How High Inflation Can Affect Which Tax Bracket You’re In Next Year

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As Americans grapple with soaring prices, experts say it’s likely we’ll see higher-than-usual inflation adjustments from the IRS for 2023 – covering tax brackets, 401(k) plan contribution limits and more.

Embedded in the tax code, these annual IRS changes aim to prevent what’s known as “bracket creep,” when inflation drives up incomes and pushes Americans into higher tax brackets. explained Kyle Pomerleau, senior researcher and federal tax expert at the American Enterprise Institute.

“That’s not necessarily a good thing,” he said, because Americans may not be reflecting an improved quality of life.

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The IRS typically releases inflation adjustments for the following year in October or November, and Pomerleau projects 7% increases on many provisions for 2023.

“This year we will see an above-average adjustment because we have had higher inflation than usual,” he said.

This includes higher tax brackets and a larger standard deduction.

For example, the 24% tax bracket could reach $190,750 in taxable income for co-filers in 2023, up from $178,150 for 2022, Pomerleau estimates.

This year we will see an above average adjustment because we have experienced higher inflation than usual.

Kyle Pomerleau

Senior Researcher at the American Enterprise Institute

There may also be a higher exemption for the so-called alternative minimum tax, a parallel system for high earners, and more generous write-offs and phase-outs for the earned income tax credit for low to moderate income filers and more.

And estate tax exemptions could reach $12.92 million and $25.84 million for sole and joint filers, respectively, from $12.06 million and $24.12 million, predicts Pomerleau. .

However, that’s no guarantee of smaller tax bills for 2023.

“It will depend on the taxpayer,” Pomerleau said, pointing out the different types of income, the amount of inflated earnings and the provisions that may apply.

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Retirement account contribution limits may increase

Higher inflation adjustments could also benefit retirement savers, with higher contribution limits for 401(k) and individual retirement accounts, Pomerleau said.

While it’s too early to predict 401(k) carryover limits, he expects annual IRA limits to rise to $6,500 for savers under age 50, from $6,000. for 2022.

“The jump for the IRA contribution limit is closer to 8% or 9% this year because of how it interacts with the rounding rule,” he said, explaining that it adjusts in increments of $500.

Some tax provisions will still not adjust for inflation

Despite above-average inflation adjustments for many provisions, several remain the same each year, experts say.

“It’s a hodgepodge of things that get left out,” said certified financial planner Larry Harris, director of tax services at Parsec Financial in Asheville, North Carolina.

There is a 3.8% surtax on investment income, which kicks in when modified adjusted gross income exceeds $200,000 for single filers and $250,000 for couples, which has not been adjusted.

And the $3,000 limit for the capital loss deduction has been around for about 30 years. “Inflation is eroding that,” Pomerleau said.

While the $10,000 limit on the federal deduction for state and local taxes, known as SALT, will expire after 2025, the cap set “has a bigger impact in the meantime,” he said. .

However, it’s difficult to gauge exactly how much a provision might affect someone’s tax bill without making a projection for 2023, Harris said.

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