There is more to inflation than just rising prices. It is important to fully understand the consequences that persistent, high inflation can have on your paycheck, retirement plan, and income taxes. This New York Times article below does an excellent job outlining key changes.
Your Paycheck Next Year Will Be Affected by Inflation. Here’s How.
If you get a raise, you may not end up in a higher tax bracket. But more of your income may be subject to Social Security taxes. And you’ll probably pay more for health care.
By Ann Carrns
You already know that inflation is taking a bigger and bigger bite out of your wallet. Now, it’s going to affect the size of your paycheck in 2023.
Even if you get a sizable raise next year, you won’t necessarily take home more money. Many ingredients are baked into the recipe that produces your take-home pay, like deductions for taxes and health care benefits, and your contributions to retirement accounts.
Whether you’ll see more money in your paycheck, less or about the same will depend on your circumstances. Here’s a preview of what is changing next year.
Employers, eager to attract and keep workers, are planning salary increases of 4 percent or more next year, according to several employer surveys. Salary.com found that a quarter of employers plan to give bigger increases of 5 to 7 percent.
“That’s a dramatic change,” said David Turetsky, the company’s vice president of consulting, adding that raises of 2.5 to 3 percent have been typical for years.
Even so, the increases may fall short of the rising rate of inflation, which was 8.2 percent in September. So while your pay may increase, your paycheck won’t stretch as far.
“Pay is still not keeping up with inflation,” Nela Richardson, chief economist at the payroll company ADP, said in a company video.
The government tries to shield taxpayers from inflation by annually adjusting the boundaries of federal tax brackets, the income thresholds that determine where higher tax rates apply. If the boundaries weren’t adjusted, more of your income would move into a higher bracket even if your real income hadn’t kept pace with inflation. Adjustments for next year, which the Internal Revenue Service announced on Tuesday, are significant because inflation has soared. (But note: Some states, including New York, New Jersey and Connecticut, do not adjust their own tax brackets for inflation.)
A married couple with income of $200,000 in both 2022 and 2023 would see its tax bill fall by almost $900, while a couple with income of $500,000 would see a reduction of more than $3,700, said Tim Steffen, director of tax planning at the wealth management firm Baird.
Tax rates range from 10 percent to 37 percent. For next year, the top rate applies to income over $578,125 for single filers, up from $539,900 this year, and $693,750 for couples, up from $647,850 this year.
Here, in descending order, are the next four brackets for 2023, compared with this year:
35 percent: Begins at income over $231,250 for single filers, up from $215,950, and over $462,500 for married couples, up from $431,900.
32 percent: Begins at income over $182,100 for single filers, up from $170,050, and over $364,200 for couples, up from $340,100.
24 percent: Begins at income over $95,375 for single filers, up from $89,075, and at $190,750 for couples, up from $178,150.
22 percent: Begins at incomes over $44,725 for single filers, up from $41,775, and at $89,450 for couples, up from $83,550.
In addition, the standard deduction, which reduces your taxable income without your having to itemize deductions, will rise to $27,700 for married couples and $13,850 for single filers.
The good news for retirees receiving Social Security benefits is that their monthly checks will rise 8.7 percent next year because of inflation. But increases in the payroll taxes that fund Social Security and Medicare, the federal health program for older Americans, could affect the paychecks of higher earners in 2023.
Employees contribute to Social Security via a payroll tax of 6.2 percent of their income, up to a limit. (Employers pay an equal share.) That limit adjusts each year based on increases in average wages. For 2023, the maximum earnings subject to the tax will rise almost 9 percent, to $160,200 from $147,000 this year, so more income will be taxed. The maximum Social Security tax next year will be $9,932, up from $9,114 this year.
The Medicare portion of the payroll tax is 1.45 percent of income; unlike the Social Security portion of the payroll tax, the Medicare portion is not subject to a cap on income. (Again, employers pay an equal share.) But individuals earning more than $200,000 and couples earning over $250,000 have to pay an extra Medicare tax of 0.9 percent on income earned over that threshold. The thresholds for that added Medicare tax are not adjusted for inflation, so more people pay the extra tax each year.
Rising health benefit costs could also offset higher pay, said Jeff Levin-Scherz, population health leader with the benefits consultant WTW (formerly known as Willis Towers Watson). The reasons for the higher costs, he said, include rising labor costs, the expected end of government coverage for Covid care, more severe illness stemming from delayed screenings during the pandemic, rising prescription drug prices and deteriorating mental health.
Employers surveyed by WTW expect health benefit costs to rise at least 6 percent next year, and to continue going up for several years because health care providers typically sign multiyear contracts with health insurers.
“It’s not over after this year,” Dr. Levin-Scherz said.
More than half of Americans get health coverage through an employer. Workers on average pay more than a quarter of the total premium for family health coverage, while employers pay the rest. Employers may shift more of that cost to workers — but probably not all of it, since recruiting and retaining staff remain challenging.
“I’m advising my employer clients to eat the health care costs,” said Allen J. Reynolds, a tax adviser in Sioux City, Iowa. Workers are already struggling to manage costs, he said, including higher mortgage rates, which make it difficult to buy a home: “The employee is getting hit from all different angles.”
Contributions to 401(k)s
The contribution limit for 401(k)s will increase next year to $22,500 from $20,500 this year, the I.R.S. announced on Friday. (Extra contributions for workers 50 and older will also increase, to $7,500 from $6,500 this year.) These contributions are deducted from your paycheck — but they go into accounts to help you fund your retirement, and employers often match them to encourage saving.
Contributions to health spending accounts
Inflation has increased those amounts as well. If you have a flexible health spending account, which employees contribute to pretax to help cover medical costs, you can contribute an extra $200 next year. The limit for 2023 rose to $3,050 from $2,850 this year, the I.R.S. announced this week.
If you have a health savings account, a different type of tax-favored account available with certain high-deductible health insurance plans, you can contribute $3,850 as an individual and $7,750 for family coverage next year. (Extra contributions for people over 55 remain capped at $1,000.)
With so many variables, it makes sense to check your withholdings early next year to make sure they are not too high or too low, especially if you have had a life change, like getting married or having a baby, Mr. Reynolds said. If you overpay, you’ll get a refund at tax time. If you underpay, you may owe a penalty.
The I.R.S. offers an online withholding estimator to help you make the calculations. You can make changes by submitting a revised W-4 form to your employer.
Source: The New York Times, October 20th, 2022