Limits on Itemized Income Tax Deductions

Did you know that certain itemized deductions are subject to limits if your adjusted gross income (AGI) is too high? For 2008, the AGI threshold is $159,950 (or $79,975 if you are married filing separately). If you make more than that, you’ll may have to forgo a portion of your income tax deductions. The real bummer here (if you’re affected) is that you’re not only sitting in one of the highest income tax brackets, but you’re also losing out on a portion of your deductions.

Which Itemized Deductions are Limited?

According to IRS Publication 17, the following deductions are subject to the limit on itemized tax deductions: taxes paid, interest paid, gifts to charity, job expenses, and certain other miscellaneous deductions.

Which Itemized Deductions are Not Limited?

The following deductions are not subject to the limit on itemized tax deductions: medical and dental expenses, investment interest expense, gifts by cash or check that you choose treat as qualified contributions, casualty and theft losses of personal use property, casualty and theft losses of income-producing property, and gambling losses (wooho!).

How do You Figure the Itemized Deduction Limit?

If your itemized deductions are subject to the limit, then the total of all such deductions is reduced by the smaller if the following values reduced by two-thirds*:

• 80% of your itemized deductions that are affected by the limit, or
• 3% of the amount by which your AGI exceeds the applicable income limit ($159,950 or $79,975 as the case may be)

Confused? It’s not actually as bad as it sounds, and there’s a worksheet in the instructions to Form 1040, Schedule A that walks you through it. Note that the two-thirds reduction means that the (formerly) so-called 3% limit (the second bullet point, above) is now a 2% limit. Leave it to the IRS to make it so convoluted.

*Note: IRS guidance states that the values should be “reduced by two-thirds,” but what they really mean is that you should use “two-thirds of the value.” They later state this more clearly when they say that you should divide the values by 1.5 (dividing by 3/2 is the same as multiplying by 2/3). Ugh. Thanks IRS.