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Payroll tax hike prompts spending cuts

May 15, 2013: 9:11 AM ET

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Most Americans plan to cut spending to make up for income lost from the payroll tax hike, according to a New York Federal Reserve study released Wednesday.

The payroll tax cut, which was in effect in 2011 and 2012, reduced the amount withheld from workers' paychecks to 4.2%, down from 6.2%. That put an additional $1,000 a year in the pocket of the average household earning $50,000 a year. The provision was not renewed in January's fiscal cliff deal.

Now that the full tax rate is back in effect, those families will cut back on their annual spending by $720, according to the New York Fed's survey. In an earlier study, the group found that the average household spent about $380 of their tax savings.

Lower-income individuals plan to cut back more sharply on spending, reducing it by 77%, versus 64% for higher-income people. The New York Fed considers lower-income folks to have annual household income of $75,000 or less. Lower-income Americans were more likely to use the extra money from the temporary tax cut to pay down debt than their higher-income peers, who were more likely to spend it.

While it's too early to say how consumers are actually reacting to the tax hike, earlier studies found that they generally carry out what they say they plan to do, the New York Fed said. Therefore, the expiration of the tax cuts is likely to lead to a "substantial reduction in spending, as well as contribute to a slowdown or reversal in the paying down of consumer debt," it believes.

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