LOCATION MATTERS WHEN CHOOSING A RETIREMENT HOME

Retirees have many options when choosing where to live. While climate, proximity to family, and the cost of housing will likely factor into the decision about where to retire, prospective retirees should also take into account the amount of taxes they will owe in the state and town where they have their primary residence.

While not having to pay state income taxes may sound like a good deal, individuals who are thinking about relocating to states with low or no individual income taxes should keep in mind that these states usually collect other types of taxes, including property taxes, sales taxes, excise taxes, or taxes on investment income. Thus, in addition to looking at the income tax rate of their prospective destination, retirees should also factor in state taxes on pension and Social Security income, as well as state estate and inheritance taxes, state and local property taxes, and state and local taxes and fees on goods and services.

A 2011 study on the taxation of retirees in different states by accounting services provider, CCH, noted that seven states did not tax individual income, including Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming. Meanwhile, New Hampshire and Tennessee impose income taxes only on dividends and interest, and a number of other states have relatively low income tax rates, such as Arizona, New Mexico, and Pennsylvania.

In addition, while some states provide exemptions on all pension income or on all Social Security income, others have only partial exemptions, and still others tax all retirement income. According to the CCH analysis, Arizona, California, Minnesota, and Wisconsin are among the states that generally tax pension income. Along with the states that have no individual income tax, Pennsylvania and Mississippi fully exempt retirement income, and a number of other states offer partial exemptions, including Arkansas, Colorado, Georgia, and New York. Age restrictions may apply to these exemptions. However, some states specifically exempt U.S. military, Federal civil service, or state or local civil service pensions from income tax. 

Although the majority of states tax pension benefits, the study found that only 14 states levy taxes on Social Security income, including Colorado, Connecticut, Kansas, Minnesota, and New Jersey. These states either tax Social Security income to the same extent as the Federal government, or they offer exemptions for taxpayers with lower adjusted gross incomes (AGIs). In addition, some states exclude portions of Social Security income from taxation based on the age of the taxpayer. 

Property taxes and sales and use taxes vary widely depending on the state or locality, and can change substantially over time, especially as recession-hit states and towns raise taxes in an effort to fill holes in their budgets. All states except Alaska, Delaware, Montana, New Hampshire, and Oregon collect sales taxes. To complicate matters, state and local taxes may be levied not just on consumer goods, but on specific services, including landscaping, tax preparation and other professional services, medical care, and even personal services, such as haircuts and beauty treatments. A number of states exempt certain categories of food, drugs, and clothing from sales tax, but not others. According to an analysis of 2011 state tax rates by Vertex, Inc., Indiana, Mississippi, New Jersey, Rhode Island, and Tennessee had the highest sales tax rates at 7%, followed by Minnesota with a sales tax rate of 6.88%. Gas and other fuel taxes, as well as cigarette and alcohol taxes, can also vary widely, so retirees should factor in the amount of driving they expect to do, as well as their lifestyle, when choosing a retirement home.

Although property taxes can make up a substantial portion of a retiree’s overall tax bill, many states and local jurisdictions offer breaks on property taxes to homeowners over the age of 65. States offer various forms of property tax relief to senior homeowners, such as “circuit breakers” that put a cap on the percentage of a taxpayer’s income that must be paid in property taxes, and programs that lock in the assessed value of the property after the owner reaches a certain age, or that allow elderly homeowners to defer taxes until they move or die. Because property taxes can be volatile, particularly in areas with fluctuating home prices, retirees should examine carefully the development of property taxes over time, and the types of property tax relief available, in the area where they plan to settle.

For higher-income individuals, state estate taxes may also play a role in their choice of residence. A number of states levy estate taxes on top of the Federal estate tax, and several states also have an additional inheritance tax, e.g., New Jersey and Maryland have both estate and inheritance taxes. Retirees should also bear in mind that, in many states, these taxes are assessed on much smaller estates than those subject to taxation under Federal law.