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As Americans grapple with rising 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.
Integrated into the tax code, these annual IRS changes are aimed at preventing what is known as “bracket creep” when inflation boosts incomes and pushes Americans into higher tax brackets, said Kyle Pomerleau, senior fellow and federal tax expert at the American Enterprise Institute.
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“That’s not necessarily a good thing,” he said, as Americans’ higher incomes may not reflect an improved quality of life.
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Typically in October or November, the IRS releases inflation adjustments for the following year, and Pomerleau forecasts a 7% increase for many provisions in 2023.
“This year we will see above-average adjustment because we have seen above-average inflation,” he said.
These include higher tax brackets and a larger standard deduction.
For example, the tax bracket could increase from 24% in 2023 to $190,750 in taxable income for joint claimants, up from $178,150 in 2022, Pomerleau estimates.
There may also be a higher exemption from the so-called alternative minimum tax, a parallel system for higher earners, and more generous write-offs and phased income tax credit suspensions for low- to middle-income applicants and more.
And estate tax exemptions could increase to $12.92 million and $25.84 million for individual and joint declarants, from $12.06 million and $24.12 million, Pomerleau predicts.
That’s no guarantee of smaller tax bills for 2023, though.
“It will depend on the taxpayer,” Pomerleau said, pointing to the different types of income, how much revenue has been inflated and what regulations might apply.
The contribution limits for the retirement account may increase
Higher inflation adjustments could also benefit retiree savers, with higher contribution limits for 401(k) and individual retirement accounts, Pomerleau said.
While it’s too early to predict 401(k) deferral caps, he expects annual IRA limits for savers under 50 to rise to $6,500, up from $6,000 in 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 will be adjusted in $500 increments.
Some tax rules are still not adjusting to inflation
Despite above-average inflation adjustments in many provisions, some 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 at Parsec Financial in Asheville, North Carolina.
There is a 3.8% surcharge on investment income that kicks in when modified adjusted gross income exceeds $200,000 for single parents and $250,000 for couples, which has not been adjusted.
And the $3,000 cap on capital loss deductions has been set for about 30 years. “Inflation kills that,” Pomerleau said.
While the $10,000 limit on the federal withholding 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 estimate how much of an impact a single provision may have on an individual’s tax bill without providing a 2023 projection, Harris said.