You’ve probably heard about or experienced the effects of inflation – everyday items can cost more, and the monthly inflation numbers make the news. While the increased costs we see on a regular basis can have an impact on our finances, there may be some potential hidden costs to inflation we don’t necessarily see right away.
Not All Tax Thresholds Are Indexed to Inflation
Income tax brackets are indexed for inflation, but what about other tax thresholds? The $3,000 limit on capital loss deductions hasn’t increased since 1978 and isn’t likely to in the near future. Due to inflation over time, this deduction is effectively worth less than it once was. Similarly, the $250,000 starting point for an investment surtax isn’t indexed for inflation. Since capital gains are calculated without any adjustment of the purchase price for cost of living, consider the impact of inflation on your net profit if you hold an asset for decades.
Social Security Benefits
If your combined income as an individual is over $34,000 or over $44,000 as a married couple filing jointly, up to 85% of your Social Security benefit may be taxable. These income thresholds have not increased since they were first instituted in 1984, and there are no current plans to adjust them with inflation. Inflation also affects the value of benefits. Most years, Social Security beneficiaries see a Cost of Living Adjustment (COLA) that accounts for inflation. In 2021 the COLA was 1.3% and the COLA for 2022 may be as high as 6%. However, the Senior Citizens League estimates that the average Social Security benefit has lost a third of its buying power since 2000. This has happened mostly because benefit increases have not kept up with the increasing cost of prescription drugs, food, and housing.
Your Savings Could be Worth Less in the Future
Consumer prices in August rose 5.3% from a year ago, and many are worried about inflation in the long term. When we think about how much everyday items cost when we were kids versus now, we can see the effects of inflation over time: In 1960, a gallon of milk was 31 cents, and today it’s $3.03 on average. Overall, the buying power of $100 in 1960 now has the buying power of $11.24. Consider that the Federal Reserve’s target inflation rate is 2%. After 20 years with a 2% inflation rate, $1,000,000 would only have the buying power of $672,971.
Have you factored inflation into your retirement plan? This could be one of the most important parts of your financial retirement strategy. By working with a financial advisor at Madrona Financial, you can create a plan meant to take you through the rest of your life, no matter what comes your way. Click here to schedule your initial meeting with us.
Content written and prepared by Lone Beacon, LLC.
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