Your paycheck will get a little smaller as taxes go up
Congress waited until the eleventh hour on New Year's Day, but it finally worked out a deal to prevent us from diving off the dreaded fiscal cliff.
The battle over tax hikes and spending cuts has ended, and unless you earn over $400,000 per year, nothing will change in your federal income tax rates.
Your deductions are still intact, your income tax rate will remain the same and you won't pay more on dividends or capital gains.
But before you breathe a sigh of relief, know that your taxes are still going up.
That's right, if you have earned income you will pay more in taxes and take home less of what you make in 2013.
That's because Congress did not renew the payroll tax break. While it is technically a return to the normal rate, it essentially means that most of us will see a 2% tax increase from 2013 moving forward.
It is expected to impact 160 million American workers — anyone who has earned income from a job or self-employment.
If you're earning $50,000 per year, you'll pay $1,000 more in taxes in 2013. So if you're paid every other week, that's about $38 less every single paycheck.
FICA (Federal Insurance Contributions Act) taxes are taken out of the first $113,700 of ordinary income. The taxes include a 12.4% tax for Social Security funding and another 2.9% for Medicare.
Although the self-employed are required to pay all of their FICA taxes, employees split the tax 50/50 with their employer.
So in ordinary times, you pay half of your Social Security and Medicare tax, equating to 6.2% and 1.45%.
Congress introduced a "payroll tax holiday" in 2011 with the intent of putting more money back in consumers' pockets.
They lowered the Social Security tax to 4.2%, figuring that 2% break would give consumers more spending money to pump into the economy.
The problem is that economists and many in Congress in both parties believe it has had little economic impact.
Low consumer sentiment and economic uncertainty may have led many Americans to bank their tax savings rather than spend it.
That's the good kind of financial sense we preach here at Interest.com, but it's not what lawmakers want to see when they're trying to stimulate the economy.
Any kind of stimulus put in the hands of consumers is designed to get them to spend that money on goods and services.
Those billions of dollars in consumer spending, in turn, hopefully create positive ripple effects throughout the economy.
While it all sounded good on paper in 2011, few politicians or economists support the idea anymore.
Neither President Obama nor House Speaker John Boehner used it as a bargaining chip or included it in the deal.
They say it's especially not worth it considering the tax break was taking away funding from Social Security at a time when it needs it the most. By some estimates, the total could be as much as $150 billion per year.
While no one enjoys paying more taxes, many agree that allowing the tax break to expire is the right thing to do.
Unlike your federal income taxes, which go to pay for things like highways, infrastructure, wars and education, your Social Security taxes are meant to cover you later down the line.
In theory, that money is yours. It's essentially a federally mandated retirement plan with you as the beneficiary.
So, while you're going back to paying that additional 2% every year, a large portion of that money is going to come back to you in your golden years.
This tax increase is not crippling, but you'll likely notice it, especially when you get your first paycheck of 2013 and discover it's about $40 lighter.
For most middle-class earners, it will likely mean they'll have to sacrifice a restaurant dinner or a night out on the town every month.
But for those living paycheck-to-paycheck, it could be a lot more troublesome. For a person earning $25,000 per year, that $500 in extra taxes could sting a lot more.
While many agree it is a necessary move for Social Security funding, some say it could have big, negative macroeconomic impacts.
The Economic Policy Institute says the expiration of the payroll tax break could cause a 0.9% dip in economic growth and the loss of one million jobs.
The Congressional Budget Office also groups the payroll tax cut with extended jobless benefits and says eliminating booth could cost the economy up to 800,000 jobs in 2013.
JPMorgan Chase says it could reduce disposable income by $125 billion, which could be a drag on consumer spending and reduce GDP growth by a half percent in 2013.
All of this could weigh heavily on jobs, the economy and the stock market.
In any case, no matter how you look at it, your first paycheck of the New Year is going to be a bit smaller.