Which States Are the Most Tax-Friendly for Retirees?

The less money you pay in taxes, the better, when you're living on a fixed income. And some states are more tax-friendly than others. Three main types of state taxes—income tax, property tax, and sales tax—interact to determine the most tax-friendly states if you're retired or you're about to retire.

States With No Income Tax

Eight states don't impose an income tax on earned income as of 2021: Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming. New Hampshire taxes only dividend and interest income, so you can hold down a side job here without it costing you in taxes. Tennessee also taxed just dividend and interest income through the tax year 2020. It repealed its tax effective January 1, 2021.

States that lack an income tax might seem like a good option, but many collect revenues in other ways. They might have steep property or sales taxes. These can offset the lack of an income tax.

State Income Tax Breaks for Retirees

Most states that have an income tax also allow retirees to exclude some or all of their Social Security benefits and pension incomes from taxation. Thirteen states exempt pension income for qualified retirees as of the tax year 2021:

• Alabama
• Alaska
• Florida
• Illinois
• Mississippi
• Nevada
• New Hampshire
• Pennsylvania
• South Dakota
• Tennessee
• Texas
• Washington
• Wyoming

An additional 24 states exempt or provide a credit for a portion of pension income:

• Alabama
• Arkansas
• Colorado
• Delaware
• Georgia
• Hawaii
• Iowa
• Kentucky
• Louisiana
• Maine
• Maryland
• Michigan
• Missouri
• Montana
• New Jersey
• New Mexico
• New York
• Ohio
• Oklahoma
• Oregon
• South Carolina
• Utah
• Virginia
• Wisconsin

States You Might Want to Avoid

A few states are less kind to retirees. Not only are some of their tax rates high, but they also fully tax pension income, as well as 401(k) and IRA distributions. According to the Tax Foundation, a nonpartisan tax research group in Washington, D.C., these states and their top tax rates as of the 2021 tax year are:

• California: 13.3% on incomes over $1 million ($1,198,024 for married filers of joint returns), but Social Security benefits aren't taxed here
• Minnesota: 9.85% on incomes over $166,040 ($276,200 for married filers of joint returns)
• Vermont: 8.75% on incomes over $204,000 ($248,350 for married filers of joint returns)
• Idaho: 6.925% on incomes over $11,760 ($23,520 for married filers of joint returns), but Social Security benefits that are included on a federal return aren't taxed
• Connecticut: 6.99% on incomes over $500,000 ($1 million for married filers of joint returns)
• Nebraska: 6.84% on income over $32,210 ($64,430 for married filers of joint returns)
• West Virginia: 6.5% on income over $60,000 (for both single filers and married filers of joint returns)
• Rhode Island: 5.99% on income over $150,550 (for both single filers and married filers of joint returns)
• Kansas: 5.7% on income over $30,000 ($60,000 for married filers of joint returns)
• North Carolina: 5.25% on all income, but Social Security benefits aren't taxed
• Massachusetts: 5% on all income, but Social Security benefits included in federal income aren't taxed
• Arizona: 8% on income over $250,000 ($500,000 for married joint filers) but Social Security benefits that are included on a federal return aren't taxed
• Indiana: 3.23% on all income, but Social Security benefits aren't taxed
• North Dakota: 2.9% on income over $440,600 (for single filers and married filers of joint returns)

Property Tax Relief

Property taxes can be a burden for retirees with low incomes and high housing costs. But all 50 states offer some type of property tax relief program.

Forty states provide homestead exemptions that reduce the assessed value of your home, or tax credits that will reduce your tax bill dollar for dollar. Most states also have special exemptions for senior residents over a certain age. They might also have to meet income requirements.

According to Tax-Rates.org, people living in Louisiana, Hawaii, Alabama, Delaware, the District of Columbia, and West Virginia paid the least property taxes compared to their home's value. Nevada's property tax is based on a mere 35% of the fair market value of the property. Most states use 100% of fair market value.

States With the Lowest Sales Taxes

Only four states don't have a sales tax as of 2021: Delaware, Montana, New Hampshire, and Oregon. Alaska comes close. It doesn't impose a state sales tax. But it does allow cities and counties to levy sales taxes at an average rate of 1.76%.

After Alaska, the four states with the lowest combined state and local sales tax rates as of 2021 are:

• Hawaii: 4.44%
• Wyoming: 5.33%
• Wisconsin: 5.43%
• Maine: 5.5%

The five states with the highest combined state and local sales tax rates as of 2021 are:

• Tennessee: 9.55%
• Louisiana: 9.52%
• Arkansas: 9.51%
• Washington: 9.23%
• Alabama: 9.22%

The Verdict

Income taxes might be your first priority if you expect to have a fair bit of income or will continue to work part-time after retirement. Property and sales taxes might be more of a concern if you'll be living on Social Security. These benefits are exempt in many states.

But some states show clear advantages. These include those that have no income tax, those that exempt pensions and Social Security income, and states that also have low property and sales taxes.

These lists don't take climate, access to quality medical care, or cost of living into account. Your financial outlook and what matters to you in a community will determine your unique fit in a retirement destination. Contact your CPA or financial advisor for more personalized guidance on this topic.