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March 10, 2014
The Hidden Repeal of the Mortgage and Charitable Deductions
by John L. Buckley

Full Text Published by Tax Analysts®

The individual income tax provisions in the tax reform discussion draft released by House Ways and Means Committee Chair Dave Camp, R-Mich., seem to be designed with the goal of minimizing controversy to the maximum extent possible. The draft would repeal the itemized deduction for state and local taxes, a proposal not without controversy, but expected. To the surprise of some, the draft would leave the exclusion for employer-provided healthcare virtually untouched. The only provision affecting that exclusion is the inclusion of employer-provided healthcare in the base of the 10 percent surtax. It also would make limited direct changes to the charitable contribution deduction by imposing a 2 percent floor on deductibility and to the home mortgage interest deduction by imposing a $500,000 cap on new mortgages.

However, the interaction of several aspects of the discussion draft indirectly would do something that few, if any, members of Congress would dare to propose. The discussion draft would effectively repeal long-standing incentives for charitable giving and home ownership for all but 5 percent of individual taxpayers. And, for reasons discussed below, the percentage of individuals unable to claim the charitable and home mortgage deductions may grow in the future. The "hidden" repeals result from the combination of direct changes to those deductions and the indirect effects of changes to other provisions.

Direct Changes to Charitable Deduction

The discussion draft makes several changes to the charitable deduction, the most relevant of which for purposes of this article is the imposition of a 2 percent floor on the deduction.
1 For most individuals, the provision would simply allow the charitable deduction only for the amount of their charitable contributions that exceed 2 percent of their adjusted gross income.

The Joint Committee on Taxation revenue table for the discussion draft does not include a separate estimate for the 2 percent floor. But the most recent Congressional Budget Office budget options pamphlet shows that a 2 percent floor on the charitable deduction would raise $212 billion over 10 years.2 Although the estimate appears in a CBO publication, it is a JCT estimate. The revenue estimate for the 2 percent floor is approximately 40 percent of the relevant JCT tax expenditure estimate for the entire charitable deduction.3 Clearly, a substantial portion of the charitable contributions now claimed on income tax returns would no longer be deductible.

For individuals with significant assets, there would be ways to minimize the impact of the floor, such as donor-advised funds, private foundations, and simply bunching contributions in a single year that otherwise would have been made over a period of years. Therefore, the major effect of the floor could fall on individuals making small, regular contributions to religious or other charitable institutions.

$500,000 Cap on Mortgages

The discussion draft would reduce the maximum amount of mortgage debt eligible for the home mortgage interest deduction for debt incurred after 2014. Currently, the limitation is $1 million for all taxpayers other than married individuals filing separate returns. After a three-year phase-in, the new limitation would be $500,000. Like the $1 million limit of current law, the $500,000 amount would not be indexed for inflation.

With current mortgage interest rates of approximately 4.5 percent, the maximum mortgage interest deduction would be $22,500. That maximum amount is equal to the amount of the new, increased standard deduction ($22,500) for joint returns, which is indexed for inflation.4

Repeal of Other Itemized Deductions

The 2 percent floor on the charitable deduction and the reduction in the maximum amount of mortgage debt eligible for the mortgage interest deduction are the two most important direct changes to those deductions. But their impact could easily be dwarfed by the indirect effect of changes to other provisions.

The standard deduction is in effect a flat-dollar floor on the allowance of itemized deductions. Itemized deductions give rise to a tax benefit only to the extent they exceed the amount of the standard deduction.

Thus, the larger the potential pool of itemized deductions, the more likely it is that the taxpayer will receive a tax benefit from the charitable and home mortgage interest deductions. The discussion draft would dramatically reduce the pool of itemized deductions in two ways. The first is the new 2 percent floor on the charitable deduction, discussed above. Second, the discussion draft would repeal virtually all itemized deductions other than the charitable and home mortgage interest deductions. The deductions repealed include the deductions for medical expenses, personal casualty losses, employee business expenses, and, most importantly, state and local taxes.

With those repeals, the standard deduction would operate as a floor affecting only the charitable and home mortgage interest deductions. Even with the current standard deduction, there would be a significant decrease in the number of itemizers and, for the remaining itemizers, a significant decrease in the tax benefit of those deductions.

Conversion to Standard Deduction Increase

One could argue that the indirect effect on the charitable and home mortgage interest deductions of the repeal of the other itemized deductions is merely the inevitable consequence of policy decisions concerning the appropriateness of those other deductions. That argument would not apply to the final step to the hidden repeals -- a step that appears deliberately designed to finish the job.

The discussion draft contains a dramatic increase in the standard deduction to approximately $22,500 for joint returns effective in 2015 (approximately a $10,000 increase) and to $11,250 for other returns.5 An increase in the standard deduction would reduce the benefit of itemized deductions, which would consist only of the charitable and home mortgage interest deductions. But it is hard to argue against a simple increase in the standard deduction. Some taxpayers may no longer itemize but only because the increased standard deduction is larger than their itemized deductions. Taxpayers who continue to itemize would have no change in allowable deductions.

However, the increase in the standard deduction in the discussion draft is accompanied by a repeal of the deduction for personal exemptions. In 2015 a personal exemption will be approximately $4,000.6

The discussion draft attempts to compensate for the loss of personal exemptions for dependents through adjustments to the child credit. The increase in the standard deduction appears to be designed to adjust for the loss of personal exemptions for the taxpayer and his or her spouse.

The question is what is being accomplished by the repeal of nondependent personal exemptions coupled with a slightly greater increase in the standard deduction. For individuals currently claiming the standard deduction, the answer is not much. For example, for 2015, under current law, a married couple would receive $20,500 in total deductions from the combination of the standard deduction and nondependent personal exemptions. Under the discussion draft, they would receive a modest increase to $22,500.

For individuals who would otherwise claim charitable and home mortgage interest deductions, the change matters a great deal. Personal exemptions are allowed in addition to itemized deductions. The conversion of those exemptions into a standard deduction increase that is allowed in lieu of itemized deductions would reduce total deductions. For married couples, the reduction in total deductions could be as much as $8,000. For example, a married couple with $22,500 in charitable and home mortgage interest deductions would receive $30,500 in deductions from their itemized deductions and nondependent personal exemptions if the discussion draft did not contain the provisions increasing the standard deduction and repealing personal exemptions. With those provisions, the taxpayer would receive no tax benefit for the itemized deductions because they would not exceed the increased standard deduction and lose $8,000 in personal exemptions.

Putting It All Together

When you look at the interaction of all the separate provisions that will directly or indirectly affect the charitable and home mortgage interest deduction, several things are obvious.

We would have a tax system in which itemized deductions would play a very small role. Only two itemized deductions would remain: a charitable deduction substantially reduced by the 2 percent floor and a mortgage interest deduction with a reduction in the amount of eligible mortgage debt.

Taxpayers would be able to claim those deductions only if they exceed a substantially increased standard deduction, $22,500 for a joint return. The increased standard deduction is accompanied by a repeal of the deduction for nondependent personal exemptions. Essentially, the bill would move that deduction from one line on the return to another, a move that would provide a benefit to no one but would increase taxes on those who would otherwise itemize their deductions.

For married individuals without substantial charitable contributions in excess of the 2 percent floor, it would be almost impossible to deduct home mortgage interest. With the new $500,000 limit and current interest rates, the maximum mortgage interest deduction would be approximately equal to the new standard deduction. The standard deduction is indexed, but the $500,000 limit is not, making it increasingly difficult to deduct home mortgage interest in the future.

One of the justifications for the home mortgage interest deduction is the goal of assisting first-time home buyers. But young families, the typical first-time home buyer, often have lower levels of charitable giving than other groups. Few would be able to deduct home mortgage interest.

Not surprisingly, charitable giving rises with age, and mortgage interest expense declines. A taxpayer without substantial mortgage interest expense would face two hurdles to deducting charitable contributions: the 2 percent floor and the increased standard deduction.

When you look at all the parts, it is not surprising that these deductions will be available only to 5 percent of taxpayers.


There has been a long debate about whether incentives like the charitable deduction and home mortgage interest deduction should be part of our tax laws. Personally, I worry about the collateral consequences of removing those long-standing incentives.

The Camp tax reform discussion draft effectively limits those incentives to a small slice of presumably high-income taxpayers. That slice may shrink in the future as existing mortgages that exceed the new $500,000 limit are retired and because the new limit is not adjusted for inflation, but the standard deduction is. Given all that, this may be the rare tax policy debate in which the answer is clear. There is no justification for charitable and homeownership incentives that are available to only 5 percent of taxpayers.

Finally, the Camp discussion draft has been correctly criticized as filled with gimmicks -- both budget gimmicks and hidden marginal rate increases. The repeal of personal exemptions and surface attempts to compensate for that repeal are among those gimmicks. The impact is not limited to being the final step in the effective repeal of charitable and home mortgage interest deductions. There are implications for the rate structure that I hope to examine in a future article.


 For a description of other changes, see the Joint Committee on Taxation, "Technical Explanation of the Tax Reform Act of 2014, A Discussion Draft of the Chairman of the House Committee on Ways and Means to Reform the Internal Revenue Code: Title I -- Tax Reform for Individuals," JCX-12-14 (Feb. 26, 2014).

2 CBO report (Pub. 4664), "Options for Reducing the Deficit: 2014 to 2023," at 119 (Nov. 1, 2013).

3 JCT, "Estimates of Federal Tax Expenditures for Fiscal Years 2012-2017," JCS-1-13 (Feb. 1, 2013).

4 The statutory language shows a standard deduction of $22,000 but has indexing for some past inflation. Thus, the actual deduction for 2015 will be approximately $22,500.

5 The standard deduction under current law for 2014 for a joint return will be $12,400. The rest of this report assumes a $12,500 amount under current law for 2015, which reflects a modest inflation adjustment from the 2014 amount.

6 The 2014 amount is $3,950. Again, there is the assumption of a modest inflation adjustment.


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