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5 ways inflation could affect your paycheck next year

Many Americans are expecting wage gains to offset the most inflation in 40 years, but there are a number of factors that could affect your take-home pay in 2023. And because inflation is rising so rapidly, the IRS and other agencies are changing many rules for increasing prices.

For example, the tax agency said on Tuesday It’s raising its 2023 tax bracket Up to 7% due to inflation, a move designed to avoid “bracket creep”—when people are pushed into higher tax rates due to cost-of-life wage adjustments even though their standard of living hasn’t changed. The IRS is also increasing the standard deduction by the same percentage, which will benefit most taxpayers who use this tax break.

Tim Stephen, director of tax planning with Baird, said in an email, “Inflation adjustments in tax brackets mean that it will be harder for taxpayers to hit those higher brackets, and so will be taxed more income at lower rates next year.” ”

The interplay of these changes is complex, but the result is that low- and middle-income taxpayers may be able to deduct their taxes. The outlook for high-income workers is more complicated because of the inflation-adjusted increase in the Social Security taxes threshold.

Below are five inflation-related changes that could affect your paycheck next year.

An Annual Increase – Good But Maybe Not Enough

According to a recent survey by Salary.com, for 2023, employers are planning to offer their employees an annual increase of 4%. This is roughly in line with the average pay bump employees received in 2022.

The problem is that this year inflation is running at almost twice that rate with prices rising 8.2% A year ago in September. Federal Reserve economists expect inflation to subside later this year and into 2023, although the central bank was criticized last year for a sharp rise in prices.Evanescent.,

If the Fed is correct in predicting that inflation will fall to 2.8% next year, it will restore some purchasing power to consumers in 2023. However, so far inflation remains stubborn.

more generous tax bracket

As noted above, the IRS is increasing its taxable income limits for its seven tax brackets, ranging from 10% to a top rate of 37%. The higher limit may result in tax savings for some people, with Stephan of Baird estimating that a married couple earning $200,000 in both 2022 and 2023 could save $900 in taxes the following year.

You can find new tax brackets Here,

Higher Retirement Contribution Limit

The IRS said on Friday that it is raising the contribution limit by 2023 A record $2,000 due to inflation for a 401(k) plan, which will allow workers to save more money in 2023.

The agency said individuals will be able to save up to $22,500 in their 401(k) next year, an increase of about 10% from the current year’s limit of $20,500. The new limit also applies to other types of defined contribution plans, including 403(b), most 457 plans, and the federal government’s thrift savings plan.

This is the largest inflation adjustment since 401(k) plans began indexing for inflation in 2007. Typically, the IRS has either raised the contribution limit to $500 per year or kept it at the same level since the plans began increasing costs. 15 years ago.

The IRS said the contribution limit for IRAs will increase to $6,500 next year, an 8.3% increase from the 2022 $6,000 limit.

However, the catch-up contribution for people over age 50 will remain at $1,000, as this rule is not subject to annual adjustments for inflation, the agency said.

raising the social security tax limit

The Social Security Administration taxes wages to fund the program, but it caps the amount of personal income that can be taxed within a calendar year. This range changes every year to align with the National Average Wage Index.

Due to inflation, the taxable maximum will increase to $160,200, an increase of approximately 9% from the current limit of $147,000. That means higher earners will pay a Social Security tax of 6.2% on that additional $13,200 of income next year.

“The increase in the Social Security pay base would work against taxpayers, however, their higher wages would be subject to a 6.2% tax,” Stephen said. “For someone whose income exceeds that limit next year, it will feel like a tax increase of over $800.”

setting aside more pre-tax dollars for health care

Workers who have access to flexible spending accounts and health savings accounts can set aside more pre-tax dollars Due to inflation adjustments next year.

In 2023, employees can withdraw as much as $3,050 in an FSA, a an increase of about 7% From the limit of $2,850 for the current tax year. Meanwhile, single workers who want to fund an HSA can save up to $3,850 next year, a 5.5% increase from 2022, while families can save up to $7,750 by 6.2%.

This can give you more tax savings, although the money you set aside must be used for health care expenses.

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