Pre-Tax and Above-the-Line Adjustments

Fill the pre-tax payroll bucket first, every year, before considering anything else on this page. Two kinds of dollars live in it, and they are not equal. Cafeteria-plan items under IRC §125, “Cafeteria plans” and dependent care under IRC §129, “Dependent care assistance programs” come out ahead of income tax and FICA: they save your marginal rate plus 7.65% below the $184,500 wage base and plus 1.45–2.35% above it. Retirement deferrals come out ahead of income tax only. IRC §3121(v) keeps 401(k), 403(b), and 457(b) elective deferrals in Social Security and Medicare wages — they leave Box 1 of the W-2 but stay in Boxes 3 and 5, which is the Box 1 versus Box 3 mismatch noted above — so a deferral saves your marginal rate and nothing else ( IRS retirement-plan FAQ). Employer match and nonelective contributions escape both. Take the above-the-line adjustments you qualify for next, and only then work out whether itemizing beats the standard deduction.

Pre-tax payroll items exempt from FICA as well as income tax are excluded from Boxes 1, 3, and 5 of Form W-2:

• Health Savings Account (HSA) payroll contributions, up to $4,400 for single coverage or $8,750 for family coverage in 2026.
• Flexible Spending Arrangements (FSA) for health care (up to $3,400 in 2026, with a $680 carryover limit) or commuter benefits (up to $340 monthly).
• Dependent care assistance under IRC §129, up to $7,500 in 2026 ($3,750 if married filing separately). OBBBA raised this from $5,000 — the first increase since 1986 — effective for tax years beginning after 2025. Adoption of the higher limit is optional for the employer, so check your plan document before budgeting against it; a plan that never amended is still capped at $5,000.

Pre-tax payroll items exempt from income tax only leave Box 1 but remain FICA wages:

• Retirement plan contributions to 401(k), 403(b), or 457(b) accounts, up to $24,500 in 2026 (plus $8,000 catch-up for age 50+, or $11,250 for ages 60–63). Above the wage base the FICA leakage is Medicare only; below it, a deferred dollar still pays the full 7.65%.

Above-the-line adjustments reduce Adjusted Gross Income (AGI) regardless of whether you itemize or claim the standard deduction. These statutory deductions include:

• Deductible traditional IRA contributions made outside a workplace plan (section “Individual Retirement Arrangements (IRAs)”).
• Student loan interest under IRC §221, “Interest on education loans”, up to $2,500 annually, subject to income phase-outs.
• The educator expense deduction under IRC §62(a)(2)(D), up to $350 in 2026. OBBBA rewrote this one for 2026: eligibility now reaches interscholastic sports administrators and coaches, non-athletic supplies for health and physical education qualify, “in the classroom” broadened to expenses incurred as part of instructional activity, and unreimbursed amounts above the $350 above-the-line cap became deductible as an itemized deduction instead of being lost to IRC §67(h). The mechanism is worth noting: IRC §67(b)(13) carves educator expenses out of the definition of a miscellaneous itemized deduction entirely, and a new IRC §67(g) supplies the definition. It is the only carve-out OBBBA added — the twelve paragraphs already sitting in IRC §67(b), from mortgage and investment interest to charitable contributions, were never in the suspended category to begin with.

Non-itemizer deductions that do not touch AGI. The OBBBA’s headline personal deductions — the temporary $6,000 senior deduction for filers 65 and older (phasing out above $75,000 single / $150,000 joint MAGI), the tips and overtime deductions below, and the car-loan interest deduction — are routinely described as “above-the-line,” and they are not. Each is a deduction taken from AGI in computing taxable income, available whether or not you itemize, but none of them reduces AGI or MAGI. The distinction is load-bearing everywhere this book plans against a MAGI threshold: these deductions lower the tax bill without moving you one dollar away from an IRMAA tier, the NIIT threshold, the ACA subsidy cliff, or their own phase-outs (section “Cliff Choreography”).

Itemized deductions only reduce taxable income if their total exceeds the standard deduction ($16,100 single, $32,200 joint in 2026). Primary itemized deductions include:

• State and Local Taxes (SALT), with the OBBBA raising the cap from $10,000 to $40,000 for 2025 and growing it 1% a year through 2029 — $40,400 in 2026 — before it reverts to $10,000 in 2030. The cap grinds down by 30 cents per dollar of MAGI above $505,000 in 2026, with a $10,000 floor, which creates the sharpest hidden marginal bracket in the individual Code (chapter “Tax Planning and Management”).
• Home mortgage interest under IRC §163(h)(3), “Interest” (section “Tax Deductions of The Mortgage Interest”).
• Charitable contributions to qualified organizations (chapter “Charity”). For 2026, non-itemizers may also claim a $1,000 (single) or $2,000 (joint) deduction under IRC §170(p) — taken from AGI, not above the line, and only for gifts made directly to a public charity, never to a donor-advised fund.
• Medical expenses exceeding 7.5% of AGI under IRC §213.

The TCJA suspended the deduction for unreimbursed employee business expenses, and OBBBA made that suspension permanent under IRC §67(h). Employees must seek reimbursement through an employer-sponsored accountable plan (section “Operational Deductions and Family Employment”). Narrow exceptions survive, by two different mechanisms: Armed Forces reservists, fee-basis government officials, and qualified performing artists deduct above the line under IRC §62(a)(2), while impairment-related work expenses stay itemized and escape only because IRC §67(b)(6) keeps them out of the miscellaneous category — the same trick OBBBA used for educator expenses.

Clean Vehicle Credits Repealed. The clean vehicle credits under IRC §30D (new electric vehicles) and IRC §25E (used electric vehicles), historically worth up to $7,500 and $4,000 respectively, were repealed by the OBBBA effective September 30, 2025. No federal credit is available for vehicles delivered after that date. The only vehicle-related lever left is the car loan interest deduction below — and it is far weaker. A credit is a dollar-for-dollar reduction of tax; a deduction merely reduces taxable income. For a filer in the 22% bracket, the maximum $10,000 interest deduction is worth $2,200 against the $7,500 the repealed credit delivered outright — and for anyone above the $150,000/$250,000 MAGI phase-out below, it is worth exactly nothing.

Car Loan Interest Deduction. Amended by the OBBBA under IRC §163(h)(4), interest paid on a loan for a new, personally owned vehicle is deductible for tax years 2025 through 2028, whether or not you itemize. To qualify:

Deduction Cap

The deduction is limited to a maximum of $10,000 of interest per year.

Vehicle Criteria

The vehicle must be new, weigh less than 14,000 pounds, and have undergone final assembly in the United States. Plant locations can be verified using the NHTSA VIN Decoder tool.

Loan Structure

The loan must be originated after December 31, 2024, and secured by the vehicle. Leases do not qualify.

Reporting

The taxpayer must enter the Vehicle Identification Number (VIN) on Form 1040. Lenders report the interest to you and to the IRS under IRC §6050AA, “Returns relating to applicable passenger vehicle loan interest received in trade or business from individuals” on the new Form 1098-VLI — not the mortgage-interest Form 1098 — once interest for the year reaches $600.

This deduction phases out rapidly. The phase-out begins at a Modified Adjusted Gross Income (MAGI) of $100,000 for single filers and $200,000 for married couples filing jointly, and the $10,000 cap is reduced by $200 for each $1,000 of MAGI above the threshold. Because the cap is $10,000 regardless of filing status, both ranges are the same width:

so the deduction is gone entirely at $150,000 (single) and $250,000 (joint). It is not $300,000 for joint filers, however often you see that printed — $300,000 is the ceiling on the tips and overtime deductions below, and it migrates into the car-loan write-up constantly.

Deductions for Tips and Overtime. Under IRC §224, “Qualified tips” and IRC §225, “Qualified overtime compensation” as enacted by the OBBBA, two temporary deductions are available for tax years 2025 through 2028:

Qualified Tips

Workers in customary tip industries may deduct up to $25,000 of tip income. The deduction phases out for MAGI exceeding $150,000 ($300,000 joint) at a rate of $100 for every $1,000 of excess income.

Qualified Overtime

Employees may deduct the premium portion (the 50% premium of time-and-a-half pay) required by the Fair Labor Standards Act (FLSA), up to $12,500 ($25,000 joint). The same $150,000/$300,000 phase-out applies.

While exempt from federal income tax via this below-the-line deduction — it reduces taxable income, not AGI or MAGI — these earnings remain subject to FICA taxes and are reported on Form W-2.

Non-Qualified Deferred Compensation (NQDC). For corporate executives and highly compensated employees earning well above retirement plan contribution limits, NQDC plans governed by IRC §409A defer tax on far larger sums. NQDC allows you to defer a percentage of your salary, bonus, or commissions before taxes. Unlike qualified retirement plans, there is no statutory limit on NQDC contributions. The deferred funds grow tax-deferred and are paid out on a predetermined schedule (e.g., at retirement or on a specific future date) when you may be in a lower tax bracket. However, NQDC plans carry risk: the deferred compensation is an unsecured promise from the employer and is typically held in a rabbi trust (an irrevocable trust designed to hold deferred compensation assets, which remains subject to the company’s creditors in bankruptcy).