Accepted wisdom: Tax-averse retirees should
move to Florida or Nevada, which have no state income or estate taxes. But what
if you don’t worship the sun or relish a long-distance move? In recent years
other states, too, have been lavishing tax goodies on retirees, including
affluent ones. With a little research you might discover your own retirement
tax haven is close to home.
State tax laws
discriminate based on age, and that can be a good thing for some taxpayers.
Even notoriously high tax states can be tax havens for retirees. In fact,
Florida and other retiree magnets might not be the tax havens they are promoted
as when the full tax picture is considered. Florida has no income tax, but it
does have high sales and property taxes (at least for some property owners),
and its high homeowner's insurance premiums can be considered a tax for living
in the Sunshine State.
Forbes magazine
recently published a survey of some surprising retiree tax havens. The details
of the tax laws in many states can be eye-opening.
Michigan, for
example, exempts $81,840 of private retirement income per married couple plus
Social Security benefits from its income tax. That makes the state an
overlooked tax haven for retirees.
Illinois,
Mississippi, and Pennsylvania exempt 100% of private and public retirement
income (including IRA distributions). These states impose neither a ceiling nor
a minimum age on their exemptions. Alabama and Hawaii have unlimited exemptions
for payouts from traditional pension plans but do not provide any exemption for
IRA distributions.
Only 15 states
tax Social Security benefits to some extent; the rest exempt it.
A number of
states allow retirees exemptions for income up to a specific amount. Colorado
taxes Social Security but exempts the first $48,000 of income for those 65 and
older and $40,000 for those 55 to 64. Georgia exempts the first $60,000 of
income, including investment income, for those 62 and older.
Because of these
exemptions and other details, it pays to look at the details of a state's tax
law before concluding whether or not it is a retiree tax haven. New Hampshire
has no sales tax and is commonly regarded as a tax haven. But it takes
investment income and its real estate taxes are sky high. Tennessee does not
have a broad income tax but taxes investment income. That means in many cases
its retirees will pay higher state taxes than those drawing pay checks.
If you are
considering a move in retirement or want to know the full cost of the
retirement location you chose, examine these five key factors.
Social Security is your base retirement income. Determine if your state is one of the few
that still taxes all or part of the benefits. Seven states piggyback on the
federal tax code and tax up to 85% of benefits. Eight states tax lesser
amounts. The others exempt the benefits.
Pension and retirement account income might be exempt in full or in part. As we
discussed a few states fully exempt retirement income. Many have a partial
exemption, but you have to read the details. It is common for a state to exempt
only traditional defined benefit pension payouts, not IRA and 401(k)
distributions. Some give government pensions a bigger break than private
pensions. A minority of states gives IRA distributions or other nontraditional
retirement savings breaks similar to those for other pensions.
Note that if you
move in retirement your old state of residence no longer can try to tax your
pension or IRA distributions in retirement. But non-qualified deferred
compensation might be reachable by the old state.
Take a look at
how other income is taxed and at any miscellaneous tax breaks. Some
states give seniors special exemptions for investment income or allow
deductions for various expenses, including contributions to 529 plans for the
grand-kids. Others effectively impose penalties on retirees, for example by
taxing capital gains and investment income at higher rates than other income.
Real estate and sales taxes can be significant expenses. Some states and localities reduce or defer
property taxes for seniors. Others finance most of their government spending
through these taxes, and they are high. In some states, taxes on a home can
jump significantly for a new owner.
Estate and inheritance taxes are a factor in only 23 states now. The
taxes can be higher than federal counterparts in many of these states, so study
the effects carefully before moving.
To find low-tax
places to retire, U.S. News & World Report cranked up its Best Places to
Retire search tool. U.S. News sifted through more than 2,000 U.S. places to
find locales that have relatively low taxes but also offer amenities important
to retirees, such as a reasonable cost of living and fine recreational and
cultural choices. Many of the low-tax retirement havens have no state sales
tax, such as Billings, Mont., or no state income tax, such as Sioux Falls, S.D.
There's nothing like zero tax to make your retirement dollar go further.
One low-tax
retirement gem, Stafford, Texas, a suburb of Houston, eliminated its property
tax in 1995. Texas is also one of seven states with no income tax. (The others
are Alaska, Florida, Nevada, South Dakota, Washington and Wyoming.) Stafford
also has the lowest sales tax in the Houston area.
Seniors looking
to maximize their fixed income may also want to give Manchester, N.H., a look. There
is no sales tax or traditional income tax, but New Hampshire does levy a 5% tax
on interest and dividend income of more than $2,400 annually ($4,800 for
couples). Residents ages 65 and older pay tax only on amounts of more than
$3,600, and that's outside your retirement accounts. Withdrawals from
retirement accounts are not taxed in New Hampshire.
Many retirement
locales offer tax perks specifically for seniors. Nashville-Davidson County,
Tenn., for example, was the first jurisdiction in the state to allow homeowners
who are 65 or older and who earn less than a certain income level — $35,390 in
2007 — to freeze the amount of property tax due on their primary residence in
the year they qualify, even if tax rates increase later. The frozen dollar amount
will rise if the owner sells or makes improvements to the house. If the house
drops in value and the current taxes become lower than the frozen amount,
homeowners pay the lower amount. And like New Hampshire, Tennessee also doesn't
tax earned income, just dividends and interest.
Low-tax towns
don't have to be dull. Doral, Fla., is home to the Doral Golf Resort & Spa,
which hosts a PGA tournament every year. And Henderson, Nev., Las Vegas' less
glittery cousin, is only a short drive from the Strip, Hoover Dam and Lake
Mead. Businesses often flock to tax-friendly cities. And thriving local
economies are sure to help retirees find second careers and start small
businesses. The business-friendly tax structure of Spokane, Wash., is key to
attracting prime technology jobs to the area. After work, retirees can stroll
along the Spokane River, which runs through the center of town, or hike in the
nearby mountains.
Some cities, like
Cheyenne, Wyo., try to slash their budgets rather than increase taxes. In
October, Cheyenne Mayor Jack Spiker announced a hiring freeze on nonessential
personnel, a reduction of out-of-town travel and a review of equipment
expenditures. "Just like taxpayers, the city needs to tighten its
financial belt during these times of economic uncertainty," he says. By
leaving vacant positions open until the end of the year, the city estimates it
will save $3,160 a month per entry-level employee and $5,050 a month for each
vacant mid-level position.
Perhaps the most
tax-friendly state for retirees is Alaska. The largest state in the union is
the only one without any kind of income or sales tax. The city of Juneau levies
a 5% sales tax, but people 65 and older who have lived in the city for at least
30 days and plan to remain indefinitely in the state can get a Senior Sales Tax
Exemption Card for a $20 application fee. Those over 65 may also be eligible
for a senior-citizen property tax exemption on the first $150,000 of assessed
value. All Alaska residents with at least one year in the state also receive
annual Alaska Permanent Fund dividends. The payout was an unusually high $3,269
in 2008, but even more typical dividends have been nothing to scoff at, ranging
from $827 to $1,964 over the past two decades. This dividend may be taxed as
income on federal tax returns.
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