Lessons from the Soon to Be Repealed (and Reenacted) Section 68 Limitation

Abstract

Commentators have long regarded Section 68, the Overall Limitation on Itemized Deductions, as primarily a hidden increase in marginal rates. In this paper we use tax return data to show that the effects of the provision are more complicated. For most taxpayers, as expected, section 68 operates as an increase in the marginal rate on income (but not deductions). For a significant number of very high income taxpayers, however, section 68 operates as a true limitation on itemized deductions, permitting a deduction of only 20 cents on the dollar. In addition, commentators had failed to notice that section 68 operates to force a significant percentage of taxpayers to use the standard deduction rather than itemizing. By measuring more precisely the different ways section 68 applies, we gain a fuller picture of that section's effects on the tax rates faced by various taxpayers. More generally, our research demonstrates the importance of understanding the interaction between different provisions of the Code and the danger in relying on aggregate and average data in analyzing the effects of current law and predicting the effects of changes in the law.