2026 Itemized Deduction Limitation: How the OBBBA’s 2/37 Haircut Works for Top-Bracket Filers

The 2026 itemized deduction limit is a new statutory haircut under Internal Revenue Code section 68, enacted by Section 70425 of the One Big Beautiful Bill Act (OBBBA, Public Law 119—21). The limit applies to individuals whose taxable income reaches the top 37% bracket. Mechanically, the haircut equals 2/37 of the lesser of (a) total itemized deductions or (b) the portion of taxable income that exceeds the 37% bracket threshold. The 37% threshold for 2026 is projected at $640,600 for single filers and head of household, $768,700 for married filing jointly, and $384,350 for married filing separately, all inflation-adjusted under the standard procedures of section 1(j).

The 2/37 fraction equates to approximately 5.4054% of the relevant deduction base. In effect, the haircut recaptures 2 percentage points of the federal tax benefit on each affected dollar of itemized deduction. At the 37% top bracket, $1 of itemized deduction normally saves $0.37 of federal tax. The 2/37 haircut means you keep only $0.35 of that benefit, losing $0.02 to the recapture. The math is designed to mirror, at the federal top rate, the kind of recapture that the original Pease limitation produced from 1990 to 2017 (though the original Pease formula was a flat 3% phase-out of itemized deductions above an AGI threshold, with no taxable-income reference).

Exceptions to the haircut are narrow. The haircut applies only to itemized deductions on Schedule A, not to above-the-line deductions, not to the qualified business income deduction under section 199A, not to standard deduction filers, and not to tax credits. The standard deduction for 2026 is projected at roughly $15,750 single, $31,500 MFJ. Taxpayers who would itemize at a Schedule A total close to the standard deduction can usually take the standard deduction instead and avoid the section 68 haircut entirely, although they then lose the additional itemized deductions above the standard deduction amount. For very high-income filers (above the 37% threshold), itemizing almost always exceeds the standard deduction because SALT ($40,000 cap) plus mortgage interest plus charitable typically reach $60,000+ even at modest giving levels. Itemizing is forced; the haircut is unavoidable.

Common mistakes will track three patterns. First, taxpayers will compute the section 68 haircut using AGI instead of taxable income. The 37% bracket reference in section 68 is to taxable income, which equals AGI minus the larger of standard or itemized deductions, minus the QBI deduction. AGI is always larger than taxable income, and using the wrong number produces a different haircut. Tax software handles this correctly if the inputs are right, but hand-calculations and quick estimates often confuse the two. Second, taxpayers will fail to account for the timing of the section 199A deduction relative to section 68. Section 199A is computed on taxable income before the section 68 haircut, but section 68 is computed using a taxable income figure that includes the section 199A deduction. The ordering matters. Third, married couples will overlook the option of filing separately, which can change the bracket threshold calculation and the haircut amount, sometimes producing a better overall federal tax result depending on how each spouse’s income and deductions distribute.

Dollar examples across affected income bands. Single filer with $800,000 taxable income and $80,000 itemized deductions: taxable income over threshold = $800,000 — $640,600 = $159,400. Lesser of $159,400 or $80,000 = $80,000. Haircut = $80,000 × 2/37 = $4,324. Tax cost at 37% = $1,600. Married couple with $1.2 million taxable income and $150,000 itemized: excess over threshold = $1,200,000 — $768,700 = $431,300. Lesser of $431,300 or $150,000 = $150,000. Haircut = $8,108. Tax cost = $3,000. Single filer with $5 million taxable income and $300,000 itemized: excess = $4,359,400. Lesser of $4,359,400 or $300,000 = $300,000. Haircut = $16,216. Tax cost = $6,000. The haircut grows linearly with itemized deduction size up to the point where total itemized equals the excess over threshold, then plateaus.

Documentation and substantiation. The section 68 haircut is computed mechanically from the Schedule A total, so there are no new documentation requirements at the line-item level. The existing substantiation rules for each itemized deduction category continue to apply: contemporaneous written acknowledgement for charitable gifts of $250+, Form 1098 from the lender for mortgage interest, real estate tax bills for property taxes within the SALT cap, qualified medical expense records for medical deductions above 7.5% AGI. The section 68 haircut is calculated on the worksheet that flows to Form 1040 line 12, with the haircut number reducing the Schedule A total before it lands on line 12. Tax software handles the calculation; manual return preparation requires the section 68 worksheet (which the IRS will publish in the 2026 Form 1040 instructions).

Audit risk for the section 68 haircut. Low, in isolation, because the calculation is mechanical and computer-checked. The IRS computer-matching process will recompute the section 68 haircut from the return’s reported taxable income, itemized total, and 37% bracket threshold, and will issue automated correction notices for arithmetic errors. The bigger audit risks for high-income filers remain in the underlying itemized deduction categories themselves: large charitable gifts (especially noncash gifts requiring appraisals), home mortgage interest (where the lender’s Form 1098 doesn’t match the deduction claimed), and state and local tax deductions where the $40,000 cap is exceeded by the gross SALT (which it usually is for top-bracket filers in high-tax states).

The Reed Corporation value-add. For affected high-income clients, we model the section 68 haircut in our multi-year tax planning software and incorporate it into year-end planning conversations. The main strategies we deploy: (1) timing of income recognition to keep taxable income just below the 37% bracket threshold where possible (avoiding the haircut entirely in years where the math works); (2) shifting deductions above the line through legitimate restructuring (self-employed home office deductions, HSA contributions, SEP-IRA contributions for business owners); (3) bunching charitable giving through DAFs to concentrate the haircut into fewer years while taking the unlimited standard deduction in off years; (4) coordinating spouse-by-spouse for MFS analysis where appropriate. The annual return preparation captures the strategy on the right lines and survives examination.

If your taxable income is approaching or exceeds the 37% bracket, the section 68 haircut is one of several stacked OBBBA-era limitations worth modeling. We work with clients to project the multi-year impact, identify the strategies that produce the largest after-tax retained value, and document the plan to survive an IRS examination.

The section 68 haircut applies only to individual taxpayers whose taxable income reaches the top 37% bracket in 2026. Below the threshold, the haircut is zero. The relevant figure is taxable income, not adjusted gross income (AGI), so the cutoff in AGI terms is somewhat higher than the bracket threshold itself, depending on the size of the standard or itemized deduction and the QBI deduction. For 2026, the 37% bracket thresholds (projected, subject to IRS confirmation in the final inflation-adjustment Revenue Procedure) are $640,600 for single filers, $768,700 for married filing jointly, $640,600 for head of household, and $384,350 for married filing separately.

Practical AGI cutoffs for being affected. A single filer with $40,000 of SALT (the OBBBA-extended cap), $20,000 of mortgage interest, $20,000 of charitable giving, and no QBI needs AGI of roughly $720,000 to clear the 37% bracket threshold of $640,600 (since taxable income = AGI minus $80,000 itemized minus $0 QBI). For a married couple with the same deduction profile, the AGI cutoff is roughly $848,000 (taxable income threshold of $768,700 plus $80,000 deductions). For filers with significant QBI deductions (self-employed taxpayers, partners in pass-through entities), the AGI threshold is higher still, because the QBI deduction lowers taxable income relative to AGI. A self-employed taxpayer with $200,000 of QBI generating a $40,000 QBI deduction has an AGI threshold roughly $40,000 higher than the same-deductions W-2 employee.

By demographic. Geographic concentration is sharp. New York City, San Francisco Bay Area, Los Angeles, Boston, Seattle, Washington DC, and Chicago metropolitan areas account for the majority of section 68-affected households nationally, both because top-bracket household incomes cluster there (technology, finance, law, medicine, executive compensation) and because high state and local taxes produce larger itemized totals (more deduction base for the haircut to bite into). Florida, Texas, Tennessee, Washington State, and other no-income-tax states see fewer affected households at the same income level and smaller haircuts when affected (because itemized totals are smaller without state income tax inflating the SALT line). By industry, technology executives with stock-based compensation, finance professionals at the senior level, partners at major law and accounting firms, surgeons, and successful entrepreneurs are the typical affected demographic.

Common misunderstandings about who is affected. First, the haircut is not a phase-out, so there is no income range over which the haircut gradually appears. It starts at the 37% bracket threshold and applies fully to every dollar above. There is no soft transition zone. Second, the haircut is not based on AGI, so taxpayers using AGI-based estimates often overstate or understate their exposure. Third, the haircut applies to total itemized deductions, not to specific categories like charitable or SALT. A high-itemizer who is mostly SALT-and-mortgage will see the same per-dollar haircut as a high-itemizer who is mostly charitable. Fourth, the haircut applies to the lesser of total itemized or excess over threshold, so for moderately above-threshold filers with very large itemized totals, the haircut may be capped at the threshold-excess amount rather than the full itemized amount.

Dollar examples by filer category. Manhattan technology executive single filer, $1.5 million taxable income, $100,000 itemized: haircut = $100,000 × 2/37 = $5,405, tax cost $2,000. Bay Area MFJ couple, $2 million taxable income, $150,000 itemized: haircut = $150,000 × 2/37 = $8,108, tax cost $3,000. Miami real estate developer MFJ, $5 million taxable income, $250,000 itemized: haircut = $250,000 × 2/37 = $13,514, tax cost $5,000. Houston physician MFJ, $1 million taxable income, $80,000 itemized: excess over threshold = $231,300; lesser of $231,300 or $80,000 = $80,000; haircut = $4,324, tax cost $1,600. Numbers scale with itemized deduction size and (for high-itemizers) with how far above the threshold taxable income lands.

Documentation requirements specific to high-income filers. None unique to section 68; the substantiation rules continue to apply at the individual line-item level. Where high-income filers see disproportionate audit attention is in three categories: noncash charitable contributions (Form 8283, qualified appraisal for gifts above $5,000, IRS Art Advisory Panel review for art above $50,000), home mortgage interest (where the lender’s Form 1098 mortgage balance should be cross-checked against the section 163(h) acquisition debt limits for jumbo mortgages above $750,000), and state and local taxes paid (where the SALT cap requires careful tracking of the $40,000 limit and the payment-year rules for property taxes and estimated state income taxes).

Common planning conversations for high-income clients. First, can you defer income out of the 37% bracket? Bonus timing, business income recognition for pass-throughs, exercise of stock options, sale of appreciated investments. Each dollar deferred out of the 37% bracket avoids the section 68 haircut on the corresponding itemized deduction dollar (up to the cap). Second, can you shift deductions above the line? Self-employed taxpayers have more flexibility here than W-2 employees, but even W-2 filers can sometimes restructure to reduce Schedule A reliance. Third, can you bunch charitable giving? DAF funding in concentrated years lets you take the standard deduction in off years (which is not subject to section 68). Fourth, for very high earners with significant pass-through income, can you improve the section 199A deduction to reduce taxable income before section 68 runs?

Audit risk. The section 68 calculation itself is mechanical and produces a predictable haircut. The IRS computer-matching process recomputes it and issues automated notices for arithmetic errors. The substantive audit risk for affected high-income filers is in the underlying itemized categories, especially large noncash charitable gifts (high audit rate above $10,000 of noncash), conservation easement deductions (heavily litigated), and SALT compliance (especially in years with prepayments or refunds that affect the cap calculation).

The Reed Corporation value-add. We work with high-income individual and family clients to model the section 68 impact, identify the income- and deduction-timing strategies that minimize the haircut, coordinate the strategy with other OBBBA-era limitations (0.5% charitable floor, $40,000 SALT cap, QBI 199A improvement), and document the plan in writing for audit defense. The annual return preparation captures the strategy and the section 68 calculation correctly. For clients with multi-state residency or international tax issues, we coordinate the federal section 68 calculation with state-level itemized deduction limitations and treaty positions to improve the global effective tax rate.

If your household taxable income approaches the 37% bracket and you have material itemized deductions, the section 68 haircut deserves a planning conversation. We help clients understand the math, project the multi-year impact, and design the strategies that retain the most after-tax value.

Yes, the section 68 haircut applies to all itemized deductions on Schedule A in a single pool. It does not pick favorites among categories. State and local taxes (capped at $40,000 by the OBBBA-extended SALT cap), home mortgage interest within section 163(h) acquisition debt limits, charitable contributions (subject to the new 0.5% AGI floor), qualified medical expenses above 7.5% AGI, and casualty losses limited to federally-declared disaster zones all feed the same Schedule A total. The total then gets reduced by the section 68 haircut at 2/37 of the lesser of total itemized or taxable income above the 37% bracket.

The SALT interaction. The $40,000 SALT cap under section 164(b)(6) limits the deduction for state and local taxes (income tax, real estate tax, personal property tax) before those amounts feed Schedule A. OBBBA extended the cap at $40,000 through 2029 (the TCJA-era cap was $10,000, expiring after 2025; OBBBA raised it to $40,000 for 2025-2029). For high-income filers in New York, California, New Jersey, Illinois, Massachusetts, and other high-tax states, the $40,000 cap is reached easily, often by property taxes alone, with the rest of state income tax paid being nondeductible. The capped $40,000 still feeds the Schedule A pool and is subject to the 2/37 section 68 haircut, so the effective deductible SALT at the 37% bracket is approximately $40,000 × (1 — 2/37) = $37,838 per year for filers fully exposed to the haircut.

The mortgage interest interaction. Home acquisition debt up to $750,000 (for mortgages incurred after December 15, 2017) generates deductible mortgage interest under section 163(h). For pre-December 15, 2017 mortgages, the grandfathered limit is $1 million. Refinanced mortgages within the original principal balance keep the grandfathered treatment. Home equity loans secured by the home are deductible only to the extent the proceeds were used for acquisition debt (buying, building, or substantially improving the home). The deductible mortgage interest amount lands on Schedule A and feeds the section 68 calculation just like every other itemized line. A $750,000 mortgage at 7% generates roughly $52,000 of first-year deductible interest, which at the 37% bracket and full section 68 exposure produces $52,000 × 35/37 = $49,189 of effective deduction, costing $1,043 to the section 68 haircut. Over a 30-year mortgage with declining interest deductions, the cumulative section 68 cost on mortgage interest alone runs to $15,000-$25,000 for typical high-income borrowers.

The charitable interaction. The new 0.5% AGI floor under section 170(p) strips off 0.5% of AGI before charitable amounts hit Schedule A. So a $2 million-AGI taxpayer giving $100,000 of cash to public charity loses $10,000 to the floor and lands $90,000 on Schedule A. Then the section 68 haircut runs on the entire Schedule A total (including this $90,000 plus SALT plus mortgage interest plus medical, etc.). The two limitations stack: floor first, then section 68. For very high-income philanthropic households, the combined impact can disallow 10%+ of charitable giving when measured against pre-floor pre-haircut gross gift. The combined effective deduction rate at 37% federal can drop to roughly 33% on each charitable dollar (37% nominal, less 5.4% section 68 haircut equivalent, less the floor losses on the first 0.5% AGI of giving).

Common mistakes around the interaction. First, taxpayers will ask whether they can selectively apply the section 68 haircut to less-valuable deductions, like SALT (which is already capped) rather than charitable (which is uncapped beyond the 0.5% floor and the 60%/30% ceilings). The answer is no; the haircut is mechanical and applies to total itemized, with no taxpayer election as to category. Second, taxpayers will conflate the section 68 haircut with the original Pease limitation (which operated as an AGI-based phase-out from 1990 to 2017 and was different from the new formula). Third, taxpayers will assume that mortgage interest is somehow protected from section 68 because it represents real interest cost. It is not. Mortgage interest is treated identically to any other itemized line. Fourth, taxpayers will overlook the medical expense floor at 7.5% AGI (which already disallows the first slice of medical) and then apply section 68 on top, double-haircutting the medical category.

Dollar examples showing the interaction. Manhattan MFJ couple, $1.5 million AGI, $1.42 million taxable income. Itemized: $40,000 SALT + $55,000 mortgage interest + $50,000 charitable (net of $7,500 floor on $57,500 gross) = $145,000 Schedule A. Section 68: lesser of $651,300 excess over threshold or $145,000 = $145,000. Haircut = $145,000 × 2/37 = $7,838. Net deductible: $137,162. Federal tax cost of section 68: $2,900. Combined with charitable floor cost of $7,500 × 37% = $2,775. Total OBBBA-itemization cost for this household: $5,675 annually. Bay Area single filer, $2.5 million AGI, $2.4 million taxable income. Itemized: $40,000 SALT + $48,000 mortgage + $80,000 charitable (net of $12,500 floor) = $168,000. Haircut = $168,000 × 2/37 = $9,081. Tax cost $3,360. Plus floor cost $4,625. Total $7,985.

Documentation requirements unchanged. Each itemized line continues to need its own substantiation: Form 1098 from the lender for mortgage interest, real estate tax bills (paid in the tax year for cash-basis taxpayers), state income tax payment records, contemporaneous written acknowledgements for charitable gifts of $250+, medical expense records cross-referenced to insurance reimbursements. The section 68 haircut applies to the totaled amount, but the audit support for each line item is separate. Maintain a tax-year folder organized by category with all backup documents.

Audit risk. The mechanical section 68 calculation produces low audit risk on its own. The audit risk concentrates in the underlying line items. Mortgage interest above $20,000 with a Form 1098 showing a $1 million+ balance triggers IRS attention because of the $750,000 acquisition debt cap. SALT deductions near or at the $40,000 cap get scrutinized to verify proper allocation between income tax, real estate tax, and personal property tax (with personal property tax being a smaller component in most states). Charitable deductions above $10,000 in noncash categories almost always require Form 8283 review on audit, and gifts above $20,000 require qualified appraisal review.

The Reed Corporation value-add. We coordinate the multiple OBBBA limitations (0.5% charitable floor, $40,000 SALT cap, 2/37 section 68 haircut) for each client with material itemized deductions. The model captures the stacking effect and the after-tax cost of each deduction category. For SALT, we verify proper allocation and explore the use of pass-through entity tax (PTET) elections at the state level (which workaround the federal SALT cap for some pass-through owners in roughly 30 states with PTET regimes). For mortgage interest, we verify acquisition debt classification, especially for refinanced mortgages and home equity uses. For charitable, we model bunching, DAF funding, and asset selection. The annual return preparation captures all of this and documents the support for audit defense.

If you have material itemized deductions across multiple categories and taxable income approaching the 37% bracket, the interaction of the OBBBA limitations deserves planning. We help clients understand the math, identify the most-impacted categories for their specific situation, and design the strategies that retain the most after-tax value.

The cost depends on three numbers: how far your taxable income exceeds the 37% bracket threshold, the size of your total itemized deductions, and your marginal tax rate at the federal level (37%) plus any state-level piggy-back. The mechanical formula is straightforward: haircut = (lesser of total itemized or taxable income above threshold) × 2/37. Federal tax cost = haircut × 37%. State tax cost varies by state. The result is a per-year dollar number that you can multiply across your remaining career and giving horizon to see the cumulative impact.

Quick estimates by taxable income level. At $800,000 taxable income (single filer, just above the $640,600 threshold) with $80,000 itemized: haircut $4,324, federal tax cost $1,600. At $1 million single with $100,000 itemized: haircut $5,405, tax cost $2,000. At $1.5 million MFJ (just above $768,700 threshold) with $120,000 itemized: haircut $6,486, tax cost $2,400. At $2 million MFJ with $150,000 itemized: haircut $8,108, tax cost $3,000. At $3 million MFJ with $200,000 itemized: haircut $10,811, tax cost $4,000. At $5 million MFJ with $300,000 itemized: haircut $16,216, tax cost $6,000. At $10 million MFJ with $500,000 itemized: haircut $27,027, tax cost $10,000. The haircut scales linearly with itemized deductions until itemized equals the excess over threshold, then plateaus at the lesser amount.

Geographic variation. The combined federal-plus-state tax cost of the section 68 haircut depends on whether your state piggy-backs on federal taxable income and how the state treats itemized deductions. New York, California, Hawaii, and Oregon are among the states with the highest combined burden because they have high state income tax rates (10%+ at the top bracket) and they conform substantially to the federal itemized deduction rules. New Jersey, Illinois, and Massachusetts have lower top rates but still produce meaningful state-level haircut equivalents. Florida, Texas, Tennessee, Washington, Nevada, and Wyoming have no state income tax, so the federal section 68 cost is the only piece. South Dakota, Alaska, and New Hampshire are also low-tax states. A $2 million-AGI New York household pays approximately $4,000 of state tax cost on top of the federal $3,000 section 68 cost, total $7,000 a year. The same household in Miami pays $3,000.

Multi-year cumulative cost projections. A 45-year-old at $2 million taxable income today with steady-state earnings until retirement at 65: 20-year window of section 68 exposure. At $3,000-$3,500 federal cost per year (assuming inflation adjustment of thresholds keeps the haircut roughly proportional), the cumulative cost is roughly $65,000 to $75,000 in present-day dollars (using a 3% discount rate). Add state tax cost in high-tax states for another $50,000 to $80,000. Total: roughly $115,000 to $155,000 of lifetime section 68 cost for a typical $2 million-AGI New York or California household. A higher-income household at $5 million taxable income with the same 20-year window: roughly $130,000 federal plus $100,000 state, total $230,000 cumulative lifetime cost.

Mitigation strategies and their dollar value. Income deferral that moves $100,000 below the 37% threshold saves $100,000 × 2/37 × 37% = $2,000 of federal tax annually (assuming itemized is large enough to absorb the threshold reduction). Shifting $20,000 of deductions above the line saves $20,000 × 2/37 × 37% = $400 a year. Bunching charitable giving from annual into every-third-year reduces the haircut by approximately one-third of the per-year amount over the bunch cycle. Each strategy has its own implementation complexity and shouldn’t be deployed in isolation; the overall after-tax outcome matters more than any single tactic. The Reed Corporation models the full strategy and quantifies the after-tax savings before recommending.

Comparison with the original Pease limitation (pre-2018). The original Pease limitation phased out 3% of itemized deductions for AGI above a threshold ($313,800 MFJ in 2017), capped at 80% of total itemized. The new section 68 is structurally different: it’s based on taxable income above the 37% bracket (a higher threshold than original Pease), uses a 2/37 fraction instead of 3%, and is capped at the lesser of total itemized or excess over threshold. For most affected taxpayers, the new section 68 is less aggressive than the original Pease would have been (had it returned in 2026 in its pre-TCJA form), but it still produces a measurable cost. The shift from AGI-based to taxable-income-based reference also means high-income filers with large deductions get slightly different treatment than they would have under original Pease.

Documentation. No new documentation requirements at the section 68 level. The calculation is mechanical from the Schedule A total. Existing documentation requirements for each itemized line apply. For audit defense, maintain a section 68 worksheet showing the year’s taxable income, the 37% bracket threshold, the excess over threshold, the total itemized, the lesser amount, and the 2/37 haircut. Tax software generates this worksheet automatically; keep a printed copy with the return file.

Audit risk. Low for section 68 itself. The IRS computer-matching process recomputes the haircut and issues automated correction notices for arithmetic errors. Substantive audit risk is in the underlying itemized line items, not in the section 68 calculation.

The Reed Corporation value-add. For each affected client, we run a multi-year projection of section 68 cost under different planning scenarios and produce a written planning memo with the strategy recommendations and the projected dollar savings. The memo captures the assumptions, the projected income and deduction profile, the section 68 calculation in each year of the projection, and the cumulative cost over the planning horizon. Clients use the memo to make informed decisions about income timing, charitable bunching, retirement contributions, and entity structure. The annual return preparation captures the strategy and documents the support for audit defense.

If your taxable income is in the 37% bracket or close to it, knowing your specific section 68 cost is the first step in deciding what to do about it. The dollar numbers above are general estimates; your actual cost depends on your specific deduction profile and income volatility. A 30-minute planning conversation produces a personalized projection.

Yes, there are several strategies to reduce the impact of the section 68 haircut for affected high-income filers. The strategies fall into four buckets: (1) reduce taxable income to keep it below or just barely above the 37% bracket threshold, (2) shift deductions above the line so they don’t feed the Schedule A pool, (3) bunch deductions into concentrated years to reduce the total years of exposure, and (4) coordinate with other tax planning levers (199A, retirement contributions, entity structure) so the section 68 haircut becomes a smaller piece of the overall tax bill.

Strategy 1: reduce taxable income. The 37% bracket threshold is $640,600 single, $768,700 MFJ for 2026. Every dollar of taxable income kept below the threshold avoids the 2/37 haircut on the corresponding itemized deduction. Tools: defer year-end bonuses to January, accelerate deductible expenses into December, time business income recognition for pass-through entities, make the most of retirement plan contributions (401(k), SEP-IRA, defined benefit plans for self-employed), take itemized deductions in years with higher AGI (which doesn’t help section 68 but does help SALT and AMT), and consider Roth conversion timing carefully (since conversions add to ordinary income, they push you deeper into the 37% bracket and may increase section 68 cost; conversions are best done in low-income years).

Strategy 2: shift deductions above the line. Above-the-line deductions reduce AGI directly and don’t feed Schedule A. They escape the section 68 haircut entirely. Tools: self-employed taxpayers can claim home office deduction on Schedule C (reducing business income before it hits AGI), self-employed health insurance under section 162(l), HSA contributions under section 223, SEP-IRA and solo 401(k) contributions for self-employed taxpayers, and the new $1,000/$2,000 nonitemizer charitable deduction under OBBBA (although this requires not itemizing in the first place, which conflicts with high-income filers who almost always itemize). For W-2 employees, the above-the-line options are more limited: HSA contributions if eligible, student loan interest within phase-out limits (usually phased out at high income), and educator expenses (modest amount). The shift from itemized to above-the-line is most powerful for business owners and self-employed professionals.

Strategy 3: bunch deductions. The section 68 haircut applies in years you itemize. In years you take the standard deduction (which is not subject to section 68), you avoid the haircut entirely on the otherwise-foregone deductions. By bunching three to five years of charitable giving into one tax year (using a donor-advised fund as the vehicle), you can take the standard deduction in the off years and concentrate the haircut into the bunch year. Net effect: one section 68 haircut on a large bunch year, versus multiple section 68 haircuts on smaller annual amounts. The bunch year haircut scales with the larger itemized total, so the per-dollar haircut is similar, but the off-year savings from taking the standard deduction (and the new $1,000/$2,000 nonitemizer deduction stacked on top) provide additional benefit. This strategy works best for taxpayers whose non-charitable itemized deductions (SALT + mortgage interest) don’t already exceed the standard deduction. For most $1M+-AGI filers, SALT plus mortgage interest alone exceeds the standard deduction, so the bunch doesn’t actually free them from itemizing in off years. The bunch still wins on the section 68 math because the off-year itemized total is smaller and the haircut on it is correspondingly smaller, but the off-year benefit is muted compared to filers who can fully drop into the standard deduction in off years.

Strategy 4: coordinate with other tax planning. The section 199A qualified business income deduction reduces taxable income before section 68 runs. Making the most of 199A (within the income thresholds and trade-or-business limitations) is one of the most powerful ways to push taxable income below the 37% threshold or reduce the excess over the threshold. For business owners structured as S-corps or partnerships, 199A planning involves balancing wages versus distributions (for S-corps), allocating partnership items strategically (for partnerships), and managing the W-2 wages and unadjusted basis tests for specified service trade or businesses. For real estate professionals, 199A planning involves elections and basis tracking. The 199A deduction has its own limitations and phase-ins that interact with section 68 in complex ways; we model the combined effect for each client.

Pass-through entity tax (PTET) elections. Roughly 30 states have enacted PTET regimes that let pass-through entity owners pay state income tax at the entity level and deduct it as a business expense (rather than as a personal SALT itemized deduction subject to the $40,000 cap). For pass-through owners in high-tax PTET states (New York, California, New Jersey, Illinois, Massachusetts, Connecticut), the PTET election can substantially reduce Schedule A by removing state income tax from the SALT cap calculation, with corresponding reduction in the section 68 haircut. The election requires entity-level filing and has implementation complexity, but for high-income pass-through owners, the savings can run to tens of thousands of dollars annually. We coordinate the PTET election with the annual return preparation.

Charitable lead trusts (CLTs) and charitable remainder trusts (CRTs). For very high-income filers giving more than $500,000 a year, these split-interest trusts can convert a single year’s charitable deduction into a multi-year benefit structure with different tax characteristics than a direct gift. A CLAT (charitable lead annuity trust) generates an upfront charitable deduction at the time of funding, with annuity payments to the charity over a term of years and the remainder to family. The charitable deduction calculation uses the section 7520 rate, which in low-rate environments produces large deductions on relatively small economic gifts. The deduction feeds Schedule A and is subject to section 68 just like any other charitable gift, but the lever ratio of deduction-to-actual-cash-given is favorable. CRTs work differently: the donor gets income for a term (or for life) and the remainder goes to charity. The charitable deduction is the present value of the remainder interest. These vehicles are best suited for taxpayers with very large gifts and specific estate planning goals.

Documentation. Strategy implementation requires written documentation. PTET elections require entity-level filings with the state (usually by March 15 of the following year). Charitable lead trusts and remainder trusts require trust agreements drafted by a qualified attorney and ongoing trust accounting. Bunching strategies require DAF funding documentation and a multi-year giving plan. Income deferral strategies require employer cooperation (for bonus timing) or careful business income management. We document the strategy in a written planning memo and capture the implementation in the return preparation file.

Audit risk for each strategy. Income deferral: low if structured properly (legitimate business deferrals, IRS-approved bonus timing), high if the deferral lacks economic substance or is a sham transaction. Above-the-line deductions: low for legitimate uses (home office for actual business use, HSA for actual HSA-eligible health plan, SEP-IRA for actual self-employment income); high if the underlying business expense or contribution is fabricated. Bunching: low; DAFs are well-established. PTET elections: low; state-level audit risk only, and most PTET regimes are administered straightforwardly. Lead trusts and remainder trusts: moderate; the IRS scrutinizes these for proper structure, especially around the 7520-rate calculation and the valuation of remainder interests. Qualified appraisals are often required for funding assets.

The Reed Corporation value-add. We model the multi-year section 68 cost under multiple planning scenarios and recommend the combination of strategies that produces the largest after-tax retained value. For each client, the recommended combination is different depending on income volatility, business structure, charitable goals, family situation, and state of residency. The annual return preparation captures the implemented strategies and documents the support for audit defense. The mid-year and year-end planning conversations refine the strategy as income projections change. For clients with multi-state issues, business exits, or large planned charitable gifts, we coordinate with attorneys (estate, business, family law) and other advisors to execute the plan cleanly.

If your taxable income exceeds the 37% bracket, you’re paying for the section 68 haircut every year. The right combination of strategies can reduce that cost by 30-70% for typical high-income filers, with the upper end of the range for taxpayers with significant business income, charitable giving capacity, and multi-state planning flexibility. The planning conversation starts with a multi-year income projection and ends with a written plan capturing the recommended strategies and their projected dollar savings.