Living in a state with no income tax sounds like it would be a great thing, since the cost of living always has to include the overall tax burden of where you want to live. However, there are many factors and types of other taxes to consider in addition to if the state has no income tax.
In this article, I want to present some things you need take a look at, so you can decide whether states with no income tax are actually better for your finances.
Currently, there are nine states that have no personal income tax: Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming. Living in these states technically allows you to keep more of your hard-earned money in your pocket. Having no state personal income tax deducted from your paycheck makes these states attractive to many people.
However, it is important to know that they usually have to find other ways to compensate for the lost revenue from personal income tax, which can affect your budget. For example, you might face higher sales tax or property tax in a state that has no income tax. For instance,
- Texas is famous for not having an income tax, but has some of the highest property tax rates in the United States.
- Likewise, Washington state has a high sales tax rate to compensate for no income tax.
Some states with no personal income tax have other mandatory fees or taxes. For instance, 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.
When looking at your bigger financial picture, there are also factors other than taxes and fees to look at. Alaska's high cost of living can offset potential savings from having no income tax. In Florida or Nevada, famous for their tax-friendly policies, many people have to deal with competitive and expensive housing markets.
Also, while Texas and Florida may seem financially attractive from an income tax perspective, they face problems funding essential public services like education and infrastructure. Data shows that while Texans have some of the highest property tax bills in the country, they have struggled with school funding per pupil. This has led to larger class sizes and fewer student resources in some areas. Likewise, Florida has faced challenges with road maintenance and public transportation. (I can attest to that!)
Are there some benefits to live in personal income tax states?
Perhaps. 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 probably is surprising, since California's has a 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.
- The ITEP states that 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.
Also, 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.
There are various other factors to consider (including your income level, whether you own property, your spending habits, and any retirement plans) to determine which state's tax structure will benefit you the most.
As an example, a high earner who doesn’t own property may find it more advantages in a state without income tax. On the other hand, for a retiree living on a fixed income, a state with income tax but lower property and sales tax could be more beneficial. It's also important to consider retirement taxes in your state and compare them with other places, because some states do not tax retirement income. There are other states that don't tax the retirement income of certain professions such as teachers or first responders.
The Bottom Line
While taxes are important, it is probably more important to consider other factors like job opportunities, the overall cost of living, the quality of public services or schools, the climate and the lifestyle you are looking for. Saving money on your taxes doesn't mean a lot if you're unhappy with the other aspects of your life where you are living.