Future assumed income tax brackets are a major consideration when making current decisions, such as the decision to convert a traditional retirement plan to a Roth plan and often, the assumptions we make are too low. When making assumptions about your future tax bracket, there are a few factors that often get overlooked. Below are 4 considerations to keep in mind when attempting to predict your future tax bracket for planning purposes.
The 2017 Tax Cuts and Jobs ACT (TCJA) Sunset Provision
The TCJA reduced income tax brackets. Current law “sunsets” those reductions beginning in 2026, bringing the tax brackets back up to their former levels. The increases to brackets are as follows:
|Current bracket||2026 bracket||Increase|
No one can determine with certainty what future tax law will be and we know it’s not wise to assume we can accurately predict the future. While there is a chance that the provision will be altered before it’s enacted, we believe the best assumption is that the brackets will increase to their pre-TCJA levels, particularly due to the large increase in recent government deficits.
Tax Bracket Compression
Sunset provision aside, tax brackets are slated to be indexed to the inflation rate. Because assumed rates of return on balanced or equity-centric portfolios are higher than inflation, the balance of accounts and taxable income from those accounts increases at a faster rate than the tax brackets. In turn, this puts more of the income into higher tax brackets.
Death of a Spouse
Rarely do both spouses pass away at the same time, or even within the same tax year. It’s important to remember that the surviving spouse will pay taxes at single rates, which are much higher than “married filing jointly” rates. This can become a major factor especially in cases where there is a large age difference between spouses.
Moving to a state with an Income Tax
Here in Washington state, we have no income tax. For Washington residents (or other states without income tax) planning to move to a state that has an income tax, the combined rate will be higher than the current rate.
Required Minimum Distributions (RMDs)
Required Minimum Distributions (RMDs) are calculated as:
Retirement Plan Balance ÷ life expectancy = RMD
As life expectancy decreases each year, the RMD increases, all else staying equal. These annual increases can eventually bump investors with IRA balances into a higher tax bracket.
When making assumptions as to your future tax brackets, be mindful of the factors listed above.
- Your Future Income Tax Brackets May Be Higher Than You Assume - September 19, 2023
- Convert! Oh, Ye of Little Faith: Roth Conversions are Underutilized - May 19, 2023
- The SECURE ACT 2.0: Three Good features - March 22, 2023