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How high inflation can affect which tax bracket you are in next year




Jamie Grill | Getty Images

As Americans grapple with high 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.

Built into the tax code, these annual IRS changes aim to prevent so-called “bracket creep,”[ads1]; when inflation increases income and pushes Americans into higher tax brackets, explained Kyle Pomerleau, senior fellow and federal tax expert at the American Enterprise Institute.

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

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Typically, the IRS releases inflation adjustments for the following year in October or November, and Pomerleau predicts 7% increases across many provisions for 2023.

“This year we will see a larger-than-average adjustment because we’ve experienced higher-than-usual inflation,” he said.

This includes higher tax brackets and a larger standard deduction.

For example, the 24% tax bracket could rise to $190,750 of taxable income for joint filers in 2023, up from $178,150 for 2022, Pomerleau estimates.

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

Kyle Pomerleau

Senior Fellow at the American Enterprise Institute

There could also be a higher exemption for so-called alternative minimum tax, a parallel system for higher incomes, and more generous write-offs and cancellations of the earned income deduction for low- to moderate-income earners and more.

And the estate tax exemptions could rise to $12.92 million and $25.84 million for single and joint filers, respectively, up from $12.06 million and $24.12 million, Pomerleau predicts.

However, it is not a guarantee of smaller tax bills for 2023.

“It’s going to depend on the taxpayer,” Pomerleau said, pointing to different types of income, how much the income is inflated and what provisions may apply.

How high inflation can affect which tax bracket you are in next year

The deposit limits on the pension account may increase

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

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

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

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 passes $200,000 for single filers and $250,000 for couples, which has not been adjusted.

And the $3,000 limit on capital loss deductions has been fixed for about 30 years. “Inflation erodes that away,” Pomerleau said.

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

However, it’s hard to gauge exactly how much a single provision could affect someone’s tax bill without running a 2023 projection, Harris said.



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