Reinstate Personal Exemption Phaseout and Limitation on Itemized Deductions
High-income taxpayers face reductions of their personal exemptions and itemized deductions as their income exceeds specified levels. The 2001 tax act scheduled a gradual phased elimination of the reductions beginning in 2006 with complete elimination in 2010. The 2010 tax act extended the elimination through 2012, after which, under current law, the reductions return at their original levels. The president proposes to allow both reductions to resume in 2013 but only for high-income taxpayers—single filers with AGI over $200,000 and joint filers with AGI over $250,000 (2009 values, indexed for inflation).
In its full form, the personal exemption phaseout (PEP) reduces the value of each personal exemption from its full value by 2 percent for each $2,500 or part thereof above specified income thresholds that depend on filing status. Personal exemptions are thus fully phased out over a $122,500 range (see table).
The limitation on itemized deductions—known as Pease after the congressman who introduced it—cuts itemized deductions by 3 percent of adjusted gross income above specified thresholds but not by more than 80 percent. The income threshold—projected to be $174,450 in 2013 ($87,225 for married couples filing separately)—is indexed for inflation.
The president proposes to allow both PEP and Pease to resume for high-income taxpayers in 2013 but would markedly change the income levels above which the provisions apply. The threshold for the phaseouts would begin at 2009 levels of $250,000 for couples.* $200,000 for single taxpayers, and $225,000 for heads of household, with both values indexed for inflation. TPC estimates that 2013 thresholds would be $261,450 for couples, $209,150 for single filers, $235,300 for heads of household, and $130,725 for couples filing separately. Personal exemptions would thus phase out at incomes between $261,450 and $383,950 for joint filers, between $209,150 and $331,650 for single filers, and between $235,300 and $357,800 for heads of household.** Taxpayers would have their itemized deductions reduced in 2013 by 3 percent of their income over the same thresholds but not by more than 80 percent. Both phaseouts would increase marginal tax rates for taxpayers in the affected income ranges. The increase would jump irregularly for PEP, depending on the number of exemptions a taxpayer claims. Pease would increase the marginal tax rate of affected taxpayers by 3 percent of their bracket rate: 36 percent would go to 37.08 percent, and 39.6 percent would rise to 40.79 percent. Reinstating the two provisions would increase revenue by about $165 billion over ten years, compared with current policy.
Tax Policy Briefing Book: Income Tax Issues: How do phaseouts of tax provisions affect taxpayers?
*PEP would start at $125,000 (indexed forward from 2009) for couples filing separately.
**The values for married couples filing separately would be half those for joint filers.