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Bracket creep is an economic phenomenon that occurs when people experience an increase in wages, salary, or other income that moves the individual from one tax bracket to the next highest bracket. Generally, bracket creep occurs when an employer issues cost of living or merit raises during the calendar year, resulting in enough additional revenue to move the employee into a different bracket.
Bracket creep is usually concerned with the overall income level of the household. This means that any taxable income earned by the occupants of the household will be factored into the total amount of generated revenue or income for the tax period. Along with wages and salary from a main job, other sources of income can also add to the potential for bracket creep. Second jobs, investment earnings, and interest on savings and other types of bank accounts can all combine to create the incidence of bracket creep.
At one point in time, the practice of granting an annual cost of living adjustment was a common factor in bracket creep. Generally, the cost of living raise would be just enough to push the employee into the next highest tax bracket. However, many countries took steps in the latter part of the 20th century to account for annual changes in the economic conditions. This meant some changes in the level for each bracket, increasing the amount of standard deductions, and also broadening the range of personal exemptions. These changes made it possible to minimize the chance for bracket creep to occur, especially in times when the economy is going through inflation. By controlling the incidence of bracket creep, the average individual does not in effect become penalized for realizing a small increase in salary or income during the year.
While most individuals do hope for additional income from one year to the next, that hope usually involves realizing enough additional funds to offset the difference in taxes, so there is still some disposal income left from the raise after the tax obligations are met. With the changes and adjustments that have become the norm for most tax programs in many nations, bracket creep has a much lower impact on persons who are considered to be in the middle and lower income brackets.