Do you make more than $118,500? If you’re among the 12 million who do, then get ready for a tax hike in 2017.1
After holding steady for a year, the cap on the share of wages subject to Social Security payroll tax (OASDI) is jumping 7.3% this year—the sharpest increase since the ’80s. That means thousands of dollars of additional income is now subject to Social Security tax.
If you make less than $118,500, nothing will change for you. But some high earners could see their tax bills jump by more than $500 (or more than $1,000 for the self-employed).
How does the cap work?
Every worker pays a 6.2% Social Security payroll tax on every dollar of income up to the cap. Every dollar of income above the cap is free from Social Security tax (there is no cap on wages subject to the Medicare portion of FICA taxes).
That cap stayed at $118,500 last year, meaning taxpayers paid payroll taxes on just the first $118,500 of income in both 2015 and 2016. This year, however, the cap will rise to $127,200. That means every dollar you earn up to $127,200 will now be subject to the 6.2% tax. As a result, if you make $127,200 or more, you can expect to pay $539 more in taxes this year than in 2016.
And the bite is even bigger for the self-employed. If you work for a company, you and your employer both pay the 6.2% payroll tax. If you’re independent, you have to pay both portions on your own (though you can deduct the business’ share).
Why is the cap rising so much?
Rises happen automatically according to a formula set by law. Two things have to happen. First, wages have to rise. Second, increases can happen only in years when Social Security benefits get a cost-of-living boost to account for inflation. As it happens, benefits will rise 0.3% in 2017 as inflation picked up over the past year.
So, why is the cap on taxable wages rising so much when benefits are barely changing? In short, we’re making up for lost time. The wage index the Social Security Administration uses for its tax formula has been ticking higher for two years. But weak inflation kept the required cost-of-living increases on hold.
Once rising inflation paved the way for a benefits increase—even the tiny one we’ll see in 2017—the cap on taxable wages was finally allowed to catch up to the rise in wages. In other words, a tiny change in benefits triggered a tax rise reflecting two years’ worth of wage growth.
1 “With the New Year Comes New Changes,” Social Security Administration, 11/28/2016.
What you can do next
- Consult an experienced tax professional to help determine what’s best for you, talk to a Schwab Financial Consultant at your local branch or call us at 800-355-2162 to learn more.