Which States Don’t Tax Pensions? A Guide for Retirees

Which States Don’t Tax Pensions? A Guide for Retirees

If you’re planning to retire soon, you might be wondering how your pension income will be taxed. Depending on where you live, you could save a lot of money by moving to a state that doesn’t tax pensions at all.

In this blog post, we’ll explain what pension income is, how it’s taxed by the federal and state governments, and which states don’t tax pensions at all. We’ll also give you some tips on how to choose the best state for your retirement needs.

What is pension income?

Pension income is a type of retirement income that comes from a defined benefit plan. A defined benefit plan is a retirement plan that pays you a fixed amount of money every month for the rest of your life, based on your salary and years of service.

Pension income can come from various sources, such as:

  • Private employers
  • Public employers (federal, state, or local government)
  • Military service
  • Railroad retirement
  • Foreign governments or international organizations

How is pension income taxed by the federal government?

The federal government taxes most pension income as ordinary income, which means it’s taxed at the same rate as your wages, salaries, interest, dividends, and other income. The tax rate depends on your filing status and taxable income.

However, some pension income may be partially or fully tax-exempt by the federal government, such as:

  • Military retirement pay
  • Disability pensions
  • Qualified public safety officer benefits
  • Foreign pensions that are covered by a tax treaty
  • Railroad retirement benefits (Tier 1)

To determine how much of your pension income is taxable by the federal government, you’ll need to fill out Form 1040 or 1040-SR and follow the instructions for lines 4a and 4b.

Which States Don’t Tax Pensions? How is pension income taxed by the state government?

The state government may tax your pension income differently than the federal government. Some states don’t tax any pension income at all, while others tax only a portion of it or have certain exemptions or exclusions based on your age, income, or source of pension.

According to Wolters Kluwer, a tax publishing company, there are 15 states that don’t tax any pension income at all. These are:

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

If you live in one of these states, you won’t have to pay any state income tax on your pension income, regardless of where it comes from or how much it is.

However, these states may tax other types of retirement income, such as Social Security benefits, 401(k) distributions, IRA withdrawals, annuities, or interest and dividends. You’ll need to check the state tax rules for each type of retirement income you receive.

The other 35 states and the District of Columbia do tax some or all of your pension income. However, many of them have certain exemptions or exclusions that can reduce your state tax liability. For example:

  • Some states have a general retirement income exclusion that applies to any source of retirement income up to a certain amount.
  • Some states have a specific pension exclusion that applies only to certain types of pensions up to a certain amount.
  • Some states have an age-based exclusion that applies only to taxpayers who are above a certain age.
  • Some states have an income-based exclusion that applies only to taxpayers who are below a certain income threshold.
  • Some states have a military exemption that applies only to military retirement pay.
  • Some states have a public safety exemption that applies only to pensions from public safety officers.
  • Some states have a reciprocity agreement that applies only to pensions from another state.

To find out how your state taxes your pension income, you’ll need to consult your state tax authority or a tax professional.

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Which state is best for retirees who receive pension income?

There’s no definitive answer to this question, as it depends on many factors besides taxes. For example, you’ll also need to consider:

  • The cost of living in each state
  • The quality of health care and other services in each state
  • The climate and weather in each state
  • The proximity to family and friends in each state
  • The personal preferences and lifestyle choices in each state

However, if taxes are your main concern, you’ll want to compare the overall tax burden in each state, not just the taxes on pension income. That’s because some states may have low or no taxes on pensions but high taxes on other types of income, property, sales, or gas. Conversely, some states may have high taxes on pensions but low taxes on other things.

To get a better idea of how much tax you’ll pay in each state, you can use online tools such as the Retirement Living Information Center’s State Tax Guide or the Kiplinger’s Retiree Tax Map. These tools can help you estimate your total tax bill in each state based on your income sources, deductions, exemptions, and credits.

Conclusion

Pension income is a valuable source of retirement income for many Americans, but it can also be subject to federal and state taxes. Depending on where you live, you could save a lot of money by moving to a state that doesn’t tax pensions at all.

However, taxes are not the only factor to consider when choosing a state for retirement. You’ll also need to weigh the pros and cons of each state in terms of cost of living, quality of life, health care, climate, and personal preferences.

We hope you found this blog post helpful and informative. If you did, please share it with your friends and family who might benefit from it.

FAQs

Q: What is the difference between a pension and a 401(k)?
A: A pension is a type of defined benefit plan that pays you a fixed amount of money every month for the rest of your life, based on your salary and years of service. A 401(k) is a type of defined contribution plan that lets you save and invest money for retirement, with or without employer matching contributions. The amount of money you’ll receive from a 401(k) depends on how much you contribute, how well your investments perform, and how you withdraw your money.

Q: How do I report my pension income on my tax return?
A: You’ll need to report your pension income on Form 1040 or 1040-SR, line 4a (total distributions) and line 4b (taxable amount). You’ll also need to attach Form 1099-R, which shows the amount and source of your pension income. If you received any tax-exempt or partially taxable pension income, you’ll need to fill out Worksheet 1 in Publication 575 to figure out how much of it is taxable.

Q: Can I rollover my pension to an IRA or a 401(k)?
A: It depends on the type and terms of your pension plan. Some pension plans allow you to take a lump-sum distribution when you retire or leave your job, which you can then roll over to an IRA or a 401(k) without paying any taxes. However, some pension plans don’t offer this option or may charge fees or penalties for doing so. You’ll need to check with your plan administrator or a tax professional before making any decisions.

Q: How can I avoid paying taxes on my pension income?
A: There are a few ways to reduce or eliminate your taxes on your pension income, such as:

  • Moving to a state that doesn’t tax pensions at all or has favorable exemptions or exclusions for pension income.
  • Contributing to a Roth IRA or a Roth 401(k), which allow you to withdraw your money tax-free in retirement.
  • Taking advantage of deductions, exemptions, credits, and other tax breaks that lower your taxable income or tax liability.
  • Planning your withdrawals strategically to minimize your tax bracket and avoid tax surcharges.
  • Consulting a tax professional who can help you optimize your tax situation.

Q: How do I find out more about the tax rules for pensions in each state?
A: You can use online tools such as the Retirement Living Information Center’s State Tax Guide or the Kiplinger’s Retiree Tax Map to get an overview of the tax rules for pensions in each state. You can also visit the websites of each state’s tax authority or contact them directly for more details. Alternatively, you can hire a tax professional who specializes in retirement planning and can advise you on the best state for your situation.

Sources:

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