Update Hawaii income tax for Act 35 (2025 IRC conformity) and fix its itemized deduction limit

[MaxGhenis]

Summary

Audits PolicyEngine's Hawaii income tax for taxable years beginning after December 31, 2025 against Act 35, SLH 2026 (H.B. 2329 H.D.1 S.D.1 C.D.1, signed May 26, 2026). Act 35 moves Hawaii's Internal Revenue Code conformity date from December 31, 2024 to December 31, 2025 (HRS 235-2.3(a)), which takes in P.L. 119-21 (OBBBA) except where Hawaii decouples. It also fixes two bugs in Hawaii's overall limitation on itemized deductions (Pease) that predate Act 35 and continue under it.

Sources:

• the enacted bill text, HB2329 CD1;
• DOTAX Announcement 2026-06, pp. 2-3;
• the HD1 testimony (DOTAX's conform/decouple tables, pp. 2-8, and the Tax Foundation of Hawaii analysis from p. 9);
• the 2020, 2021, 2024 and 2025 Form N-11 instructions.

The TY2026 N-11 instructions are not published. https://files.hawaii.gov/tax/forms/2026/n11ins.pdf and .../2026/n11.pdf returned 404 on 2026-10-06. TY2026 behaviour here rests on the Act 35 text, the DOTAX announcement and testimony, and the 2025 worksheets.

Changes

1. Overall limitation on itemized deductions (Pease): two bugs, every year

HRS 235-2.4 keeps IRC section 68 operative with "the thresholds ... operative for federal tax year 2009". Act 35 rewrites it as subsection (b): section 68 "shall be operative in the form that it existed as of December 31, 2024; provided that the thresholds shall be those that were operative for federal tax year 2009" (CD1 p. 18).

The HD1 testimony's Tax Foundation note (p. 9) asked whether to adopt the OBBBA 2/37 rule instead. The CD1 kept Pease. So for 2026 Hawaii still applies 3% of Hawaii AGI over $166,800 ($83,400 separate), capped at 80% of deductions other than medical, investment interest and casualty losses. This is the 2025 N-11 Total Itemized Deductions Worksheet, and it matches the 2009 Schedule A worksheet (line 6: "$166,800 ($83,400) if married filing separately").

Main pinned two federal parameter dates:

• hi_itemized_deductions read parameters("2009-01-01").gov.irs.deductions.itemized.limitation.applicable_amount. Those 2009 values (JOINT and SURVIVING_SPOUSE 250,200, HEAD_OF_HOUSEHOLD 208,500, SEPARATE 125,100) are the 2009 personal exemption phase-out thresholds (2009 Form 1040 instructions, PDF p. 37), not the Pease thresholds. So joint, surviving-spouse and head-of-household filers with Hawaii AGI from $166,800 up to those amounts, and separate filers from $83,400 to $125,100, were never limited. Wrong in every year, including 2026.
• hi_reduced_itemized_deductions returned 0 whenever its own test failed. When medical, investment interest and casualty deductions made up the whole total, worksheet line 4 says "Your deduction is not limited", but PE returned $0 of itemized deductions. Wrong in every year.
• hi_reduced_itemized_deductions read parameters("2017-01-01") for the 80% and 3% rates. The values are right for section 68 as of December 31, 2024, but they borrow pinned federal values.

The fix replaces hi_reduced_itemized_deductions with hi_itemized_deductions_reduction (worksheet lines 2-10). hi_itemized_deductions becomes line 11, total minus the reduction. It adds Hawaii-owned parameters under gov.states.hi.tax.income.deductions.itemized.limitation: agi_rate 0.03, itemized_deduction_rate 0.8, and excluded_deductions. The existing $166,800 / $83,400 threshold.reduction is now used for the gate too; its description said "federal adjusted gross income below this amount", which is corrected. hi_reduced_itemized_deductions is removed. Nothing outside Hawaii's own tests read it.

2. Qualified tips deduction (IRC 224), 2026-2028

Act 35 does not list section 224 as inoperative; it does list 225 (overtime) and 163(h)(4) (car loan interest) (CD1 pp. 7, 21). DOTAX: Hawaii conforms to "IRC section 224, which creates a deduction of up to $25,000 for qualified tips" (Ann. 2026-06 p. 3). Section 63(b) and (d) make it available whether or not the taxpayer itemizes, and section 224(h) ends it after 2028. For TY2025 Hawaii's code is the IRC as of December 31, 2024, so there is no tips deduction.

New hi_tip_income_deduction, gated by gov.states.hi.tax.income.deductions.tip_income.in_effect (2025 false, 2026 true, 2029 false). It is added in hi_deductions on top of whichever of the itemized or standard deduction applies. It reuses the federal qualified-tips pieces: tip_income × tip_income_deduction_occupation_requirement_met, the $25,000 cap, and the federal phase-out parameters and SSN requirement. It also applies 224(f) (no deduction for married filing separately), which the federal variable does not apply (chip filed).

3. Charitable deduction for non-itemizers (IRC 170(p))

Ann. 2026-06 p. 2: Hawaii conforms to "IRC section 170, which reinstates the charitable deduction for individuals who do not itemize". Hawaii also adopted the 2020 version (Act 13, SLH 2020; 2020 N-11 p. 2) and the 2021 version (Act 89, SLH 2021; 2021 N-11 p. 20). hi_deductions now compares itemized deductions with the standard deduction plus charitable_deduction_for_non_itemizers, gated by gov.states.hi.tax.income.deductions.non_itemizer_charitable.in_effect. The federal amount is $1,000/$2,000 from 2026, $300 ($600 joint in 2021), and zero for 2022-2025.

4. Miscellaneous itemized deductions (IRC 67): allowed through 2025, gone from 2026

Before Act 35, HRS 235-2.4(b) made section 67 operative "except that the suspension in section 67(g) shall not be operative". The 2025 N-11 (p. 19, Worksheet A-6 lines 23-29) allows unreimbursed employee expenses, tax preparation fees and similar costs above 2% of Hawaii AGI. Act 35 strikes that exception (CD1 p. 17; Ann. 2026-06 p. 2: Hawaii "will conform to IRC section 67(h), which disallows miscellaneous itemized deductions"). PE never modeled the Hawaii deduction, so 2026 was right only because the deduction was missing, and 2021-2025 was wrong. New hi_misc_deduction uses the federal misc sources (unreimbursed_business_employee_expenses, tax_preparation_fees) less 2% of Hawaii AGI, gated by gov.states.hi.tax.income.deductions.itemized.misc.in_effect (true from 2021, false from 2026). It is subject to the Pease limitation.

5. Charitable deduction limits and the 2026 floor on Hawaii AGI

The N-11 instructions state the section 170(b) limits as shares of Hawaii AGI: "more than 30% of your Hawaii adjusted gross income", and "Hawaii adopted the federal provisions that increases the Hawaii adjusted gross income limitation on cash contributions from 50% to 60%" (2025 N-11 pp. 17-18). Act 35 conforms Hawaii to the section 170(b)(1)(I) 0.5% floor from 2026 (Ann. 2026-06 p. 2: section 170 "imposes a charitable deduction floor"). Hawaii's itemized deductions used the federal charitable_deduction, which measures both against federal AGI. That matters for retirees, because Hawaii excludes pensions and Social Security.

The federal formula moves unchanged into _charitable_deduction_helpers.charitable_deduction_given_contribution_base. charitable_deduction calls it with positive_agi, as before; the federal charitable_deduction.yaml (15 cases) and charitable_deduction_for_non_itemizers.yaml (9) pass. New hi_charitable_deduction calls it with Hawaii AGI floored at zero and replaces charitable_deduction in Hawaii's itemized sources.

Act 35 items checked and left unchanged

Act 35 / DOTAX item	PolicyEngine
165(h)(5) personal casualty losses limited to declared disasters	#9912 (open) models it with ...itemized.casualty_loss.non_disaster_losses_allowed. Not duplicated here, and there is no file overlap.
132(f) bicycle commuting exclusion	No PE input. From 2026 Hawaii matches federal, so no change. The 2018-2025 Hawaii subtraction is unmodeled.
274 entertainment	Business deduction inside net business income inputs; nothing to change.
225 overtime, 163(h)(4) car loan interest, 151(d)(5)(C) senior deduction, 199A	Not in Hawaii taxable income; guard case added (hi_taxable_income.yaml Case 5).
129 dependent care exclusion ($7,500 from 2026)	hi_dependent_care_benefits reads the federal 129 cap, which is right for 2025 ($5,000) and 2026 ($7,500). A separate-filer bug that predates Act 35 is chipped.
Hawaii CDCC (HRS 235-55.6), EITC (235-55.75), food/excise, LIHRTC, alternative capital gains tax	No OBBBA leakage in 2025 or 2026 (audit).
164(b)(6)/(7) SALT cap stays inoperative; 63(c) standard deduction $8,000/$16,000/$12,000 for 2026	Already correct.
165(d) wagering losses (90% from 2026)	Hawaii itemized deductions omit wagering losses entirely, and the federal 90% rule is missing. Blocked on #9637 (gambling winnings not in gross income); chipped.
67(b) educator expenses as an itemized deduction from 2026	Not modeled federally; chipped.
217 moving expenses (Hawaii keeps them), 1202 frozen at 2024, Trump accounts, 127, 108(f)(5)	No PE inputs.

TY2025 conformity date. Hawaii's TY2025 code is the IRC as of December 31, 2024, so OBBBA must not reach Hawaii in 2025. No Hawaii variable took an OBBBA change in TY2025. Federal AGI has no OBBBA-driven change in 2025: the gov.irs.ald list is unchanged, and tips, overtime, senior and car loan interest are below the line. The charitable floor and the non-itemizer amounts start in 2026, and the new tips gate is false for 2025. A traced check confirms it. Hawaii's 2025 tax was traced for a household that touches every income and deduction input above: 601 variables and 56 gov.irs parameters. The only traced federal values that change from 2024 to 2025 are inflation amounts under pre-OBBBA law (excess business loss limit, student loan interest phase-out, 401(k) limits, Social Security wage base, the 151 exemption amount). Write-up and scripts: ~/reviews/us-hub/hi-act35/ty2025_check.md.

Methodology choices (for the reviewer)

• Tips phase-out on Hawaii AGI. Section 224(b)(2) phases out on "modified adjusted gross income". HRS 235-1 defines adjusted gross income "as defined and determined under the Internal Revenue Code, except as otherwise provided in this chapter". HRS 235-2.4 says "federal adjusted gross income" only where it means it (219, 469, 408A, 530, and the 164 tax-deduction limit). DOTAX's own worksheets recompute every other AGI-based limit on Hawaii AGI: medical 7.5%, casualty 10%, the 2% misc floor, Pease, and the student loan interest phase-out. So the Hawaii phase-out uses hi_agi; Indiana's conformity variable instead reuses the federal amount. This matters only above $150,000 ($300,000 joint) and when Hawaii AGI differs from federal AGI. The TY2026 N-11 may settle it.
• Charitable contribution base on Hawaii AGI, for the reasons in section 5.
• 2020 non-itemizer charity. Act 13, SLH 2020 took the $300 off federal AGI for federal non-itemizers. PE applies the federal 2020 amount to Hawaii non-itemizers below the line instead, as in 2021. Only 2020 is affected.

Invariants (property tests: tests/core/test_hi_itemized_deduction_limitation_properties.py)

For every input:

1. hi_itemized_deductions_reduction equals an independent restatement of worksheet lines 1-10 ($166,800 / $83,400, 3%, 80%, section 68(c) exclusions), and hi_itemized_deductions equals line 11.
2. 0 ≤ reduction ≤ min(3% × max(Hawaii AGI − threshold, 0), 80% × non-excluded deductions), so allowed ≥ excluded + 20% × non-excluded.
3. 2025 and 2026 give identical limitation results (Act 35 keeps section 68 as of December 31, 2024).
4. Raising an excluded deduction leaves the reduction unchanged, so allowed deductions rise one for one. Raising any deduction never lowers allowed deductions, and raising Hawaii AGI never lowers the reduction.
5. 0 ≤ hi_tip_income_deduction ≤ min($25,000, qualified tips). The deduction never rises with Hawaii AGI, is 0 for separate filers, and is 0 in 2025 and 2029.

Invariant 1 is a differential test against a hand restatement. The charitable helper is now a single implementation, so the federal and Hawaii deductions cannot drift apart.

Hypothesis, 5 derandomized batches of 20-60 tax units, each one vectorized simulation per year, plus seeded grids. CI cost: the file goes in the Rest "core" group. Measured locally on macOS at load average ~70, so this is not a Linux CI figure: 2.0 s of test time, 18 s for the pytest process including import, and 1.12 GB peak RSS for the file alone.

Tests

Every new or changed YAML file fails on main (verified against upstream/main 9eab717e56 in a separate worktree; output in ~/reviews/us-hub/hi-act35/fails_on_main_all.txt):

File	On main
hi_itemized_deductions.yaml	7 of 13 fail: joint, head of household, surviving spouse and separate filers above the Hawaii threshold get 30,000 instead of 29,004 (29,502 separate); medical-only gets 0 instead of 20,000; 2025 is the same. 6 guard cases pass.
hi_itemized_deductions_reduction.yaml (renamed from hi_reduced_itemized_deductions.yaml)	All 7 fail (new variable). The two cases that expected 0 for "not limited" now expect a 0 reduction, so line 11 equals the total.
hi_deductions.yaml	11 of 14 fail: non-itemizer charity in 2026 (9,000 vs 8,000; 18,000 vs 16,000; 9,000 vs 8,500 when the standard plus charity beats itemizing) and 2021 (2,500 vs 2,200); cases using the new inputs.
hi_tip_income_deduction.yaml, hi_charitable_deduction.yaml, hi_misc_deduction.yaml	All fail (new variables); hi_total_itemized_deductions 2025 with misc: 0 vs 4,500.
hi_taxable_income.yaml	2 of 5 fail: tipped worker (main 30,856 vs 22,856); Pease joint (main 167,712 vs 168,708).

Locked run (~/reviews/us-hub/scripts/heavy_run.sh, at a4e95d6e38; log ~/reviews/us-hub/hi-act35/locked_run_1.log): the Hawaii test folder via test_batched.py --mode per-subdir --workers 1, 518 passed in 3 batches; the 47 non-Hawaii YAML files that mention charitable deductions (list in charity_tests.txt), 8 per process, 287 passed; tests/core/test_itemized_deduction_limitation_properties.py, 8 passed. The new test_hi_itemized_deduction_limitation_properties.py passed 3 of 3 separately.

Impact on example households (main → this branch)

Household	Hawaii deductions	Hawaii income tax
2026 single, $40k wages including $8k qualified tips	8,000 → 16,000	1,325.41 → 785.98
2026 joint, $200k wages, $30k mortgage interest	30,000 → 29,004	10,528.51 → 10,604.21
2026 single, $60k wages, $1.5k cash gifts, standard deduction	8,000 → 9,000	2,756.26 → 2,680.26
2025 single, $80k wages, $6k unreimbursed employee expenses, $10k mortgage interest	14,636.80 → 19,036.80	3,771.86 → 3,437.46
2026 single, 70, $50k wages + $100k Social Security, $20k cash gifts	19,447 → 19,750	1,149.22 → 1,128.62
2025 single, $300k wages, $50k medical expenses	4,400 → 27,500	22,911.80 → 20,638.24

Script: ~/reviews/us-hub/hi-act35/examples.py. No microsimulation was run for this PR.

Not in this PR (follow-up chips filed)

• Hawaii dependent filers: 235-2.4(a)(3) standard deduction limit and own exemption.
• Hawaii CDCC separate-filer 129 cap.
• Federal tips deduction: 224(f) married filing separately, and the per-recipient SSN rule.
• Federal 2009 Pease applicable_amount values.
• Hawaii pre-TCJA mortgage interest cap.
• Act 24 rate references (C.D. 1 → C.D. 2).
• Hawaii wagering losses after Federal gross income omits gambling winnings but still deducts wagering losses; OBBBA 90% wagering loss limit (2026+) not modeled #9637.
• The OBBBA educator expense itemized deduction.

axiom: us-hi/statutes/235-2/4 TheAxiomFoundation/rulespec-us#1521 queued (casualty, HRS 235-2.4(l), renumbered (k) by Act 35); the Pease (235-2.4(b)), 67, 224, 170(p) and 170(b) contribution-base extension for #1521 is drafted at ~/reviews/us-hub/hi-act35/axiom-1521-extension.md, and posting it publicly awaits Max's go (decision d1039).

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