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Slide Show | August 2013

10 Least Tax-Friendly States for Retirees

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Some states offer attractive tax benefits to woo retirees. Then there are these ten states that are stingy with retirement tax breaks.

When you're living on a fixed income, every penny counts, which makes these states particularly unwelcoming for retirees. Most of these states tax at least a portion of your Social Security benefits. Some also have higher-than-average income taxes. Others make up for low income and sales taxes with high property taxes. "There's no such thing as a free lunch," says Tom Wetzel, president of the Retirement Living Information Center. Finally, some of these states continue to tax you beyond the grave with estate or inheritance taxes.

SOURCES: State tax departments, CCH and the Tax Foundation.


10 Least Tax-Friendly States for Retirees

#1 Rhode Island

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Morrow Long via Creative Commons

State Income Tax: 3.75% to 5.99%
State Sales Tax: 7%
Estate Tax/Inheritance Tax: Yes/No

The Ocean State is particularly tough on retirees. It's among the minority of states that tax a portion of Social Security benefits. Social Security benefits are taxed to the same extent as they are by the federal government—up to 85%. The state also taxes virtually all other sources of retirement income, including pension income. Rhode Island has dropped its top income tax rate from 9.9% to 5.99%, collapsed the three middle tax rates into a single, lower rate of 4.75%, and kept the low rate at 3.75%.

The Tax Foundation says Rhode Island's real estate taxes, levied by cities and towns, are the fifth-highest in the U.S. Median property tax on a $267,100 median-valued home is $3,618, the Tax Foundation calculates. Homeowners 65 and older who earn $30,000 or less can get a state tax credit of up to $300.

Estates valued at more than $910,725 are subject to Rhode Island's estate tax. The maximum rate is 16%. Assets left to a surviving spouse are exempt.

#1 Rhode Island

#2 Vermont

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State Income Tax: 3.55% to 8.95%
State Sales Tax: 6%
Estate Tax/Inheritance Tax: Yes/No

Prepare to pay lofty taxes if you retire in the Green Mountain State. Vermont taxes most retirement income. Social Security benefits are taxed to the same extent as they are by the federal government—up to 85%.

In addition to the state sales tax, local jurisdictions may add 1%. Food, clothing, prescription and nonprescription drugs are exempt. You'll pay 9% on prepared foods, restaurant meals and lodging, and 10% if you order a glass of wine or beer in a restaurant.

Vermont's property taxes are the eighth-highest in the U.S., according to the Tax Foundation. Median property tax on a $216,300 median-valued home is $3,444. Real estate taxes have two components: school property tax and municipal property tax. Both taxes are billed and collected by the town or city where the real estate is located. A statewide education tax is imposed on all nonresidential and homestead property. There are no property tax breaks specifically for seniors; however, residents with income of less than $99,000 may be eligible for a rebate of their school and municipal property taxes. The maximum adjustment is $8,000.

Vermont taxes estates that exceed $2.75 million. The maximum estate-tax rate is 16%. Assets left to a surviving spouse are exempt.

#2 Vermont

#3 Connecticut

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State Income Tax: 3% to 6.7%
State Sales Tax: 6.35% (7% for certain luxury items)
Estate Tax/Inheritance Tax: Yes/No

The Constitution State is a tax nightmare for many retirees. Its real estate taxes are the second-highest in the nation, according to the Tax Foundation. Half of military retirement pay is excluded from taxes, but there are no exemptions or tax credits for other types of pensions or other retirement income. The state taxes a portion of Social Security benefits for single taxpayers with federal adjusted gross income of more than $50,000 and married taxpayers filing jointly with federal AGI of more than $60,000.

Median property tax on a $291,200 median-valued home is $4,738, according to the Tax Foundation. Property taxes are assessed and collected by individual towns or other taxing districts. Married couples who are 65 or older with income of $39,500 or less are eligible for a property tax credit of up to $1,250.

Connecticut taxes estates valued at $2 million or more at a progressive rate, starting at 7.2%, with a maximum rate of 12%. Assets left to a surviving spouse are exempt.

#3 Connecticut

#4 Minnesota

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Doug Wallick via Creative Commons

State Income Tax: 5.35% to 9.85%
State Sales Tax: 6.875%
Estate Tax/Inheritance Tax: Yes/No

Maybe long winters aren't the only reason seniors leave this state for warmer climes. The North Star State taxes Social Security income to the same extent as the federal government does (up to 85%). Pensions are taxable regardless of whether they're military, government or private pensions. As of 2013, the state added a new top income tax rate of 9.85% on taxable income of more than $150,000 for single filers and more than $250,000 for joint filers.

Food, clothing, and prescription and nonprescription drugs are exempt from the state sales tax. A few cities and counties also add their own sales tax.

Median property tax on a $200,400 median-valued home is $2,098, according to the Tax Foundation. Homeowners of any age may be eligible for a state-paid refund for homeowners whose property taxes are high relative to their incomes. About one-third of homeowners will receive a refund in 2014, averaging $840.

Minnesota taxes estates valued at more than $1 million. Assets left to a surviving spouse are exempt. The maximum tax rate is 16%. On July 1, the state added a gift tax of 10%, with a lifetime credit of $100,000 and an annual exemption amount indexed to inflation (for 2013, it's $14,000 per recipient). The credit protects up to $1 million in lifetime gifts.

#4 Minnesota

#5 Montana

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State Income Tax: 1% to 6.9%
State Sales Tax: None
Estate Tax/Inheritance Tax: No/No

The Treasure State is one of five states that do not impose a general sales tax. That's the good news. The bad news is that it taxes most forms of retirement income. In addition, its top tax rate kicks in on taxable income of more than $16,400. The state allows a pension- and annuity-income exemption of up to $3,830 per person, subject to certain income limitations. Residents 65 and older can exclude up to $1,600 of interest income from state taxes.

While there's no general sales tax, Montana's tourist taxes could hit residents, too. There's a 3% tax on accommodations and campgrounds, and a 4% tax on rental vehicles. Montana allows tourism-dependent local communities to impose a local option sales tax of up to 3%.

Real estate is assessed at 66% of fair market value, after accounting for a homestead exemption available to all homeowners. Median property tax on a $176,300 median-valued home is $1,465, according to the Tax Foundation. Homeowners and renters who are 62 or older are eligible for a refundable income tax credit worth up to $1,000 if they have lived in Montana for nine months, occupied a residence for six months and have a gross household income of less than $45,000.

#5 Montana

#6 Oregon

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State Income Tax: 5% to 9.9%
State Sales Tax: None
Estate Tax/Inheritance Tax: Yes/No

The Beaver State has no sales tax, but its income tax is one of the highest in the U.S. Taxable income of more than $125,000 ($250,000 for married couples filing jointly) is taxed at 9.9%. Although Oregon doesn't tax Social Security benefits, most other retirement income is taxed. However, you can deduct from your Oregon return up to $6,100 of federal income taxes paid, and there is a retirement-income credit for seniors with certain income restrictions.

For property taxes, counties assess home values and set tax rates. Median property tax on a $257,400 median-valued home is $2,241, according to the Tax Foundation. Homeowners 62 or older who have household income of up to $41,500 may defer paying property taxes. Taxes are due when the homeowner sells the property, no longer lives there permanently or dies.

Oregon's estate tax applies to estates valued at more than $1 million. The top rate is 16%. Assets left to a surviving spouse or registered domestic partner are exempt.

#6 Oregon

#7 Nebraska

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State Income Tax: 2.46% to 6.84%
State Sales Tax: 5.5%
Estate Tax/Inheritance Tax: No/Yes

The Cornhusker State offers wide-open spaces, but it doesn't provide any big tax breaks for retirees. Social Security benefits are taxed to the same extent as they are on your federal return. There are no special breaks for military retirees. Income tax rates range from a low of 2.46% to a high of 6.84%, on income of more than $27,000 for single filers and more than $54,000 for married couples. Income tax rates were lowered slightly in 2013, and changes in tax bracket thresholds in 2014 will lower tax bills a little more.

Real estate is assessed at 100% of fair market value, except for agricultural land, which is assessed at 75% of market value. Median property tax on a $123,300 median-valued home is $2,164, according to the Tax Foundation. Seniors over age 65 who earn less than $25,801 ($30,301 for married couples) are eligible for an exemption of up to $40,000 or 100% of the county's average assessed value of single-family residential properties, whichever is greater.

Nebraska's inheritance tax ranges from 1% to 18%, depending on the recipients' relationship to the deceased. Assets inherited by a spouse or charity are exempt.

#7 Nebraska

#8 California

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State Income Tax: 1% to 13.3%
State Sales Tax: 7.5%
Estate Tax/Inheritance Tax: No/No

Living in the Golden State is no day at the beach for retirees. Although Social Security benefits are exempt, all other forms of retirement income are fully taxed. Retirees who take withdrawals from their retirement plans before age 59 1/2 pay a 2.5% penalty on top of the 10% penalty usually imposed by the IRS.

California residents pay the highest income tax rates in the U.S. The state sales tax increased from 7.25% to 7.5% in January. (The temporary rate hike is set to expire in 2016.) Rates are even higher in cities and counties with special taxing districts; with the addition of local taxes, the total can reach 10% in some cities. Food and prescription drugs are exempt.

Property is assessed at 100% of market value, but taxes are capped at 1% of assessed value. Under the homestead program, the first $7,000 of the full value of a homeowner's dwelling is exempt. Median property tax on a $384,200 median-valued home is $2,839, according to the Tax Foundation. There are no property tax breaks for retirees.

#8 California

#9 New Jersey

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Sean Marshall via Creative Commons

State Income Tax: 1.4% to 8.97%
State Sales Tax: 7%
Estate Tax/Inheritance Tax: Yes/Yes

The Garden State's combined state and local tax burden is the second-highest in the nation, and seven of the top ten counties with the highest median real estate taxes are in this state, according to the Tax Foundation. Median property tax on a $348,300 median-valued home is $6,579, according to the Tax Foundation. Seniors 65 and older who have lived in the state for at least ten years and meet certain income limits ($70,000 for 2012) are eligible for reimbursement of increases in their property taxes.

However, New Jersey does offer retirees some tax breaks on income. It doesn't tax Social Security benefits or military retirement pay. Residents 62 or older may exclude up to $15,000 ($20,000 if married filing jointly) of retirement income, including pensions, annuities and IRA withdrawals, if their gross income is $100,000 or less.

New Jersey is one of only a couple states that impose an inheritance and an estate tax. (An estate tax is levied before the estate is distributed; an inheritance tax is paid by the beneficiaries.) In general, close relatives are excluded from the inheritance tax; others face tax rates ranging from 11% to 16% on inheritances of $500 or more. Estates valued at more than $675,000 are subject to estate taxes of up to 16%. Assets that go to a spouse or civil union partner are exempt.

#9 New Jersey

#10 New York

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State Income Tax: 4% to 8.82%
State Sales Tax: 4%
Estate Tax/Inheritance Tax: Yes/No

Although the Empire State offers generous tax exemptions for retirees, the state has some of the highest property taxes in the U.S.

New York doesn't tax Social Security benefits or public pensions. There is also an exemption of up to $20,000 for private pensions, out-of-state government pensions, and distributions from IRAs and Keogh plans.

Food, prescription and nonprescription drugs, greens fees, health club memberships, and most arts and entertainment tickets are exempt from the state sales tax. Local taxing entities impose additional sales taxes ranging from 3% to 4.75%.

Real estate is taxed at the local level. New York has a property tax cap of 2% or the rate of inflation—whichever is lower—on increases in the amount of taxes collected by localities. Median property tax on a $306,000 median-valued home is $3,755, according to the Tax Foundation. Seniors age 65 and older with income of $81,900 or less are eligible to exempt up to $63,300 of the value of their homes from school property taxes.

Estates exceeding $1 million are subject to estate tax, with a top rate of 16%. Assets left to a spouse are exempt.

#10 New York

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