When it comes to choosing a place to live, taxes sometimes influence the decision-making process. And, of course, hearing that a particular state doesn’t have personal income tax seems wonderful — but is it really?
Let's dive into the various aspects of state taxes so you can decide whether states with no income tax are actually better for your finances.
No income tax states
Currently, nine states have no personal income tax: Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming.
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Living in these states allows you to keep more of your hard-earned money. No state personal income tax is deducted from your paycheck, which makes these states attractive to many people.
However, before you pack up and move to one of these states, it’s important to know that they often have to find other ways to compensate for the lost revenue from personal income tax. These costs can affect your budget.
For example, you might face higher sales or property taxes in a state with no income tax.
- Texas, famous for not having an income tax, has some of the highest property tax rates in the United States.
- Similarly, Washington state compensates with a high sales tax rate, which can significantly impact daily expenses for some.
Additionally, some states with no personal income tax introduce other mandatory fees or taxes. As Kiplinger reported, Washington state, which has a high overall tax burden, recently implemented a first-of-its-kind long-term care payroll tax and a controversial capital gains tax.
So, while the idea of no income tax sounds great, it's important to look at the bigger financial picture. For instance, Alaska's high cost of living can offset potential savings from no income tax. Florida and Nevada are famous for their tax-friendly policies, but many residents in those states deal with competitive and expensive housing markets.
Additionally, Texas and Florida may seem financially attractive from an income tax perspective, but they often face challenges in funding essential public services like education and infrastructure.
Data show that Texans have some of the highest property tax bills in the country, but the Lone Star State has struggled with school funding per pupil. This has led to larger class sizes and fewer student resources in some areas.
Similarly, Florida has faced challenges with road maintenance and public transportation.
- These states often rely on higher property and sales taxes to compensate for the lack of income tax revenue.
- That can create an uneven tax burden, disproportionately affecting lower-income residents.
Additionally, when a state doesn’t have revenue from income taxes, it can make it harder to respond to economic downturns.
Benefits of income tax states?
It is important to note that some states with income tax might actually impose a lower overall tax burden on some residents.
For instance, a study by the Institute on Taxation and Economic Policy (ITEP) revealed that the overall tax burden in California for families earning below $145,900 is close to the national average. That may be surprising, given California's reputation as a high-tax state.
- The study found that California's tax burden is lower for the bottom 40% of households than Texas or Florida.
- According to ITEP, the bottom 20% of California's earners pay 11.7% of their income in taxes, compared to 12.8% in Texas and 13.2% in Florida.
Additionally, states like Indiana and Michigan impose income taxes at moderate rates. These states also maintain relatively low sales and property taxes, which can alleviate the overall tax burden for Michiganders and Hoosiers.
Your financial circumstances play a crucial role as well. Various factors, including your income level, whether you own property, spending habits, and retirement plans determine which state's tax structure benefits you the most.
For example, if you are a high earner who doesn’t own property, you may find more advantages in a state without income tax.
Alternatively, if you are a retiree living on a fixed income, a state with income tax but lower property and sales tax could be more beneficial for you. It's also important to consider retirement taxes in your state and compare them with other places.
Best states to live in: Beyond income tax
While taxes are important (state and local taxes are often among the highest taxes people pay), it's important to consider other factors like job opportunities, the overall cost of living, the quality of public services, and climate and lifestyle. Saving money on tax will not mean as much if you are unhappy with most other aspects of your life in a particular state.
So, evaluate your personal financial situation, consider all types of taxes and living costs, and factor in quality of life issues. A holistic approach can help you decide which state is best for you — beyond the numbers on your income tax return.
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