Taxes may be one of the few certainties in life, but when it comes to understanding how they work, it is normal to feel, well, uncertain. On a yearly basis, the IRS adjusts more than 40 tax provisions for inflation. Inflation is the rate at which the average price level of goods and services in an economy over a period of time rises.
Each unit of currency buys fewer goods and services; as a result, inflation reflects a reduction in the purchasing power per unit of money – a loss of real value in the medium of exchange and unit of account within the economy. This is done to prevent what is called “bracket creep”. Bracket creep is usually defined as the process by which inflation pushes wages and salaries into higher tax brackets, leading to fiscal drag.
Causes of Inflation
Inflation is classified into three types:
- Demand-Pull Inflation – when demand for goods/service exceeds production capacity.
- Cost-Push Inflation – when production costs increase prices.
- Built-In Inflation – when prices rise, wages rise too, in order to maintain living costs.
(Establishing a new business? Get your EIN online in 3 easy steps)
What are tax brackets?
A tax bracket refers to a range of incomes subject to a certain income tax rate. Tax brackets result in a progressive tax system, in which taxation progressively increases as an individual’s income grows: Low incomes fall into tax brackets with relatively low-income tax rates, while higher earnings fall into brackets with higher rates.
How do the tax brackets work?
In the U.S., the Internal Revenue Service (IRS) uses a progressive tax system, which means taxpayers will pay the lowest rate of tax on the first level of taxable income in their bracket, a higher rate on the next level and so on so forth. As of recently, there are seven federal tax brackets, each assigned a different rate ranging from 10% to 37%, with the dollar ranges in each varying for single filers, married joint filers (and qualifying widow(ers), married filing, separate filers, and head of household filers, resulting in 28 effective tax brackets. The brackets are adjusted each year for inflation, using the Consumer Price Index.
Earlier this month, the IRS released updates to the tax code for the tax year 2020. Aren’t sure how these changes will impact your future tax bill? Here’s a look at the 2020 tax brackets and what they mean. (Round your income to the nearest dollar).
Tax Brackets for Single Filers:
- 10%: Up to $9,875
- 12%: Income of $9,876 to $40,125
- 22%: Income of $40,126 to $85,525
- 24%: Income of $85,526 to $163,300
- 32%: Income of $163,301 to $207,350
- 35%: Income of $207,351 to $518,400
- 37%: Income over $518,400
Married, filing jointly:
- 10%: Up to $19,750
- 12%: Income of $19,751 to $80,250
- 22%: Income of $80,251 to $171,050
- 24%: Income of $171,051 to $326,600
- 32%: Income of $326,601 to $414,700
- 35%: Income of $414,701 to $622,050
- 37%: Income over $622,050
Married, filing separately:
- 10%: Up to $9,875
- 12%: Income of $9,876 to $40,125
- 22%: Income of $40,126 to $85,525
- 24%: Income of $85,526 to $163,300
- 32%: Income of $163,301 to $207,350
- 35%: Income of $207,351 to $311,025
- 37%: Income over $311,025
Heads of household:
- 10%: Up to $14,100
- 12%: Income of $14,101 to $53,700
- 22%: Income of $53,701 to $85,500
- 24%: Income of $85,501 to $163,300
- 32%: Income of $163,301 to $207,350
- 35%: Income of $207,351 to $518,400
- 37%: Income over $518,400
