers twice.