2014 Tax Changes: Pease Limitation

With only 2 months left in 2014, you have to act fast to put yourself in the best position to minimize your income taxes.

In this series, 2014 Tax Changes, I will give you an overview of the changes in the tax law that may affect you.  If you haven't already, feel free to read the first post in this series, Individual Mandate, discussing the Affordable Care Act's individual mandate that is now in effect.

You may already be familiar with the Pease Limitation from your 2013 tax return.  The Pease Limitation was first introduced in 1990 as a way of limiting popular itemized deductions, such as the home mortgage interest deduction and the charitable contribution deduction, indirectly.  This controversial item was phased out between 2006 and 2010, but came back in full force in 2013.

The Pease Limitation is subject to inflation, so for 2014 it will only affect individuals with incomes of $254,200 or more and married couples filing jointly with incomes of $305,050 or more.

How does the Pease Limitation work?

As I mentioned above, the Pease Limitation only affects individuals with incomes above a certain applicable amount, which in 2014 is $254,200 for single individuals and $305,050 for married couples filing jointly.

The Pease Limitation reduces the amount of applicable itemized deductions taxpayers are entitled to take by the lesser of:

• 3 percent (%) of the adjusted gross income above the applicable amount; or
• 80 percent (%) of the amount of the itemized deductions otherwise allowable for the tax year.

Example

Assume a married couple has adjusted gross income of $800,000 and total itemized deductions of $100,000.  In this case, the amount of itemized deductions they would be eligible to claim would be reduced by $14,849 to $85,151.

How did I arrive at that number?

1. This couple has adjusted gross income of $800,000 and the applicable threshold for married couples filing jointly is $305,050, so the amount that the adjusted gross income exceeds the applicable amount is $494,950.  3% of that amount is $11,848.50.
2. The couple has $100,000 of itemized deductions that would otherwise be allowable, and 80% of that amount is $80,000.
3. Because $11,848.50 is less than $80,000, the allowable itemized deductions is reduced by $11,849.

Example

Assume a single individual has adjusted gross income of $300,000 and total itemized deductions of $20,000.  In this case, the amount of itemized deduction that he would be eligible to claim would be reduced by $1,374 to $18,626.

How did I arrive at that number?

1. This individual has adjusted gross income of $300,000 and the applicable threshold for single individuals is $254,200, so the amount that the adjusted gross income exceeds the applicable amount is $45,800.  3% of that amount is $1,374.
2. This individual has $20,000 of itemized deductions that would otherwise be allowable, and 80% of that amount is $16,000.
3. Because $1,374 is less than $16,000, the allowable itemized deductions is reduced by $1,374.

If you believe that you may be affected by the Pease Limitation and would like to learn more about how it operates and would like to see how you can attempt to minimize its impact on you, please feel free to send me an e-mail.

As always, I appreciate your feedback in the comment section below.

2014 Tax Changes: Individual Mandate

The individual mandate that we have been hearing about for years is finally in effect.  What does that mean?

Beginning in 2014, taxpayers must have insurance that provides "minimum essential coverage."  A list of what health care plans that qualify as providing minimum essential coverage is provided on the healthcare.gov website.

If you do not have insurance that provided "minimum essential coverage", you are subject to a penalty.

In 2014, the penalty is the greater of:

• 1 percent (%) of your yearly household income; or
• $95 per adult and $47.50 per child under the age of 18.

In 2015, the penalty increases to the greater of:

• 2 percent (%) of your yearly household income; or
• $325 per adult and $162.50 per child under the age of 18.

In 2016, the penalty increases to the greater of:

• 2.5 percent (%) of your yearly household income; or
• $695 per adult and $347.50 per child under the age of 18.

After 2016 the penalty is adjusted annually for inflation.

Are there any exemptions from having to pay the penalty?

Yes, there are several exemptions available based upon your circumstances.  There are exemptions for the following situations:

1. You are uninsured for less than 3 months of the year;
2. The lowest-priced coverage available to you would cost more than 8% of your household income;
3. You don't have to file a tax return because your income is too low;
4. You are a member of a federally recognized tribe or eligible for services through an Indian Health Services provider;
5. You are a member of a recognized health care sharing ministry;
6. You are a member of a recognized religious sect with religious objections to insurance, including Social Security and Medicare;
7. You are incarcerated (either detained or jailed), and not being held pending disposition of charges;
8. You are not lawfully present in the United States; or
9. You qualify for a hardship exemption.

But I thought I heard that the implementation of the Individual Mandate has been delayed?

The Obama Administration announced earlier this year that it is delaying the implementation of the individual mandate until October, 2016 for millions of Americans who have lost their insurance coverage.  If you believe you qualify, you will want to discuss your situation with an expert in the medical insurance field and potentially apply for the "hardship" exemption.