Inflation has dominated the news in this second half of 2022. In mid-October, the U.S. Social Security Administration announced an 8.7% increase in benefits for cost-of-living adjustment, the highest jump in 40 years. In the Euro area, Eurostat projected a 10% annual inflation in September, 2022, reaching the double-digit mark for the first time. Similar record-setting headlines are reported across the globe.
One can safely predict that total costs of an assignment will increase due to inflation, but can we specifically assume tax costs will also increase? It depends – my favorite answer to many tax questions!
The answer is “Yes” if a country’s tax table and associated rules are not adjusted for inflation. In this scenario, often referred to as bracket creep, any pay increase to the employee intended to keep pace with inflation will bring the employee into a higher tax rate, resulting in increased tax costs.
To avoid bracket creep, countries may specifically enact tax law. For example, Germany is progressing a finance bill to increase tax brackets in 2023 and 2024 to alleviate inflation. Other countries like Canada and the United States provide for annual adjustment within the tax law to counter inflation. In Canada, the 5-tiered Federal tax table for 2023 will be automatically adjusted based on the Consumer Price Index (CPI) for the 12-month period ending September 30, 2022.
Whilst an annual average CPI is a common measure adopted by tax authorities, some countries use other CPI varieties. The U.S., for example, uses the chained CPI for all urban consumers (C-CPI-U). This measure incorporates consumers’ substitution behavior among goods and services when relative prices change. For example, to stay within my grocery budget, I may substitute chicken for beef when beef prices increase. This method of accounting for the substitution effect was introduced in 2018 following the Tax Cuts Job Act and tends to result in an index lower than the previous law (which did not include the substitution effect when indexing for inflation).
Therefore, the answer is “No” – tax costs may not increase (in relative terms) – if a tax authority enacts tax rule changes or has built in annual adjustments for inflation.
The Equus tax team actively monitors for 2023 changes to update the 96 supported Tax Engine countries by following the progress of legislative changes and collecting annual index data, where applicable. We will deliver 2023 changes in the upcoming v.22.6 or v.23.1 releases scheduled for November 23, 2022, and January 26, 2023, respectively. Clients can track the release plan for key countries by following the Equus Tax Engine – Upcoming Tax Updates page in the Help Center.