Keeping more of your hard-earned income in your pocket might sound like a scenario with no downsides. And it's not a dream either — there are indeed states in the U.S. with no state income tax, from Alaska to Wyoming.
However, there's more to finding an affordable place to live than simply looking at how much of your money will be gobbled up by state income taxes. Here's a look at the states that don't have income tax as well as the pros and cons to this tax setup.
Which states have no income tax?
The following eight states have no income tax whatsoever:
- South Dakota
Additionally, New Hampshire does not have a tax on earned income — but it does tax income from dividends and interest. However, "the rate is scheduled to phase down by one percentage point per year until the tax is phased out entirely in 2027," explains The Tax Foundation nonprofit. This will bring the total number of income tax-free states up to nine.
Is it better to live in a state with no income tax?
Moving to a state with no income tax might make you think you'll end up flush with funds, but there are both pros and cons.
To start, it is worth acknowledging that there are potential savings involved with skipping out on income tax. "For example, say you live in Massachusetts, which has a flat income tax rate of 5 percent, and your taxable income for the year is $120,000," posits Forbes. "That would translate into a tax bill of $6,000. If you moved to Florida, which has no state income tax, you could avoid that state income tax liability."
You'll also save on capital gains taxes. In income tax-free states, any capital gains are protected from state taxes, meaning you'll only pay those taxes on the federal level. That can lead to further savings on gains realized on investments.
But states that don't levy income tax might "end up relying more heavily on other taxes," such as property or sales taxes, says Nerdwallet. If you're a homeowner, for instance, you might end up swapping out your savings on income tax for steeper property taxes.
Further, taxes are an important source of income for states that can affect the quality of life there. States use income tax to "finance public services such as infrastructure, health care, and education," CNBC points out. "Lower taxpayer dollars likely translates into lower funding for these initiatives." In an illustration of this, GoBankingRates reports that "according to a 2021 analysis by the U.S. Census Bureau, South Dakota and Wyoming — two states with no income tax — spent the least amount on education of all 50 states."
Last but not least, "living in a state with no income tax also means you might not be able to take full advantage of the state and local tax deduction if you itemize on your federal return," Nerdwallet notes.
Does no income tax mean a lower tax burden overall?
Not necessarily. In fact, you might just see a state's lack of revenue from income tax made up with other higher tax rates.
For instance, Tennessee, a state with no income tax, has the second-highest combined tax rate at 9.548 percent, per The Tax Foundation. And it's not just sales tax either: "Washington state has one of the highest tax rates on gasoline in the nation, at 49.4 cents per gallon," CNBC says. And compared to other states, "New Hampshire and Alaska rely the most on property taxes, with tax collections accounting for 67.6 percent and 51.8 percent, respectively, of their revenue."
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What's the best way to figure out the most affordable state to live in?
If affordability is what you're after, and a lack of state income tax doesn't guarantee low taxes overall, then what is the best way to determine the most affordable states?
A a "state's total tax burden, which measures the percent of income paid in state and local taxes, could be a more accurate measure of its affordability than its income tax rate alone," Investopedia suggests.
Beyond taxes, it's also worth considering other factors that will affect overall cost of living — things like the cost of housing, food, health care, and lifestyle-related expenses. "The savings you gain on state taxes might not be worth the extra cost incurred to live comfortably in another state," says Nerdwallet. For instance, while Alaska has ranked among the states with one of the lowest tax burdens, it's also "one of the least affordable states to live in," Investopedia notes.
Additionally, it's important to consider your job, if you're still working, and assess employment opportunities before heading to a new state. A more affordable state could offer fewer job opportunities in your industry, which could make getting a new job more difficult or leave you stuck if you decide to leave your remote job in the future. There's also the reality that pay scales tend to be lower in places with more affordable costs of living.
And also remember that state income taxes are far from the full tax picture — you'll likely still owe federal income taxes if your income exceeds the standard deduction.
Becca Stanek has worked as an editor and writer in the personal finance space since 2017. She has previously served as the managing editor for investing and savings content at LendingTree, an editor at SmartAsset and a staff writer for The Week.
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