Here’s how rising inflation may lead to higher tax bills

Must read


A customer selects goods at a supermarket in New York, the United States, Aug. 11, 2021.

Wang Ying | Xinhua News Agency | Getty Images

As inflation surges, the IRS has boosted federal income tax brackets for 2022, standard deductions, 401(k) contribution limits and more. But other provisions remain unchanged, leading to higher tax bills over time.

The consumer price index jumped by 6.2% in October compared to the prior year, the biggest hike in over three decades. And while dozens of tax changes will reflect higher costs, fixed provisions may squeeze filers as purchasing power wanes.

“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. “And it’s not just hitting wealthy taxpayers.”

More from Personal Finance:
Inflation pushes income tax brackets higher for 2022
Make these investment moves to beat inflation, experts say
Home prices are now rising much faster than incomes, studies show

For example, couples filing together selling their primary home may exclude up to $500,000 of profit from capital gains taxes ($250,000 for single filers), provided they meet the ownership and use tests.

These amounts haven’t changed since 1997, despite median home sales prices more than doubling over the past 20 years, and property values have outpaced wages over the past decade.

However, the fixed exemptions are by design, according to Leonard Burman, institute fellow at the Urban Institute and co-founder of the Tax Policy Center. 

“I think the intent was for that exemption level to decline in value over time,” he said. “Basically, it’s a way of phasing in a tax increase or at least limiting the revenue costs.”

Basically, it’s a way of phasing in a tax increase or at least limiting the revenue costs.

Leonard Burman

Institute fellow at the Urban Institute and co-founder of the Tax Policy Center

The thresholds for taxes on Social Security benefits have also stayed the same for decades.

Currently, up to 85% may be taxable if adjusted gross income, levy-free interest and one-half of Social Security benefits exceed $34,000 for single filers and $44,000 for married couples filing jointly. 

“I think the intent was to have more Social Security benefits taxable over time,” Burman said. “And it was a way to slow the hemorrhaging of the Social Security trust fund.”

Taxes for higher earners

Another fixed provision is the thresholds for a 3.8% surcharge on investment income put in place by former president Barack Obama.

The levy kicks in when modified adjusted gross income passes $200,000 for single filers and $250,000 for couples, and those floors haven’t adjusted, creating a tax hike for higher earners every year, Harris said. 

And the controversial $10,000 limit on the federal deduction for state and local taxes, known as SALT, hasn’t changed since 2018. However, House Democrats have proposed a bump to $80,000 through 2030 as part of their spending package.

“It really does hammer lots of people depending on what state you live in,” Harris said.

State income taxes

Some filers may also have higher state tax burdens in places without inflation adjustments for tax brackets, the standard deduction or personal exemptions.

While forty-one states and the District of Columbia tax wages, 23 places have at least one major unindexed tax provision, according to a Tax Foundation analysis, and 13 states don’t index any of these components.

These places create an “unlegislated tax increase every year,” the analysis argues, reducing wage growth and return on investment, particularly during times of higher inflation. 

The bottom line

While unchanged provisions may sting certain taxpayers during inflationary periods, it’s difficult to gauge the damage without running a tax projection, Harris said, explaining most people’s returns have “too many other moving parts.”



Source link

- Advertisement -

More articles

LEAVE A REPLY

Please enter your comment!
Please enter your name here

- Advertisement -

Latest article

%d bloggers like this: