Inflation and Taxes (Big IRS Changes to Pay Attention to This Year)

Nov 16, 2022 | Taxes

As a small business owner trying to run your company in the current economic climate, you know all too well that inflation is impacting your life. 

Your expenses are higher because of the materials and services you depend on to create whatever it is you provide. It’s costing more to transport anything anywhere. And your dollar just doesn’t seem to go as far as it did last year.

As we quickly move towards the end of another year, you may not have had time to think about how inflation will affect your business taxes soon. Tax and inflation go hand in hand, and in this post, we’ll show you how so you can be prepared.

inflation reduction act and taxes

Inflation and Taxes

First, we should take a look at what inflation actually is.

Inflation, as defined by the Tax Foundation, is “when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets.” Put another way, inflation is too many dollars chasing too few goods.

In the day-to-day life of most Americans, it looks like this: the money you’re spending doesn’t buy as much as it used to. The amount of groceries (or whatever item you’d like to insert here) that you get for $100 today is significantly smaller than it was just a few months ago.

Inflation has been rightly described as a “hidden tax” since it affects everyone, and you’ll never see it as a line item on any receipt.

As we pointed out in another post this summer on “How Inflation Impacts Your Business (And 7 Things You Can Do About It)”, it’s a situation that can occur for a variety of reasons:

  • Cost-Push – Prices go up because it costs more to produce an item. (For example, when gas is more expensive, it costs more to transport things.)
  • Demand-Pull –  Something everyone wants isn’t readily available. (Lumber during 2020 as a result of COVID-19 shutdowns). 
  • Natural Cost-of-Living – People simply expect things to cost more over time. So they demand higher wages to be able to maintain a certain standard of living which results in companies raising the price of goods and services which results in things costing more…and the cycle repeats.
  • Fiscal Policies – Monetary decisions made by whichever party controls the government at a given time. 

Even though we have experienced all of these factors in significant amounts recently, the last one seems to be having the greatest impact on inflation right now. 

According to FEE (the Foundation for Economic Education), the reason why inflation is at a 12-year high is largely due to the Federal Reserve printing money at a record pace. In 2020 alone, the Fed increased the number of dollars in circulation by 39.2%. 

FRED inflation image

In an attempt to curb inflation, the U.S. government recently passed what is known as the “Inflation Reduction Act”. Here’s a look at what it does (and does not do) and how it will affect your taxes this year. 

Will The Inflation Reduction Act Reduce Inflation?

According to a fact sheet produced by the White House on “How the Inflation Reduction Act Will Help Small Businesses,” this legislation will “reduce costs for small businesses by maintaining lower health care costs, supporting energy-saving investments, and bolstering supply chain resiliency.”

Among other things, the Biden administration says:

  • It extends tax credits for enrolling in healthcare through the Affordable Care Act (ACA) marketplace into 2025. (Many were scheduled to expire next year, and the government estimates that 13 million enrollees will now save around $800 annually.)
  • It expands Medicare benefits to cap insulin and prescription drug prices.
  • It offers incentives for operating your business in a “greener” way: utilizing solar power, making energy-efficient improvements, and using more fuel-efficient vehicles.
  • It has deficit reduction goals that they hope will stabilize costs, thereby allowing business owners to reduce expenses and plan better.

Some economists (such as those at the Heritage Foundation), however, warn of what they call the “deceptive marketing of the Inflation Reduction Act” They say it will have an effect on the economy that is the opposite of what its name implies.

  • Since more than 60% of our energy comes from fossil fuels like coal, oil, and natural gas, the increased taxes on these sources will drive up the costs of everything (since everything we buy first has to be transported to the shelves).
  • 87,000 additional IRS agents will be able to perform more than 1 million additional audits each year (far more than necessary to draw more tax revenue from our nation’s 3,000 billionaires). Instead, they are likely to focus on businesses and middle-class tax payers. As these individuals face more scrutiny, they will spend less in the marketplace…causing it to shrink further.
  • Tax increases to corporations will simply be passed along to consumers in the form of higher prices.
  • The amount of money in circulation won’t change, it will simply change hands from individuals who can spend it on their families and businesses to government entities instead.

Regardless of which camp you fall into in regard to the “Inflation Reduction Act”, there is no denying that it will have an impact on your life.

Inflation Reduction Act and Taxes

The IRS Taxpayer Advocate Service (TAS) has put together a good summary of how the Inflation Reduction Act could affect your taxes when you file in 2023. We recommend taking a look at it and then discussing it with your CPA in order to fully understand how it may affect your specific situation.

Here’s the link to the TAS Tax Tip: What the Inflation Reduction Act Means for You.

IRS Cost of Living Increase 2022

A few specific IRS changes for 2022 will directly affect everyone. They have provided tax inflation adjustments in the form of:

  • Increases in the standard deduction ($800 for married filing jointly, $400 for single filers, $600 for heads of households)
  • No change in the personal exemption from 2021 (it remains at 0)
  • No limitation on itemized deductions
  • Raise of the Earned Income Tax Credit (EITC) from $6,728 to $6,935 for taxpayers with 3 or more children
  • Increase of the limitation for employee salary reductions to $2,850

Full details are available from the IRS here.

In 2024, when we file returns for the tax year 2023, the inflation adjustment is expected to be more than 7%. This is designed to offset the higher costs of living we’re all experiencing. It is also meant to keep taxpayers from facing “bracket creep” as higher incomes (as a result of higher prices) could potentially push people into higher tax brackets.

However, these inflation adjustments don’t put more money in your wallet. They simply help keep you from paying more taxes if your income rises.

irs cost of living increase 2022

Your Guide to Tax and Inflation Questions

No matter what your particular circumstances are, taxes don’t have to be messy or scary. Our team of tax professionals has over 40 years of experience helping small business owners just like you navigate all kinds of situations. Schedule a call today to get started on making your 2022 tax filing a whole lot smoother.

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