The Internal Revenue Service made several “inflation adjustments” for tax year 2023. One of them increased income levels in each tax bracket. This and other adjustments may have an impact on year-end tax planning for annuity owners.
Inflation Adjustments Modify 2023 Tax Brackets
The 2023 inflation adjustments left tax rates unchanged but raised income levels in each bracket by about 7%. Tax bracket, or marginal rates, determine the tax imposed on specific income levels. In 2023, there are seven brackets.
The Federal income tax system is progressive, featuring increasing rates in a stair step fashion as income rises until it reaches the top bracket.
According to the Tax Foundation, “the marginal tax rate is the amount of additional tax paid for every additional dollar earned.”
For example, a single worker earning below $11,000 will only be subject to the lowest tax rate. In 2023, that rate is 10%.
However, a single worker earning over $578,125 in 2023 will face the highest tax rate of 37%, which applies to every dollar within this bracket and each lower tax rate.
The table below outlines the seven tax rate brackets and their corresponding income thresholds for the tax year 2023.
2023 Tax Brackets
| Marginal Rate | Married | Single |
| 10% | < $22,000 | < $11,000 |
| 12% | > $22,000 | > $11,000 |
| 22% | > $89,450 | > $44,725 |
| 24% | > $190,750 | > $95,375 |
| 32% | > $364,200 | > $182,100 |
| 35% | > $462,500 | > $231,250 |
| 37% | > $693,750 | > $578,125 |
While the marginal rate represents the tax on an additional dollar earned, the effective rate reflects the average tax percentage on an individual or couple’s total income.
For instance, a married couple earning $700,000 and filing jointly would fall into the 37% (top marginal) tax bracket. However, this rate applies only to income exceeding $693,750.
In this scenario, it would be relevant to just $6,250 of their earnings: $700,000 – $693,750 = $6,250. The same calculation holds as we progress through the income brackets.
The table below illustrates how their income gets taxed in each bracket.
Average Tax Rate Based on Progressive Brackets
| Income in Bracket | Tax Rate | Amount Due |
| $22,000 | 10% | $2,200 |
| $67,450 | 12% | $8,094 |
| $101,300 | 22% | $22,286 |
| $173,450 | 24% | $41,628 |
| $98,300 | 32% | $31,456 |
| $231,250 | 35% | $80,938 |
| $6,250 | 37% | $2,313 |
| Total | Total | |
| $700,000 | $188,914 |
Considering the final taxes due amount, the couple’s effective tax rate stands at 27%: ($188,914 ÷ $700,000) x 100.
These inflation adjustments may be of some relief to annuity owners, as the payments they receive are taxable income.
Tax Bracket Adjustments Affect Retirement Planning
Many financial planners suggest annual reviews of retirement plans. The 2023 inflation adjustments may be an appropriate catalyst to begin annual review and tax planning.
The new tax brackets and changes to retirement plan limits may impact an annuity owners’ retirement accounts.
As part of year-end planning, consider reviewing eligibility for IRA contributions. Generally, only individuals with earned income or their non-working spouses can contribute to IRAs, whether traditional or Roth.
Investors with only passive income, such as rent, dividend and interest, cannot contribute to an IRA. For these investors, annuities may help them achieve the tax deferral offered by retirement accounts.
Workers eligible for IRA contributions should also review the potential deductibility, considering income limits that apply.
The table below outlines the 2023 changes to the deductibility of IRA contributions, specifically for Traditional IRAs. This applies to individuals who are single, the head of their household (HOH), married and filing jointly or married and filing separately. Note that in some cases, separate income limits apply to Roth IRAs.
Income Limits on Traditional IRA Contributions
| Covered by a Retirement Plan | ||
| Filing Status | Modified AGI | Allowable Deduction |
| Single/HOH | $73,000 or less | Full up to limit |
| Single/HOH | Between $73,000 & $83,000 | Partial |
| Single/HOH | $83,000 or higher | None |
| Married Joint Return | $116,000 or less | Full up to limit |
| Married Joint Return | Between $116,000 & $136,000 | Partial |
| Married Joint Return | $136,000 or more | None |
| Married Separate Return | Less than $10,000 | Partial |
| Married Separate Return | $10,000 or more | None |
| Neither Spouse Covered by a Retirement Plan | ||
| Filing Status | Modified AGI | Allowable Deduction |
| Single/HOH | Any amount | Full up to limit |
| Married Joint Return | Any amount | Full up to limit |
| Spouse Covered by a Retirement Plan | ||
| Married Joint Return | $218,000 or less | Full up to limit |
| Married Joint Return | Between $218,000 & $228,000 | Partial |
| Married Joint Return | $228,000 or more | None |
| Married Separate Return | Less than $10,000 | Partial |
| Married Separate Return | $10,000 or more | None |
For 2023, the maximum IRA contribution is $6,500, with a catch-up provision allowing those over 50 to contribute an additional $1,000. There’s no age limit on contributions, enabling workers at or near retirement age to contribute up to $7,500. It’s crucial to note that deductibility doesn’t impact eligibility, allowing individuals with non-deductible IRA contributions based on income to contribute to their Traditional IRAs.
Other 2023 Inflation Adjustments
With a consistent theme of 7%, the year 2023 saw several tax items increase by this percentage. The following list outlines additional adjustments for the year:
Other Adjustments
- Alternative Minimum Tax (AMT) exemption and phase-out levels.
- Earned Income Tax Credit: $6,935 to $7,430.
- Lifetime estate tax exemption: $12,060,000 to $12,920,000
- Annual gift tax exclusion: $16,000 to $17,000.
- Standard deduction for married couples: $25,900 to $27,700.