Bracket Creep for Dummies

Bracket creep is a term that refers to a situation where a person's income increases over time, pushing them into a higher tax bracket. To understand this concept better, let's break it down into simpler terms.

Imagine you have a piggy bank where you save your allowance every week. Now, let's say that the amount of allowance you receive increases as you get older, reflecting your growth and maturity. As your savings grow, you start filling up your piggy bank.

So, in the context of taxes, think of your piggy bank as the tax brackets. Each bracket represents a different range of income, and the piggy bank fills up as your income increases. The higher the bracket, the more you need to pay in taxes.

Now, here's where the idea of bracket creep comes in. Imagine that your allowance suddenly increases by a big amount. This means that you'll need a bigger piggy bank to hold all the money. In terms of taxes, if your income rises due to a salary increase, bonus, or any other reason, you might find yourself in a higher tax bracket than before. This can happen even if your raise doesn't seem that significant.

Let's say you start in the lowest tax bracket, which is the smallest piggy bank, and you fill it up with savings. But as you grow older and earn more money, you might find that you're now filling up a bigger piggy bank, representing a higher tax bracket. This means that you have to pay a higher percentage of your income in taxes.

Bracket creep happens because tax brackets are usually set based on fixed income ranges. They aren't adjusted regularly to account for inflation or changes in the cost of living. As prices rise over time, even if your income doesn't increase in real terms, you might end up earning more but having less purchasing power. This can feel frustrating, as it seems like you're getting pushed into a higher tax bracket just because of the increasing prices of goods and services.

In summary, bracket creep refers to the situation where a person's income gradually moves them into a higher tax bracket, even if their real income gains are not significant. It can be compared to filling up a piggy bank that represents different tax brackets, where as your income grows, you have to put more money into a bigger piggy bank, paying a higher percentage of your income in taxes. Bracket creep can be seen as a consequence of taxes not adjusting to keep up with inflation or changes in the cost of living. So, it's important to be aware of how bracket creep can impact your taxes and plan accordingly.