Inflation, which is often referred to as a “hidden tax,” has affected the financial lives of almost everyone in the States. Inflation is used to compensate for changes in the tax brackets of consumer purchasing power. As far as 2022 is concerned, the rate of inflation in the United States is at a forty-year high.
Due to this rise in inflation, you would be paying quite more the amount on many products than before. This would ultimately cause a blow to many people’s budgets and affect their lifestyles in numerous ways.
Fortunately, inflation doesn’t badly impact federal income taxes due to the Inflation Reduction Act, and this is because the IRS makes annual amendments to particular tax provisions.
What is Inflation, and Why is it High?
Inflation results from either an economic crisis or an economy that has remained stagnant for a long time. It causes a rise in the cost or price of many different products and services and causes the devaluation of money.
Inflation has been quite high, especially due to the factors which were a result of the coronavirus pandemic, such as due to issues in supply chains, shortage of production, increased wages, etc.
Impact of Inflation on your Taxes
Inflation has many effects on your taxes.
Federal Income Tax (FIT) Brackets
Luckily, the FIT brackets are adjusted due to inflation every year. This would provide a little break on your taxes despite taxable income remaining the same, as you would not be included in a higher tax bracket.
Avoid Bracket Creep
If the inflation rate continues to stay high even for the next year, many people will be able to escape from “bracket creep.” This occurs when there is no change in a person’s income, but they still end up paying a higher amount of tax.
Different professional, licensed, and state-credentialed services like the CPA tax services help people with their tax preparation, maintain financial records, examine financial statements, organize tax returns, and even help provide audit services to different companies. Such services ensure that you do not fall prey to bracket creep and only pay the right amount of tax on your taxable income.
Standard Deductions (SD)
Inflation also causes adjustments to be made in the standard deductions. These changes might ultimately help lower the burden of tax amount if there’s no claim of itemized deductions by you.
For the year 2022, the Internal Revenue Service raised the SD for single filing and other different filing statuses, such as household filing of a household, married couples who’re jointly filing, etc., by almost 3%. This rate is significantly greater than the increased rate of the standard deduction last year.
Workplace Retirement Account
There are certain limits as to the amount of contribution that can be made to your personal 401(k). However, these limits increase particularly during times of high inflation. What this means for you is that by contributing to your retirement account through work, you would be able to make a good contribution each year. You should also note that by contributing to the retirement account, the amount of taxable income gets further reduced, which helps you save additional money.
Health Savings Account
If you already have a high deductible health plan, a health savings account would help you pay for professional medical expenses and even allow you to grow your retirement savings. Furthermore, due to the inflation rise-up, the tax-deductible amount that a person can contribute to their health savings account would be adjusted on an annual basis.
Child Tax Credit
Inflation also has some impact when it comes to Child Tax Credit. It is important to note that the $2000 Child Tax Credit is not yet adjusted for inflation; however, the refundable credit portion is adjusted based on the risen inflation rates. For the year 2022, the IRS has increased it by $100 to $1,500.
Adoption Credit
For those who want to adopt a child, the IRS has slightly increased the maximum credit for 2022 for adoption expenses from $14,440 to $14,890.
Final Thoughts
Inflation has impacted not only consumer behavior but also income limits, tax deductions, tax credits, tax brackets, etc. There is not much you can do about the inflation rate in the country; however, you must remember to keep a lookout for any IRS adjustments for tax breaks that you typically claim.
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